Debt Investment Transactions, Available-for-Sale Valuation Rekya Mart Inc. is a

Question

Debt Investment Transactions, Available-for-Sale Valuation

Rekya Mart Inc. is a general merchandise retail company that began operations on January 1, Year 1. The following transactions relate to debt investments acquired by Rekya Mart Inc., which has a fiscal year ending on December 31:

Required:

1. Journalize the entries to record these transactions. For a compound transaction, if an amount box does not require an entry, leave it blank.

2. If the bond portfolio is classified as available for sale, what impact would this have on financial statement disclosure?

If the bonds are classified as available-for-sale securities, then the portfolio of bonds would need to be adjusted to . This would be accomplished by using a valuation allowance account and account.

Year 1 Apr. 1. Purchased $36,000 of Smoke Bay 5%, 10-year bonds at their face amount plus accrued interest of $300. The bonds pay interest semiannually on February 1 and August 1. May 16. Purchased $116,000 of Geotherma Co. 6%, 12-year bonds at their face amount plus accrued interest of $290. The bonds pay interest semiannually on May 1 and November 1. Aug. 1. Received semiannual interest on the Smoke Bay bonds. Sept. 1. Sold $14,400 of Smoke Bay bonds at 104 plus accrued interest of $60. Nov. 1. Received semiannual interest on the Geotherma Co. bonds. Dec. 31 Accrued $360 interest on Smoke Bay bonds. Dec. 31 Accrued $580 interest on Geotherma Co. bonds. Year 2 Feb. 1. Received semiannual interest on the Smoke Bay bonds. May 1. Received semiannual interest on the Geotherma Co. bonds.

Explanation / Answer

Part 1

Part 2

If the bonds are classified as available-for-sale securities, then the portfolio of bonds would need to be adjusted to fair value . This would be accomplished by using a valuation allowance account and an unrealized gain (loss) account.

If the fair value were greater than the cost of the bond portfolio, the two accounts would be positive and thus added to investments and stockholders' equity respectively. If the fair value were less than the cost of the bond portfolio, the two accounts would be negative and thus subtracted from investments and stockholders' equity respectively.

Date Description debit credit Year 1 Apr. 1 investments - Smoke Bay Bonds 36000 Interest receivable 300 Cash 36300 May 16 investments - Geotherma Co. Bonds 116000 Interest receivable 290 Cash 116290 Aug. 1 cash (36000*5%*1/2) 900 Interest receivable 300 Interest revenue (900-300) 600 Sep. 1 cash (14400*1.04)+60 15036 Interest revenue 60 Gain on sale of investment 576 Investments - Smoke Bay Bonds 14400 Nov. 1 cash (116000*6%*1/2) 3480 Interest receivable 290 Interest revenue (3480-290) 3190 Dec. 31 interest receivable 360 Interest revenue 360 Dec. 31 interest receivable 580 Interest revenue 580 Year 2 Feb. 1 cash (36000-14400)*5%*1/2 540 Interest receivable 360 Interest revenue (540-360) 180 May. 1 cash (116000*6%*1/2) 3480 Interest receivable 580 Interest revenue (3480-580) 2900

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