Question

Stanford issues bonds dated January 1, 2017, with a par value of \(500,000. The bonds’ annual contract rate is 9%, and interest is paid semiannually on June 30 and December 31. The bonds mature in three years. The annual market rate at the date of issuance is 12%, and the bonds are sold for \)463,140.

1. What is the amount of the discount on these bonds at issuance?

2. How much total bond interest expense will be recognized over the life of these bonds?

3. Prepare an amortization table like the one in Exhibit 10B.1 for these bonds; use the effective interest method to amortize the discount.

Short answer

The amount of discount on the issuance of bond is$36,860

The total bond interest expense is$171,860

Step-by-step solution

Meaning of Bond

Bonds refer to a written document issued by a company to raise funds for which the company pays interest to the bondholders and repays the borrowed amount after a specific period.

Journal entry for the issuance of the bond

Date	Account and explanation	Debit ($)	Credit ($)
Jan 01, 2017	Cash	463,140
	Discount on Bonds Payable	36,860
	Bonds Payable		500,000
	(To record the selling of bonds at a discount)

Working note:

Calculation of discount on bond payable

$\begin{array}{rcl}\text{Discount} \text{on} \text{bond} \text{payable}& =& \$500,000-\$463,140\\ & =& \$36,860\\ & & \end{array}$

Calculation showing thetotal bond interest expense

Particulars	Amount ($)
Six Payments of $22,500$\left[6\times \left(\$500,000\times 9\%\times \frac{1}{2}\right)\right]$	$135,000
Add: Discount	$36,860
Total bond interest expense	$171,860

localid="1662371892499" $\begin{array}{rcl}\mathbf{B}\mathbf{o}\mathbf{n}\mathbf{d}\mathbf{ }\mathbf{i}\mathbf{n}\mathbf{t}\mathbf{e}\mathbf{r}\mathbf{e}\mathbf{s}\mathbf{t}\mathbf{ }\mathbf{}\mathbf{e}\mathbf{x}\mathbf{p}\mathbf{e}\mathbf{n}\mathbf{s}\mathbf{e}\mathbf{ }\mathbf{(}\mathbf{ }\mathbf{p}\mathbf{e}\mathbf{r}\mathbf{ }\mathbf{i}\mathbf{n}\mathbf{t}\mathbf{e}\mathbf{r}\mathbf{e}\mathbf{s}\mathbf{t}\mathbf{ }\mathbf{}\mathbf{e}\mathbf{x}\mathbf{p}\mathbf{e}\mathbf{n}\mathbf{s}\mathbf{e}\mathbf{)}& \mathbf{=}& \mathbf{ }\frac{\mathbf{T}\mathbf{o}\mathbf{t}\mathbf{a}\mathbf{l}\mathbf{ }\mathbf{}\mathbf{b}\mathbf{o}\mathbf{n}\mathbf{d}\mathbf{ }\mathbf{i}\mathbf{n}\mathbf{t}\mathbf{e}\mathbf{r}\mathbf{e}\mathbf{s}\mathbf{t}\mathbf{}\mathbf{ }\mathbf{e}\mathbf{x}\mathbf{p}\mathbf{e}\mathbf{n}\mathbf{s}\mathbf{e}}{\mathbf{N}\mathbf{u}\mathbf{m}\mathbf{b}\mathbf{e}\mathbf{r}\mathbf{ }\mathbf{}\mathbf{o}\mathbf{f}\mathbf{ }\mathbf{}\mathbf{i}\mathbf{n}\mathbf{t}\mathbf{e}\mathbf{r}\mathbf{e}\mathbf{s}\mathbf{t}\mathbf{ }\mathbf{}\mathbf{p}\mathbf{e}\mathbf{r}\mathbf{i}\mathbf{o}\mathbf{d}\mathbf{s}}\\ & \mathbf{=}& \frac{\mathbf{171}\mathbf{,}\mathbf{860}}{\mathbf{6}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{28}\mathbf{,}\mathbf{643}\\ & & \end{array}$

Step 4:Statement showing the amortization table using effective interest method

Bonds: $500,000 Par Value, Semi -annual Interest Payments, Three-Year Life, 4.5% Semi-annual Contract Rate, 6% Semi-annual Market Rate
Semi-annual Interest Period-End	(A) Cash Interest Paid 4.5% × $500,000	(B) Bond Interest Expense 6% × Prior (E)	(C) Discount Amortization (B) – (A)	(D) Unamortized Discount Prior (D) – (C)	(E) Carrying Value $500,000 – (D)
01/01/2017				$ 36,860	$ 463,140
30/06/2017	$ 22,500	$ 27,788	$ 5,288	$ 31,572	$ 468,428
31/12/2017	$ 22,500	$ 28,106	$ 5,606	$ 25,966	$ 474,034
30/06/2018	$ 22,500	$ 28,442	$ 5,942	$,20,024	$ 479,976
31/12/2018	$ 22,500	$ 28,799	$ 6,299	$ 13,725	$ 486,275
30/06/2019	$ 22,500	$ 29,177	$ 6,677	$ 7,048	$ 492,952
31/12/2019	$ 22,500	$ 29,577	$ 7077	-	$ 500,000