Restructuring Debt
Scott Wang
September 20, 2014
Part A – Characteristics and Reporting Requirements for Long-Term Debt
I have been tasked with providing a comparison of the various types of long-term liabilities and providing the reporting requirements for each. This comparison will show the differences between Bonds Payable, Notes Payable, Mortgage Payable and Capital Leases. It will be followed by an example of a journal entry showing the settlement of the Notes Payable by giving up land.
Characteristics of Long-Term Liabilities
Bonds Payable Notes Payable Mortgage Payable Capital Leases
~ have a maturity date and carry an interest rate. ~ can be short-term debt if the note is expected to be paid back within one year or one operating cycle – whichever is longer. ~ are similar to bonds in that a mortgage payable has a fixed maturity date and carry a stated or implicit interest rate. ~ For a lease to be considered a capital lease, it must be non-cancellable.
~ Several different types of bonds are used to attract different types of investors and creditors. ~ Notes can be issued at face value or not issued as face value. ~ are used more by individuals, sole proprietors and partnerships than by corporations. ~ Capital leases must meet one or more of the following criteria:
1) Transfers ownership of the property to the lessee.
2) Contains a bargain purchase option.
3) Term is equal to 75% or more of the economic life of the leased property.
4) The present value of the minimum lease payments are greater than or equal to 90% of the fair value of the leased property.
~ Bond types: 1) secured and unsecured bonds 2) term, social and callable bonds 3) convertible, commodity-backed and deep-discounted bonds 4) registered and bearer (coupon) bonds and 5) income and revenue bonds. ~ Non-face value notes include zero-interest bearing notes, interest bearing notes, and special situations such as notes issued for property, goods and services. ~ Borrowers receive cash for the face amount of the mortgage note (making it a true liability) unless the issuer adds points to the agreement which raises the effective interest rate by 1% of the face value per point. Reporting Requirements
Bonds Payable, Notes Payable and Mortgage Payable are valued at the present value of its future interest and principle cash flows and amortize a discount or premium over the life of the bond.
For bonds, the interest rate is written in the bond indenture and is the stated interest rate. The discount or premium amount is the difference between the face value of the bond and the present value of the bond.
For notes payable, if the face amount of the note does not reasonable represent the present value, the company should evaluate their arrangement to make sure the exchange and subsequent interest are recorded properly. Notes Payable should be reported as a current liability unless current assets are being used to retire the note.
For mortgage payable, the journal entry should be a debit to cash and a credit to Mortgage Note Payable and should provide a brief disclosure of the property pledged in the notes of the financial statements.
For notes payable and mortgage payable, if a company plans to refinance, convert or retire the note, it should be reported as noncurrent with a note