### Bonds Payable and Other Long-term Liabilities

## Practice As You Learn

### Introduction to Accounting

## Bonds Payable and Other Long-term Liabilities

## Practice as You Learn

**Follow these steps to work a bond payable problem:**

1) Multiply the maturity value by the coupon/stated rate divided by the number of payments per year to get the amount of cash paid for interest each period

2) Determine the cash received from the investor – this will be given or calculated by multiplying the maturity value by the price of the bond as a %

3) Set up the amortization schedule below.

Memorize this format:

Effective Stated Discount or Amount owed- Interest Exp. - Interest = Difference Premium + / - “Carrying value” “Yield %” Begin with the price “Market %” “Stated %” of the bond - the cash exchanged x the last x MV amount owed (same for all periods) End with MV

Put the stated interest paid in the second column. The number will be the same all the way down the table.

Compute the interest expense in the first column. This will be the last amount owed x the effective rate / number of payments per year

Subtract the coupon interest from the effective interest, put this in the difference column.

The carrying amount moves toward the maturity value. Subtract the difference if it is a premium. Add the difference if it is a discount.

**Journal Entries:**

Issue Bonds – Premium: Issue Bonds – Discount: Cash received > MV Cash received < MVCash Cash Premium Discount Bond Payable (MV) Bond Payable (MV) Interest Expense Interest Expense Premium Discount Cash Cash

The amount that goes to cash is always the stated amount in the second column

The amount that goes to interest expense is always the amount in the first column for

the period you are recording

Plug the difference between these two to the discount or premium account.

Do not use the bond payable account until the liability is repaid at maturity

**Follow these steps to work a long-term notes payable / mortgage payable:**

1) Set up the amortization schedule as follows: Difference: Amount Owed Payment Interest % to repay principle (Carrying value)

2) Put the amount you borrowed and must repay in the far right, amount owed column

3) Put the payment amount in the first column, it will be the same for each period

4) Calculate the interest by multiplying the last amount owed in the far right column x the interest rate given, this will be different (less) for each period

5) Reduce the amount owed by the difference of the payment less interest

The amount owed should be 0 when the last payment is made

**Journal entries:**

` Borrow: Payment`

Cash Interest Expense Notes Payable Notes Payable Cash

**Practice Problem 1 – Bonds Issued at Par**

On January 1st of this year, the company issued $100,000 maturity value, stated rate of 8%, due in 5 years at an effective market rate of 8%. The bond pays interest semi-annually on January 1 and July 1 of each year.

A. Prepare the amortization schedule for the first 2 periods of interest

B. Record the journal entries required for the issuance of the bond and the first and second interest payments

##### Answer

Recognize that the stated rate is equal to the effective market rate. When this

occurs, the amount received/owed is equal to the maturity value. There is no discount or premium.

Effective Stated Discount or Amount owed- Interest Exp. - Interest = Difference Premium + / - “Carrying value” 1/1 $100,000 7/1 $4,000 $4,000 0 0 $100,000 1/1 $4,000 $4,000 0 0 $100,000

Stated interest = MV of $100,000 x 8% / 2 times per year

There is no difference in what is incurred and what is paid to the investor because the

market rate of interest is the same as the stated rate of interest

The amount paid back at the end of 5 years is the maturity value, $100,000

When there is no difference in interest rates, there is no discount or premium

Record the issuance of the bond:

Cash $100,000

Bond Payable $100,000

Record each interest payment.

Expense = cash paid when there is no rate difference.

Interest Expense $4,000

Cash $4,000

**Practice Problem 2 – Issue a bond at a discount**

On January 1st of this year, the company issued $200,000 bonds, stated rate of 10%, due in 5 years at an effective market rate of 12%. The bond pays interest semi-annually on January 1 and July 1 of each year. The bonds were issued at a price of 92.8

A. Prepare the amortization schedule for the first 2 periods of interest

B. Record the journal entries required for the issuance of the bond and the first and second interest payments

##### Answer

1st – Compute the price of the bond –

Maturity value x price as a %

$200,000 x .928 = $185,600

This is the amount owed

2nd – Compute the interest that will be paid in cash –

MV x stated rate / payments per year

$200,000 x 10% / 2 = $10,000 cash paid every six months

3rd – Prepare the amortization schedule: Receiving less than MV is a discount.

12% / 2 10% / 2 Effective StatedDiscountor Amount owed- Interest Exp. - Interest = Difference Premium + / - “Carrying value” 1/1 $14,400 $185,600 7/1 $11,136 $10,000 $1,136 $13,264 $186,736 1/1 $11,204 $10,000 $1,204 $12,060 $187,940

**Notice:**

The stated rate column is the same for all dates

The effective interest expense is calculated by 12%/2 = 6% x the amount in the previous row in the amount owed column

The discount column will = 0 after 5 years

The amount owed must = maturity value of $200,000 in 5 years

The company is incurring a higher interest rate than they are paying each six months. That difference will be paid at the end when the company repays more ($200,000) than they originally received ($185,600).

```
Record the issuance of the bond:
Cash $185,600
Discount $ 14,400
Bond Payable $200,000
Record the first interest payment
Interest Expense $11,136
Discount $ 1,136
Cash $10,000
Record the second interest payment
Interest Expense $11,204
Discount $ 1,204
Cash $10,000
```

**Practice Problem 3 – Issue a bond at a premium**

On January 1st of this year, the company issued $100,000 bonds, stated rate of 8%, due in 10 years, at an effective market rate of 7%. The bond pays interest semi-annually on January 1 and July 1 of each year. The bonds were issued at 107.

A. Prepare the amortization schedule for the first 2 periods of interest

B. Record the journal entries required for the issuance of the bond and the first and second interest payments

##### Answer

1st – Compute the price of the bond –

Maturity value x price as a %

$100,000 x 1.07 = $107,000

2nd – Compute the interest that will be paid in cash –

MV x stated rate / # paid per year

$100,000 x 8% / 2 = $4,000 cash paid every six months

3rd – Prepare the amortization schedule:

Receiving less than MV is a discount.

7% / 2 8% / 2 Effective Stated Discount or Amount owed- Interest Exp. - Interest = DifferencePremium+ / - “Carrying value” 1/1 $ 7,000 $107,000 7/1 $3,745 $4,000 $255 $ 6,745 $106,745 1/1 $3,736 $4,000 $264 $ 6,481 $106,481

**Notice:**

The stated rate is the same for all dates

The effective interest expense is calculated by 7%/2 = .035 x the amount in the previous row in the amount owed column

The premium column will get to 0 after 5 years

The amount owed will get to the maturity value of $100,000 in 10 years

The company is incurring a lower interest rate than they are paying each six months.

The company will get this difference back when they repay less ($100,000) than they originally received ($107,000).

```
Record the issuance of the bond:
Cash $107,000
Premium $ 7,000
Bond Payable $100,000
Record the first interest payment
Interest Expense $3,745
Premium $ 255
Cash $4,000
Record the second interest payment
Interest Expense $3,736
Premium $ 264
Cash $4,000
```

**Practice Problem 4 – Long Term Notes Payable**

A doctor borrowed $60,000 to purchase equipment to set up an office. The annual interest on the note payable is 6% and the annual payment is $17,317. Payments are to be made for 4 years at the end of each year.

A. Prepare an amortization schedule to determine how much of the payment is for interest and how much of the payment is to repay the principle.

B. Record the borrowing and the first two payments.

##### Answer

1) Set up the amortization schedule as follows:

Difference: Amount Owed Payment Interest 6 % to repay principle (Carrying value) $60,000 Year 1 $17,317 $3,600 $13,717 $46,283 Year 2 $17,317 $2,777 $14,540 $31,743 Year 3 $17,317 $1,905 $15,412 $16,331 Year 4 $17,317 $ 986 $16,331 $ 0

2) Put the amount you borrowed and must repay in the far right, amount owed column

3) Put the payment amount in the first column, it will be the same for each period

4) Calculate the interest by multiplying the last amount owed in the far-right column on

the row before x the interest rate given, this will be different (less) for each period

5) At the end of the last payment, the amount owed should be 0. It is not due to

rounding. Adjust interest expense in the last year to get it to 0.

**Prepare the journal entries:**

** **

```
Borrow:
Cash $60,000
Notes Payable $60,000
1st Payment:
Interest Expense $3,600
Notes Payable $13,717
Cash $17,317
2nd Payment:
Interest Expense $2,777
Notes Payable $14,540
Cash $17,317
```