Question

On January 1, 2021, Rapid Airlines issued $255 million of its 8% bonds for $235 million. The bonds were priced to yield 10%. Interest is payable semiannually on June 30 and December 31. Rapid Airlines records interest at the effective rate and elected the option to report these bonds at their fair value. On December 31, 2021, the fair value of the bonds was $244 million as determined by their market value in the over-the-counter market. Rapid determined that $1,000,000 of the increase in fair value was due to a decline in general interest rates.

Required:

1. to 3. Prepare the journal entries to record interest on June 30, 2021 (the first interest payment), on December 31, 2021 (the second interest payment) and to adjust the bonds to their fair value for presentation in the December 31, 2021, balance sheet. (Enter your answers in whole dollars. If no entry is required for a transaction/event, select "No journal entry required" in the first account field.)

Answer 1

Particulars Given
Face value of bonds(Jan 1, 2021)	255000000
Interest Rate	8%
Issued price	235000000
Yeild to Maturity	10%
Fair Value of bonds (Dec 31, 2021)	244000000
Increase in Fair Value	1000000

Journal Entries:

Date	Account Titles and Explanation	Debit	Credit
Jun.30	Interest Expense	11750000
	Cash		10200000
	Discount on Bonds Payable		1550000
	(To record the first interest payment)
Dec.31	Interest Expense	11827500
	Cash		10200000
	Discount on Bonds Payable		1627500
	(To record the second interest payment)
Dec.31	Unrealized Holding Loss - NI	1000000
	Unrealized Holding Loss - OCI	4822500
	Fair Value Adjustment		5822500
	(To adjust the bonds to their Fair value)

Workings:

First Interest Payment:

1. Interest expense = Issued price * Yeild to maturity * 6/12

=235000000 * 10% * 1/2

= 23500000* 0.5

= 11750000

2.Cash = Face value of bonds * Interest rate * 1/2

= 255000000 * 8% * 1/2

= 20400000 *0.5

= 10200000

3.Discount on Bonds Payable = Interest expense - Cash

=117500000 - 10200000

=1550000

Second Interest Payment:

1. Interest expense =[ (Issued price + Discount on Bonds Payable)* Yeild to maturity * 6/12]

=235000000 + 150000 * 10% * 1/2

= 23650000* 0.5

= 11827500

2.Cash = Face value of bonds * Interest rate * 1/2

= 255000000 * 8% * 1/2

= 20400000 *0.5

= 10200000

3.Discount on Bonds Payable = Interest expense - Cash

=118275000 - 10200000

=1627500.

Adjustment of bonds:

1. Unrealized Holding loss-NI = Interest on fairvalue

=1000000

2. Unrealized Holding loss-OCI = Fair value adjustment - Unrealized Holding loss-NI

= 1000000 - 5822500

= 4822500

3. Fair value adjustment = Fair value of Bonds - (Issued price + Discount on bond payable + Discount on bond payable)

= 244000000 - (235000000+1550000+1627500)

= 244000000 - 238177500

= 5822500.

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