Arillion Company issued $900,000 of 10% bonds at 108. Interest is paid annually
ID: 2617006 • Letter: A
Question
Arillion Company issued $900,000 of 10% bonds at 108.
Interest is paid annually and the effective interest method is used for amortization of any premium or discount.
The bonds are dated 7/1/16 and the market rate of interest on that day was 8%.
Prepare a schedule showing the computation of each of the following:
1) What was the selling price of the bonds?
2) How much interest is paid to the bondholders on each interest payment date?
3) How much is the interest expense to be recorded on the second interest payment date?
4) If the bonds are redeemed at 109 by Marillion Company on 7/1/18 just after the second interest payment, what is the gain or loss on the redemption of the bonds?
Explanation / Answer
Answer:
Given:
Bond Issue par value = $900,000
Rate of Interest = 10%
Bond issued at = $900,000* 108% = $972,000
Market rate of Interest = 8%
Answer 1:
Selling price per bond = $900 * 108% = $972
Total sale value = $972,000
Answer 2:
Interest is paid annually and amount of interest paid to bondholders annually = $900,000 * 10% = $90,000
Answer 3:
First let us calculate interest expense for first year:
Effective interest rate = 8%
First year:
Interest expense = $972,000 * 8% = $77,760
Cash paid (Interest) = $900,000 * 10% = $90,000
Amortization of premium = $90,000 - $77,760 = $12,240
Carrying value of bond = $972,000 - $12,240 = $959,760
Second Year:
Interest expense recorded on second interest payment date = $959,760 * 8% = $76,781 (rounded off to nearest dollar)
Answer 4:
Interest paid to bond holders at the second interest payment date = $900,000 * 10% = $90,000
Amortization of premium in second year = $90,000 - $76,781 = $13,219
Carrying value of bonds after second interest payment = $959,760 - $13,219 = $946,541
If the bonds are redeemed at 109, redemption amount = $900,000 * 109% = $981,000
Loss on redepmtion = $981,000 - $946,541 = $34,459
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