A borrower has two alternatives for a loan: (1) issue a $360,000, 60-day, 5% note or (2) issue a $360,000, 60-day note that the creditor discounts at 5%. Assume a 360-day year.

a. Calculate the amount of the interest expense for each option.

$? for each alternative.

b. Determine the proceeds received by the borrower in each situation.

(1) $360,000, 60-day, 5% simple-interest$? (2) $360,000, 60-day note discounted at 5%

a.

(1) $3,00

(2) $18,000

b.

(1) $360,000

(2) $342,000

Explanation:

a.

A note is issued at discount if it's issuance price is less than the face value.

Interest Expense is the amount of Coupon payment plus any discount given on the issuance of the Note because this discount is amortized and charged as expense for period until maturity

(1)

As there is no discount the coupon payment will be the interest expense.

Interest Expense = $360,000 x 5% x 60/360 = $3,000

(2)

This note has discount of 5% and no coupon payment. we will calculate the interest expense as follow.

Interest Expense = $360,000 x 5% = $18,000

b.

Proceeds are the amount received from the issuance of a note.

(1)

The face value is received from this note, as there is no discount or premium associated with this bond.

Proceeds = $360,000

(2)

This Bond has discount, so, the proceeds will be net of discount value.

Proceeds = $360,000 (100% - 5%) = $360,000 x 95% = $342,000