Question

On July 1, 2012, Dacotah Chemical Company issued $4,000,000 face value,10%,IO-year bonds at $4,543,627. This price resulted in an 8% effective-interest rate on the bonds. Dacotah uses the effective-interest method to amortize bond premium or discount. The bonds pay semi-annual interest on each July 1 and January 1.

(Round all computations to the nearest dollar.)

(a) Prepare the journal entries to record the following transactions.

1. The issuance of the bonds on July 1, 2012.

2. The accrual of interest and the amortization of the premium on December31, 2012.

3. The payment of interest and the amortization of the premium on July1,2013, assuming no accrual of interest on June 30.

4. The accrual of interest and the amortization of the premium on December31, 2013.

(b) Show the proper balance sheet presentation for the liability for bonds payable on December31, 2013,balance sheet.

(c)Provide the answers to the following questions in letterform.

1. What amount of interest expense is reported for 2013?

2. Would the bond interest expense reported in 2013 be the same as, greater than,or less than the amount that would be reported if the straight-line method of amortization were used?

3. Determine the total cost of borrowing over the life of the bond.

4. Would the total bond interest expense be greater than,the same as, or less than the total interest expense if the straight-line method of amortization were used?

Answer 1

Date	Accounts Title	Dr	Cr
July 1 2012	Cash	4543627
a) 1	Premium on Bonds Payable		543627
	Bonds Payable		4000000
	(being bonds issued at premium)
2)
Dec 31 2012	Interest expenses	181745
	Premium on Bonds Payable	18255
	Interest Payable		200000
	see from table
3	Interest expenses	181015
	Premium on Bonds Payable	18985
	Cash		200000
	(payment of interest on June 30 2013)
4	Interest expenses	180255
	Premium on Bonds Payable	19745
	Interest Payable		200000
	(accural of interest on Dec 31 2013
working
Amortization table
Period	Interest-cash payment	Interest expenses	Amortize premium on Bonds Payable	Carrying value
0				4543627
Jan 1 2013	200000	181745	18255	4525372
July 1 2013	200000	181015	18985	4506387
Jan 1 2014	200000	180255	19745	4486642
4	200000	179466	20534	4466108
5	200000	178644	21356	4444752
6	200000	177790	22210	4422543
7	200000	176902	23098	4399444
8	200000	175978	24022	4375422
9	200000	175017	24983	4350439
10	200000	174018	25982	4324456
11	200000	172978	27022	4297435
12	200000	171897	28103	4269332
13	200000	170773	29227	4240105
14	200000	169604	30396	4209710
15	200000	168388	31612	4178098
16	200000	167124	32876	4145222
17	200000	165809	34191	4111031
18	200000	164441	35559	4075472
19	200000	163019	36981	4038491
20	200000	161509	38491	4000000
Total	4000000	3456373	543627
ans 4b	Balance Sheet
	Liabilities
	Bonds Payable	4000000
	Premium on Bonds Payable	506387	4506387
c)
1)	The amount of interest expense reported I for 2013 is (181015+180255)	361270
2)	If straight line amortization have been used tha the amortization per period would have been 543627/20= $27181.35. Sointerest expenses would have been 200000-27181= $172819 so for 2013 expenses would have been 172819*2= $345638. Hence bond interest expenses reported in 2013 is higher in effective method than straight line method
3)	Total cost of borrowing is total interest what we pay i.e $400000
4)	Total interest expense would be same whe we talk about whole life of the bond. As ultimately the total bond interest expense plus premium paid is same whether we use effect interest expense or straight line method. There is difference every year but not in total.
If any doubt please comment