Terms and Definitions When a bond sells for less than its face amount, the diffe
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Question
Terms and Definitions
When a bond sells for less than its face amount, the difference between the selling price and the face amount is called a . A bond discount or premium must be amortized to interest expense . The straight line method amortizes equal amounts of bond discount or premium to interest expense each period. Amortization of a bond discount the contract rate of interest to a rate of interest that approximates the market rate of interest.
Understanding the Business Transaction
Bonds sell at a discount when the market rate of interest is the contract rate of interest. Discount amortization is the amount of cash interest paid, causing the amount of interest expense reported on the income statement to be the amount of semi-annual cash interest paid on a bond.
On January 1, 2014, Jack Company issues $3,863,000, 6%, 10-year bonds for cash of $3,109,244 when the market rate of interest is 9%. The bonds pay interest semi-annually on June 30 and December 31. Determine (1) the discount on bonds payable at the date of issuance, (2) the semi-annual cash interest payment, (3) the semi-annual discount amortization using the straight line method, and (4) the semi-annual interest expense.
Round your answers to the nearest whole dollar amount.
Recording in the Accounting System
Journalize the first interest payment and the amortization of the bond discount on June 30, 2014.
Round your answers to the nearest whole dollar amount. If an amount box does not require an entry, leave it blank.
When bonds sell at a discount, the semi-annual interest expense reported in the income statement will be the semi-annual cash interest paid to bondholders.
Financial Statement Impact
On July 1, 2014 Botwin Company issues $1,000,000, 10%, bonds payable. Click here and use the sliders provided for the market rate of interest and the number of semi-annual periods to answer the following questions.
Selling Price of Bonds $ Face Value of Bonds Discount on Bonds Payable $ Cash interest payment $ Discount amortization Interest expense $Explanation / Answer
Solution 1-1:
Face value of bond = $3,863,000
Selling price of bond = $3,109,244
Discount on issue of bond = Face value - Selling price
= $3,863,000 - $3,109,244 = $753,756
Solution 1-2:
Semi annual cash interest payment = Face value of bond * Coupon rate * 6/12
= $3,863,000 * 6% * 6/12 = $115,890
Solution 1-3:
Semiannual discount amortization using straight line method = Discount on bond payable / Nos of semiannual period till maturity
= $753,756 / 20 = $37,688
Solution 1-4:
Semi annual interest expense = Cash interest paid + semiannual discount amortization
= $115,890 + $37,688 = $153,578
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