Note business accounting question

8 Replies

First year in note investing and looking forward to end of year accounting. I trying to find a CPA, preferably, in Gainesville, FL area and trying to have some screening questions to ask them.

Background: l purchase a note for 50% of UPB and a payment is made.

Question: Is the principal that is collected 100% principal repayment, or, is it 50% principal repayment and 50% capital gain?

When you purchase the note, it is accounted for as follows:

Note Receivable - debit $300.00

Unrecognized Gain (Discount) on Note Receivable - credit - $150.00

Cash - credit - $150.00

Then when the payments comes in, you record it as follows:

Cash - debit - $20.00

Interest Income - credit - $8.00

Unrecognized Gain (Discount) on Note Receivable - debit - $6.00

Recognized Gain on Note Receivable - credit - $6.00

Note Receivable - credit - $6.00

This assumes a note purchased for 50% of face value.  Different discount amounts recorded differently, of course.

The gain and the note payoff are recognized a little at a time as payments come in, in their distributive proportions.

@Basit Siddiqi was kind enough to let me know I had an error in my Payment Received journal entry and that my debits and credits don't equal.  How Embarrassing!

The Note Receivable should be a credit of $12.00, not $6.00

Thanks for finding that and asking me to correct it!

@Linda Weygant is mistaken. Treatment of discounted notes is very different from installment sale - which is what Linda described. 

For performing notes purchased at discount, the "market discount" treatment applies - see Sec. 1276/1278. The entire principal portion is recognized as interest income until the note discount is exhausted. Only then it starts going towards principal. 

And since Linda is likely to disagree - here is a highly technical article on this issue.

@Michael Plaks - I am certainly willing to consider that I am wrong.  Not sure why you come out swinging like that, but to each their own, I suppose.  Ever since you started contributing to the forum posts in November, you've been highly aggressive with other tax professionals and I'm not sure why.

It would appear that I gave the accounting for governmental notes purchased at a discount, rather than the accounting for private party notes purchased at a discount.  There is definitely a distinction between the two.  I apologize to @John Newsom for the error.

@Linda Weygant

I'm sorry if my posts appeared aggressive to you. I see nothing aggressive or disrespectful in a simple statement that you were mistaken. Unlike you, I did not get personal, until now. My goal is to ensure that people get correct answers. Isn't yours the same?

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