How do you record a note payable with interest accrued at year-end?

• A. Debit Interest Expense; Credit Interest Payable for the accrued interest; principal is recorded as the Note Payable
• B. Debit Note Payable; Credit Interest Expense
• C. Debit Interest Payable; Credit Interest Expense
• D. Debit Cash; Credit Note Payable

Answer: (A)

When you have a note payable and interest has accrued by year-end but hasn’t been paid yet, you need to recognize the expense for the period and create a liability for the interest owed. The principal of the note stays recorded as Note Payable on the balance sheet; only the accrued interest is addressed in this adjusting entry. Debiting Interest Expense increases the period’s expense, and crediting Interest Payable establishes a liability for the interest that has accrued. This matches the expense to the time period in which it was incurred and records the obligation you still owe.

Other options don’t fit this situation because they either try to alter the principal balance for the accrual, reduce the accrued liability, or reflect a cash payment that hasn’t occurred yet. Debiting Note Payable and crediting Interest Expense would misstate the note and expense. Debiting Interest Payable and crediting Interest Expense would decrease the liability and expense, which is the opposite of the proper accrual. Debiting Cash and crediting Note Payable would be recording a cash payment against the principal, not the end-of-year accrual.