Question

On January 1, 2020, Flanagin Corporation issued $5,000,000 face value, 8%, 10-year-bonds at $4,376,892. The price resulted in a 10% effective-interest rate on the bonds. Flanagin uses the effective interest method to amortize bond premium or discount. The bonds pay annual interest on each January 1.

Prepare the journal entry to record the following transactions:

The issuance of bonds on January 1, 2020.

Accrual of interest and amortization of the discount on December 31, 2020. (1.5 marks)

The payment of interest on January 1, 2021. (1 mark)

Accrual of interest and amortization of the premium on December 31, 2021. (1.5 marks)

Show the non-current liabilities section on the statement of financial position for the bond liability at December 31, 2021. (1 mark)

Compute the total cost of borrowing over the life of the bond. (1 mark)

How much would be bond interest expense on December 31, 2021 if the straight line method of amortization were used? (1 mark)

Answer 1

Face Value of the bonds	50,00,000.00
Issue price of Bonds	43,76,892.00
Discount	6,23,108.00

1.The Discount of 6,23,108/- should be amortised over the period of bonds(10 yrs)

2.The effective interest rate is the market interest rate on the date that the bonds were issued.in this case, 10%

3.The company should make payment of interest for every year (50,00,000*8%)

The Difference between the interest of 2 and 3 should be Amortisation amount

Amortisation Table
A	B	C	D	E	F	G
Date	Interest Payment Stated	Interest Expense	Amortisation of Bonds (C-B)	Debit Balance in Bonds Discount	Credit the Balance in the Bonds Payable	Book value of the bonds(F-E)
	8% *Face	Mkt 10% * Previous Book value(G)
January 1,2020				6,23,108.00	50,00,000.00	43,76,892.00
December 31,2020	4,00,000.00	4,37,689.20	37,689.20	5,85,418.80	50,00,000.00	44,14,581.20
December 31,2021	4,00,000.00	4,41,458.12	41,458.12	5,43,960.68	50,00,000.00	44,56,039.32
December 31,2022	4,00,000.00	4,45,603.93	45,603.93	4,98,356.75	50,00,000.00	45,01,643.25
December 31,2023	4,00,000.00	4,50,164.33	50,164.33	4,48,192.42	50,00,000.00	45,51,807.58
December 31,2024	4,00,000.00	4,55,180.76	55,180.76	3,93,011.67	50,00,000.00	46,06,988.33
December 31,2025	4,00,000.00	4,60,698.83	60,698.83	3,32,312.83	50,00,000.00	46,67,687.17
December 31,2026	4,00,000.00	4,66,768.72	66,768.72	2,65,544.11	50,00,000.00	47,34,455.89
December 31,2027	4,00,000.00	4,73,445.59	73,445.59	1,92,098.53	50,00,000.00	48,07,901.47
December 31,2028	4,00,000.00	4,80,790.15	80,790.15	1,11,308.38	50,00,000.00	48,88,691.62
December 31,2029	4,00,000.00	5,11,308.38	1,11,308.38	-	50,00,000.00	50,00,000.00
	40,00,000.00	46,23,108.00	6,23,108.00

JOURNAL ENTRIES
Date	Particulars	Debit	Credit
January 1,2020	Bank	43,76,892.00
	Discount on Bonds Payable	6,23,108.00
	8% Bonds Payable		50,00,000.00
	(Being 8 % Bonds Issued at a discount)
December 31,2020	Interest Expense	4,37,689.20
	Discount on Bonds Payable		37,689.20
	Interest Payable on Bonds		4,00,000.00
	(Being Accrual Accounted for Interest expense and Amortisation of Bonds)
January 1,2021	Interest Payable on Bonds	4,00,000.00
	Bank		4,00,000.00
	(Being Interest paid)
December 31,2021	Interest Expense	4,41,458.12
	Discount on Bonds Payable		41,458.12
	Interest Payable on Bonds		4,00,000.00
	(Being Accrual Accounted for Interest expense and Amortisation of Bonds)

2.

Non Current Liability
8% Bonds Payable	50,00,000.00
Current Liability
Interest Payable on Bonds	4,00,000.00

3.

Total cost of Bonds over the period of Borrowing

46,23,108.00

*refer the above table

4.

Under the straight-line method the interest expense remains at a constant amount even though the book value of the bond is increasing

Straight Line Method
Year	Interest Expense(A)	Interest (B)	Amortisation of bonds(C)	Book Value at the end of the year(D)
December 31,2020	4,62,310.80	4,00,000.00	62,310.80	44,39,202.80(43,76892+62,310.8)
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