Interest Calculations & Amortization
Simple Interest Calculation
Calculate the interest for each case
Formula
Interest = Principal × Rate × Time
5,000 at 10% for 6 months
➛ 5,000 × 10% × 0.5 = 250
12,000 at 8% for 9 months
➛ 12,000 × 8% × 0.75 = 720
20,000 at 6% for 1 year
➛ 20,000 × 6% × 1.00 = 1,200
➧ Decimal Year
➧ Decimal Month
Identify Interest Components
For each situation, identify
· Principal
· Rate
· Time
· Interest Expense or
· Interest Income
1. A company borrows 15,000 at 12% for 1 year
Principal - 15,000
Rate - 12%
Time - 1 year
Interest - 15,000 × 12
Account Type - Interest Expense
2. A business lends 8,000 at 9% for 6 months
Principal - 8,000
Rate - 9%
Time - 6 months
Interest - 8,000 × 9
Account Type - Interest Income
Amortization Schedule | Short Loan
A business borrows 6,000 at 12% annual interest for 1 year, payable in 3 equal installments.
Tasks
1. Calculate interest for each period
Loan
6,000
Rate
12% annually
Term
1 year
Payments
3 equal periods | 4 months each
Interest per period
720
Payment per period
6,000 + 720 ÷ 3 = 2,240
2. Prepare a simple amortization schedule
Period
1
2
3
1
2
3
Opening Balance
6,000
4,000
1,920
6,000
4,000
1,920
Interest
240
160
77
240
160
77
Payment
2,240
2,240
1,997
2,240
2,240
1,997
Principal Paid
2,000
2,080
1,920
2,000
2,080
1,920
Closing Balance
4,000
1,920
0
4,000
1,920
0
3. Identify total interest paid
240 + 160 + 77 = 477
Rounded for teaching simplicity
Journal Entry Practice
1. Accruing interest at month-end
Interest Expense
Interest Payable
Interest Payable
Dr
Cr
Cr
2. Paying one installment including interest and principal
Interest Payable
Notes Payable
Cash
Notes Payable
Cash
Dr
Dr
Cr
Dr
Cr
3. Paying the final loan balance
Interest Payable
Notes Payable
Cash
Notes Payable
Cash
Dr
Dr
Cr
Dr
Cr
Mini Case Study
A company takes a loan of 24,000 at 10% interest, repayable over 2 years with equal annual payments.
Loan - 24,000
Rate - 10%
Term - 2 years
Questions
Calculate annual interest for Year 1
➛ 24,000 × 10 × 1 = 2,400
Explain how amortization affects interest expense over time
➛ Interest expense decreases each year as the loan balance reduces.
Which part of each payment reduces the loan balance?
➛ The principal portion of each payment.
Where does interest expense appear in the financial statements?
➛ Income Statement
What happens to Notes Payable after the final payment?
➛ Notes Payable becomes zero and is removed from the balance sheet.
Quick Quiz
State the formula for simple interest.
➛ Principal × Rate × Time
What is amortization?
➛ Gradual repayment of a loan over time through regular payments
Interest is calculated on the outstanding balance.
➛ True
Which account records the cost of borrowing?
➛ Interest Expense
What happens to interest expense over time in an amortized loan?
➛ It decreases as the loan balance decreases
Credit Policies & Collection Management ➧ Here