When a note is dishonored,

the payee will reduce Accounts Receivable and Allowance for Doubtful Accounts.

the note holder transfers the customer's debt from the Notes Receivable account to the Bad Debt Expense account.

the payee still has a claim against the maker of the note for both the note and the interest.

the payee has a legal right to collect the amount of the note, but the interest must be renegotiated.