What entry records interest expense in the agreement with Lane Company for 2020?

To understand why the choice to debit Interest Expense and credit Liability is correct, we can look at what happens when a company incurs interest expense. Interest expense represents the cost of borrowing money, and it reflects the expense recognized on the company's income statement during the period.

In this scenario, when the company agrees to pay interest as part of its obligations to Lane Company, it creates a liability that must be recorded. By debiting Interest Expense, the company recognizes that it has incurred a cost associated with financing, which will ultimately decrease its net income. The corresponding credit to Liability signifies that the company has an obligation to pay that interest to Lane Company, which increases its debt in the liabilities section on the balance sheet.

This entry aligns with the accrual basis of accounting, where expenses are recognized when incurred, not necessarily when cash is paid. Therefore, this correct entry ensures that both the income statement and balance sheet accurately reflect the company's financial commitments.