Question

Interest Rate Swap On January 1, 2013, Marshall Corp. issues $500,000 in 5.0% fixed rate debt with interest payments due every six months. Concurrently, Marshall enters into an interest rate swap in which it receives 5.0% fixed and pays variables at average LIBOR + 65 bp on a nontional amount of $500,000. On June 30, 2013, LIBOR averaged 3.2% during the six-month period. The estimated fair value of the swap to Marshall increased $50,000 on June 30, 2013, and the fair value of the debt is $550,000. a. Prepare the journal entries made by Marshall on January 1 and June 30 in connection with the debt issuance, the periodic interest, and value changes in the swap and debt.

Did market interest rates increase or decrease during this period? How do you know?

The market interest rates decreased, since the present value of the debt decreased.

The market interest rates increased, since the present value of the debt increased.

The market interest rates decreased, since the present value of the debt increased.

The market interest rates increased, since the present value of the debt decreased.

b. Suppose instead that Marshall issued variable rate debt and entered a swap in which it receives variable and pays fixed. If the market rate of interest on its variable rate debt declines, does Marshall recognize a gain or loss on the swap and what is its accounting treatment?

Answer 1

Date	Account Titles and Explanation	Debit	Credit
Jan 1,2013	Cash	$500,000.00
	Notes Payable		$500,000.00
	(To record Debt Issuance)
June 30, 2013	Interest Expenses ($500,000 x 5% x 6/12)	$12,500.00
	Cash		$12,500.00
	(To Record semiannual interest payment)
June 30, 2013	Cash	$2,875.00
	Interest Expense		$2,875.00
	(To record counterpart to Swap)
	$12,500 - ($500,000 x (3.2%+.65%) x 6/12)
June 30, 2013	Investments in Swaps ($550,000 - $500,000)	$50,000.00
	Gain In Hedging		$50,000.00
	(To Record Swap Change)
June 30, 2013	Loss on Hedging ($550,000 - $500,000)	$50,000.00
	Notes Payable		$50,000.00
	(To record Debt Change)
Did market interest rates increase or decrease during this period? How do you know?
The market interest rates decreased, since the present value of the debt increased.	Maket rate of return and debt price are inversely related.If market interest rate will increase the price of debt will decrease and vice versa.
b)
Suppose instead that Marshall issued variable rate debt and entered a swap in which it receives variable and pays fixed.If the market rate of interest on comparable fixed-rate debt declines on June 30, does Marshall record the fair value of the swap as an asset or a liability?
Liability
c)
If the market rate of interest on its variable rate debt declines, does Marshall recognize a gain or loss on the swap and what is its accounting treatment?
recognize a loss as other comprehensive income