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On January 2, 2018, Mark Company purchased as along-term investment a debt instrument with a five year term for its fair value of 1,386,275. The instrument has a principal amount of 1,500,000 and carries a fixed interest of 5% annually. The effective interest is determined to be 10%. The companys management has the positive intent and ability to hold the debt instrument until maturity.
During 2020, the issuer of the instrument is in financial difficulties and it becomes probable that the issuer will be put into administration by a receiver. The fair value of the instrument is estimated to be 750,000 at the end of 2020, calculated by discounting the expected future cash flows at 10%. No cash flows are received during 2021. At the end of 2021, the issuer is released from administration and Mark receives a letter from the receiver stating that the issuer will be able to meet its remaining obligations, including interest and repayment of principal.
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