[nolan7120]

I’m looking at the Wiley book for the FAR exam, module 13C, SIM #1, p.455 for those of you that have it. Something about this problem just seems wrong to me. Either that or I’m going nuts.

The problem states:

Jayson has an overdue N/R from Simpson for $300,000, dated 1/1/1. The annual interest rate is 9%, and interest is paid on 12/31 of each year. Simpson paid the interest on 12/31/1, but did not pay interest on 12/31/2. The current effective rate of interest is 6%. On 1/1/3, Jayson agrees to the following debt restructure:

Reduce the principal to $250,000.

Forgive the accrued interest.

Reduce the interest rate to 6%.

Extend the maturity date to 12/31/5.

Jayson doesn’t use the FV option to report the debt modification.

The problem then asks you to calculate the PV of future cash flows of the restructured note and also for the net carrying amount. Sounds simple enough. PV tables here we come.

Here lies my issue: When they calculate the PV of the new note, they use 3 periods (correct) and then they use the 9% (possibly incorrect?). Why use the 9% when it was the original annual interest rate that was reduced to 6% under the modifications? Isn’t that solely for calculating the interest payments? Isn’t the 6% effective rate supposed to be used for the PV tables, not 9%? BTW, they come up with $231,014 ($37,969 for cash flows and $193,045) for the new carrying amount of the loan.

The solution says:

Prestructured amount $300,000

+ accrued Interest 27,000

=Prerestructured loan CV 327,000

– PV of cash flows 231,015

=Loss $95,985

Am I wrong, or are they wrong? Thanks for any insight!

AUD - 79
BEC - 76
FAR - 81
REG - 84

Finished!

FAR (6/9/16) - 81

[monikernc]

I looked at solution and they use the new interest pmt of $15000 (250,000 * 6%) and new loan amount of $250,000 and discount back at 9% to calc the PV of the future cash flows to get the loss (bad debt expense)
The solution is here with entries (you may need to advance to page 409 with arrow in upper right)
https://www.tinyurl.com/jn7b2gl
It makes sense that the impairment is discounted at the original rate with the new values. It provides the difference in the new and old terms when deducted from the current carrying value of $327,000
Reading the solution, I get it, but I would have never guessed it

AUD - 93
BEC - 82
FAR - 76
REG - 88

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FAR 7/25/15 76!
AUD 10/30/15 93
BEC 2/27/16 82
REG 5/23/16 88!
Ninja Book and MCQ and the forum - all the way!!!
and a little thing i like to call, time and effort!
if you want things to change, you have to do something different

[nolan7120]

Hmmm. So the effective rate given in the problem of 6% is not used then? This problem is very confusing! Thanks for your help:)

AUD - 79
BEC - 76
FAR - 81
REG - 84

Finished!

FAR (6/9/16) - 81

[Author]

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