Bonds
Practice As You Learn
Intermediate Accounting 2
Practice as You Learn
A bond is a long-term borrowing.
Two things to consistently record:
Issue the Bond on the bond date:
Cash
Discount (db) or Premium (cr)
Bond Payable
Interest Expense:
Interest Expense
Premium (db) or Discount (cr)
Interest Payable or Cash
Issued the Bond after the bond date with accrued interest.
Issue the Bond:
Cash
Discount (db) or Premium (cr)
Bond Payable
Interest Payable
Interest Expense / 1st Payment:
Interest Expense
Interest Payable
Premium (db) or Discount (cr)
Cash
Accrue interest at the end of a period that is not a bond payment date:
Accrue for the amount of time that has passed since interest expense was last recorded:
Interest Expense
Premium (db) or Discount (cr)
Interest Payable
Investor Journal Entries:
Original Investment on the bond date:
Investment
Cash
Original Investment after the bond date:
Investment
Interest Receivable
Cash
Interest received on payment date:
Cash
Investment (db or cr)
Interest Revenue
Interest Receivable (if any)
Interest accrued at end of a period not on a bond date:
Interest Receivable
Investment (db or cr)
Interest Revenue
Steps to take when recording bond transactions:
1. Compute the price on the original bond issue date:
PV of $1 x Stated payment
+ PV of Ordinary Annuity x Maturity Value
= Total Original Date Issue Price
2. Do the amortization schedule:
Do all rows for the original issue date and payment dates.
Leave room to insert other date rows.
3. Record the journal entries using amounts on the amortization schedule for the row for that date.
Problem 1. The bond is issued on the original bond date at a discount.
The Company issued $100,000 face value, 10% stated bonds, 10 years to maturity on January 1, on January 1st of the current year. The bond was priced to yield 12% on January 1st. The bonds pay interest semi-annually on January 1 and July 1. The company uses the effective interest method to record interest expense. The company’s and investor’s year end is December 31st.
A. Compute the price of the bond
B. Prepare the amortization schedule. Round to the nearest dollar.
C. Record the journal entries for the company (issuer) and the investor for the issuance and the first two interest payments.
Answer
1st – Compute the stated payment:
Maturity value x Stated Interest Rate
# Payments per Year
$100,000 x 10%
2 Payment each year
= $5,000
2nd – Compute the price of the bond:
Use the number of payments & effective/market % per period in the PV table.
6%20p
| PV of Maturity Value 100,000 x .31180 = 31,180 PV of stated payments 5,000 x 11.46992 = 57,350 A. Total price of bond to yield 12% = 88,530 |
B. Amortization Schedule:
| 12%/ 2 Interest Expense |
10% / 2 Stated |
Diff. |
Discount |
Owe End of year |
|
| Period 1-beginning | 11,470 | 88,530 | |||
| Pr 1 7/1 | 5,312 | 5,000 | 312 | 11,158 | 88,842 |
| Pr 2 1/1 | 5,331 | 5,000 | 331 | 10,827 | 89,173 |
| Pr 3 7/1 | 5,350 | 5,000 | 350 | 10,477 | 89,523 |
The schedule continues until owe = 100,000, the maturity value
C. Journal Entries
|
Company (issuer) Investor Issue: Cash 88,530 Investment 88,530 |
Interest is paid on July 1st:
| Interest Expense 5,312 Cash 5,000 Discount 312 Investment 312 Cash 5,000 Interest Revenue 5,312 |
Accrue interest at year end 12/31:
| Interest Expense 5,331 Interest Receivable 5,000 Discount 331 Investment 331 Interest Payable 5,000 Interest Revenue 5,331 |
Interest is paid on January 1st:
| Interest Payable 5,000 Cash 5,000 Cash 5,000 Interest Receivable 5,000 |
Problem 2. The bond is issued after the original bond date at a discount.
On March 1st, the Company issued $100,000 face value, 10% stated bonds, 10 years to a maturity date of January 1st. The bond was priced to yield 12% on January 1, of the issue year. The bonds pay interest semi-annually on January 1 and July 1. The company uses the effective interest method to record interest expense. The company’s and investor’s year end is December 31st.
A. Compute the price of the bond
B. Prepare the amortization schedule. Round to the nearest dollar.
C. Record the journal entries for the company (issuer) and the investor for the issuance and the first three interest payments.
Answer
1st – 100,000 x 10% / 2 = $5,000
| 2nd – 6%20p PV of Maturity Value 100,000 x 0.31180 = 31,180 PV of stated payments 5,000 x 11.46992 = 57,350 A. Total price of bond to yield 12% = 88,530 |
B. Amortization Schedule: Begin the table with the price as of 1/1
Insert a row for the date the bond was actually issued
| 12%/ 2 Interest Expense |
10% / 2 Stated |
Diff. |
Discount |
Owe End of year |
|
| Original: beginning | 11,470 | 88,530 | |||
| Actual 3/1 (2/6th) | 1,771 | 1,667 | 104 | 11,366 | 88,634 |
| Pr 1 7/1 | 5,312 | 5,000 | 312 | 11,158 | 88,842 |
| Pr 2 1/1 | 5,331 | 5,000 | 331 | 10,827 | 89,173 |
| Pr 3 7/1 | 5,350 | 5,000 | 350 | 10,477 | 89,523 |
The schedule continues and will end up at 100,000, maturity value
Important to Note:
2 months out of the 1st 6-month period passed before the bond was actually issued. The Actual 3/1 row is 2/6th of the next row.
Do not change any of the bond date rows.
Write the bond date rows first (payment dates) and then insert rows for dates that are not bond dates.
C. Journal Entries
|
Company (issuer) Investor Issue: Cash 90,301 Investment 88,634 |
Note:
The interest payable/receivable comes from the stated row of 2/6th, the actual issue date. This is the amount of the stated not incurred
The discount is for the amount in the row on the actual date.
The cash amount is a plug. It is also equal to the amount owed on the date it was issued (88,634) plus the payable/receivable (1,667)
No interest expense / revenue is recorded because no time has passed since the cash was exchanged and it has not been earned or incurred.
Interest is paid on July 1st:
|
Issuer Investor Interest Payable 1,667 Cash 5,000 |
Note: Cash is always equal to the FULL stated, always
Interest expense/revenue is for the time passed since the last entry is made In this case, it is 4 months, from 3/1 to 7/1. To get the amount for 4 months, take the amount for 6 months in the bond date row less the amount for 2 months, in the 3/1 row. (5,312 – 1,771 = 3,541).
The discount is for the amount of time passed since the last entry was made. To get an amount for 4 months, take the amount for 6 months in the bond date row on 7/1 less the amount in the 2-month row on 3/1. (312 – 104 = 208)
This is also the amount of the adjustment to the investment account.
Interest payable/receivable is the amount that was recorded in the earlier journal entry. The receivable/payable is settled when the cash is paid for interest.
Accrue interest at year end 12/31: This is for a full 6-month period
| Interest Expense 5,331 Interest Receivable 5,000 Discount 331 Investment 331 Interest Payable 5,000 Interest Revenue 5,331 |
Interest is paid on January 1st:
| Interest Payable 5,000 Cash 5,000 Cash 5,000 Interest Receivable 5,000 |
Interest is paid on July 1st: This is for a full 6-month period:
| Interest Expense 5,350 Cash 5,000 Discount 350 Investment 350 Cash 5,000 Interest Revenue 5,350 |
Problem 3. The bond is issued later than the original bond date at a premium. Year end is not on a bond payment date
On February 1st, the Company issued $100,000 face value, 8% stated bonds, 5 years to a maturity date of January 1. The bond was priced to yield 6% on January 1, of the issue year. The bonds pay interest semi-annually on January 1 and July 1. The company uses the effective interest method to record interest expense. The company’s and investor’s year end is October 31st.
A. Compute the price of the bond on January 1 of the year issued.
B. Prepare the amortization schedule. Round to the nearest dollar.
C. Record the journal entries for the company (issuer) and the investor for the issuance and the first three interest payments.
Answer
1st – Compute the stated payment
$100,000 x 8% / 2 = $4,000
2nd – PV at 3%10p
|
PV of Maturity Value 100,000 x 0.74409 = 74,409 A. Total price of bond to yield 12% = 108,530 |
B. Amortization Schedule: Begin the table with the price as of 1/1
Insert a row for the date the bond was actually issued and for the year end.
| 6% / 2 Interest Expense |
8% / 2 Stated |
Diff. |
Premium |
Owe End of year |
||
| 1/1/Y1 | 8,530 | 108,530 | ||||
| Actual 2/1(1/6th) | 543 | 667 | 124 | 8,406 | 108,406 | |
| 7/1/y1 | 3,256 | 4,000 | 744 | 7,786 | 107,786 | |
| Y/E 10/31 (4/6th) | 2,156 | 2,667 | 511 | 7,275 | 107,275 | |
| 1/1/y2 | 3,234 | 4,000 | 766 | 7,020 | 107,020 | |
| 7/1/y2 | 3,211 | 4,000 | 789 | 6,231 | 106,231 | |
The schedule continues and will end up at 100,000, maturity value
Important to Note:
1 month out of the 1st 6-month period passed before the bond was actually issued.
This row is 1/6th of the next bond
Year-end occurs 4 months after the previous bond date row.
The year-end row is 4/6th of the next bond row.
Do not change any of the bond date rows.
Do the bond date rows first (payment dates) and then insert rows for dates that are other than bond dates.
C. Journal Entries
|
Company (issuer) Investor Issue: 2/1/y1 |
Note: The interest payable/receivable comes from the stated column on the actual issue date row. This is the amount of the stated that was not incurred / earned
Cash is a plug to balance the journal entry.
No interest expense / revenue is recorded because no time has passed since the cash was exchanged and nothing has been earned or incurred.
The bond payable is always recorded at maturity value
Interest is paid on July 1st
|
Issuer Investor Interest Payable 667 Cash 4,000 |
Note: Cash is always equal to the FULL amount stated
Interest expense is for the time passed since the last entry is made
In this case, it is 5 months, from 2/1 to 7/1.
To get the amount for 5 months, take the amount for 6 months in the next bond date row less the amount for 1 months, in the 2/1 row. (3,256 – 543 = 2,713)
The premium is for the amount of time passed since the last entry was made.
5 months has passed.
Take the amount for 6 months in the next bond date row on 7/1 less the amount in the 1-month row on 2/1. (744 – 124 = 620)
This is also the amount of the adjustment to the investment account.
Interest payable/receivable is the amount that was recorded in the previous journal entry.
The receivable/payable is settled when the cash is paid for interest.
Accrue interest at year end 10/31/y1:
This is for a 4-month period – use the numbers in the 10/31 row which represents 4-months
|
Issuer Investor Interest Expense 2,156 Interest Receivable 2,667 |
Interest is paid on January 1st y2:
|
Issuer Investor Interest Payable 2,667 Cash 4,000 |
Note: Cash is always equal to the FULL amount
Interest expense is for the time passed since the last entry is made
In this case, it is 2 months, from 10/31 to 1/1.
2 months = the amount for 6 months in the next bond date row less the amount for 4 months, in the 10/31 row. (3,234 – 2,156 = 1,078)
The premium is for the amount of time passed since the last entry was made.
2 months has passed.
2 months = the amount for 6 months in the next bond date row on 1/1 less the amount in the 4 month row on 10/31. (766 – 511 = 255)
This is also the amount of the adjustment to the investment account.
Interest payable/receivable is the amount that was recorded in the previous journal entry. The receivable/payable is settled when the cash is paid for interest.
Interest is paid on July 1st y2: This is for a full 6-month period:
|
Issuer Investor Interest Expense 3,211 Cash 4,000 |