Question

Romero issues \(3,400,000 of 10%, 10-year bonds dated January 1, 2017, that pay interest semiannually on June 30 and December 31. The bonds are issued at a price of \)3,010,000.

Required

1. Prepare the January 1, 2017, journal entry to record the bonds’ issuance.
2. For each semiannual period, compute (a) the cash payment, (b) the straight-line discount amortization, and (c) the bond interest expense.
3. Determine the total bond interest expense to be recognized over the bonds’ life.
4. Prepare the first two years of an amortization table like Exhibit 10.7 using the straight-line method.
5. Prepare the journal entries to record the first two interest payments.

Short answer

1. Cash and Discount on bonds payable are debited by $3,010,000 and $390,000; and Bonds payable is credited by $3,400,000.
2. (a) The cash payment for each semi-annual period is $170,000.

(b) The straight-line premium amortization for each semi-annual period is $19,500.

(c) The bond interest expense for each period is $189,500.

3. The total bond interest expense is $3,790,000.

4. Amortization schedule is prepared in Step 5.

1. Journal entries are prepared in Step 6.

Step-by-step solution

Bond

The bond is the written promise to pay the bond’s par (or face) value and interest at a stated contract rate. It is often issued in the denomination of $1,000.

(1) Journal entry to record the bonds’ issuance                                

Date	Particulars	Debit	Credit
Jan 1 2017	Cash	$3,010,000
	Discount on bonds payable ($3,400,000-$3,010,000)	$390,000
	Bonds payable		$3,400,000
	To record bonds issuance at discount

(2) Calculation of cash payment, discount amortization and interest expense 

(a) Computation of the cash payment for each semi-annual period

$\begin{array}{c}\mathrm{CashPayment}=\mathrm{FaceValue}\times \mathrm{CouponRate}\times \mathrm{FractionofYear}\\ \mathbf{=}\mathbf{\$}\mathbf{3}\mathbf{,}\mathbf{400}\mathbf{,}\mathbf{000}\mathbf{\times }\mathbf{10}\mathbf{\%}\mathbf{\times }\frac{6}{12}\\ =\$170,000\end{array}$

The cash payment for each semi-annual period is $170,000.

(b) Computation of straight-line discount amortization

$\begin{array}{c}\mathbf{Discount}\mathbf{}\mathbf{Amortization}\mathbf{=}\frac{\mathrm{Discount}}{\mathrm{Total}\mathrm{Semiannual}\mathrm{Periods}}\\ \mathbf{=}\frac{\$390,000}{10\times 2}\\ =\$19,500\end{array}$

The straight-line premium amortization for each semi-annual period is $19,500.

(c) Computation of bond interest expense for each period

$\begin{array}{c}\mathrm{Interest}\mathrm{Expense}=\mathrm{Discount}\mathrm{Amortization}\mathrm{Per}\mathrm{Period}+\mathrm{Cash}\mathrm{Payment}\\ =\$19,500+\$170,000\\ =\$189,500\end{array}$

The bond interest expense for each period is $189,500.

(3) Computation of total bond interest expense

$\begin{array}{c}\mathrm{Total}\mathrm{Interest}\mathrm{Expense}=\mathrm{Interest}\mathrm{Expense}\mathrm{Per}\mathrm{Period}\times \mathrm{Total}\mathrm{Semiannual}\mathrm{Periods}\\ \mathbf{=}\mathbf{\$}\mathbf{189}\mathbf{,}\mathbf{500}\mathbf{\times }(\mathbf{10}\mathbf{\times }\mathbf{2})\\ =\$3,790,000\end{array}$

The total bond interest expense is $3,790,000.

(4) Amortization table        

	Semi-annual period end	Unamortized discount	Carrying value
0	01-01-2017	$390,000	$3,010,000
1	30-06-2017	$370,500	$3,029,500
2	31-12-2017	$351,000	$3,049,000
3	30-06-2018	$331,500	$3,068,500
4	31-12-2018	$312,000	$3,088,000

(5) Journal entry to record the first two interest payment

Date	Particulars	Debit	Credit
June 30 2017	Bond interest expense	$189,500
	Discount on bonds payable		$19,500
	Cash		$170,000
	Payment of semi-annual interest and record amortization.
Dec 31 2017	Bond interest expense	$189,500
	Discount on bonds payable		$19,500
	Cash		$170,000
	Payment of semi-annual interest and record amortization.