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?

Answer 1

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