A company receives a 2-year, $50,000 non-interest-bearing note in exchange for equipment with a fair value of $43,000. Using the effective interest method, how should interest income be recognized?
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AInterest income is recognized each period based on the carrying amount of the note times the effective rate
BInterest income is recognized in equal annual installments over 2 years
CNo interest income is recognized because the note bears no stated interest
DInterest income is recognized entirely in year 1 when cash is expected
✓ Correct answer: A. Interest income is recognized each period based on the carrying amount of the note times the effective rateUnder the effective interest method, periodic interest income equals the note's carrying value multiplied by the effective (market) rate determined at origination. This produces an increasing interest income each year as the carrying amount grows toward face value.
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