Question

On January 1, 2021, Tennessee Harvester Corporation issued debenture bonds that pay interest semiannually on June 30 and December 31. Portions of the bond amortization schedule appear below:

Payment		Cash Payment		Effective Interest		Increase in Balance		Outstanding Balance
								7,041,478
1		340,000		352,074		12,074		7,053,552
2		340,000		352,678		12,678		7,066,230
3		340,000		353,311		13,311		7,079,541
4		340,000		353,977		13,977		7,093,518
5		340,000		354,676		14,676		7,108,194
6		340,000		355,410		15,410		7,123,604
~		~		~		~		~
~		~		~		~		~
~		~		~		~		~
38		340,000		413,426		73,426		8,341,950
39		340,000		417,098		77,098		8,419,048
40		340,000		420,952		80,952		8,500,000

Required:
1. What is the face amount of the bonds?
2. What is the initial selling price of the bonds?
3. What is the term to maturity in years?
4. Interest is determined by what approach?
5. What is the stated annual interest rate?
6. What is the effective annual interest rate?
7. What is the total cash interest paid over the term to maturity?
8. What is the total effective interest expense recorded over the term to maturity?

Answer 1

1) The face value of the bonds= $8500000

2) The initial selling price of the bonds= $7041478

3) The term to maturity in years= 20 years

As the interest is paid semiannually and the interest is paid for 40 times that means the maturity in years= 40/2= 20 years

4) Interest is determined by effective interest rate approach as when the interest is determined by the straight line method the interest expense over the life of the bonds are equal and in this case they are not equal. So, interest is determined by the effective interest rate method.

5) The stated annual rate semiannually= $340000*100/8500000= 4%

The stated annual rate= Stated annual rate semiannually*2

= 4%*2= 8%

6) The effective annual interest rate semiannually= $352074*100/7041478= 5%

The effective annual interest rate= Effective annual interest rate semiannually*2

= 5%*2= 10%

7) The total cash interest paid over the term to maturity= $340000*40= $13600000

8) Discount on bonds payable= $8500000-7041478= $1458522

The total effective interest expense recorded over the term to maturity= Total cash interest paid+Discount on bonds payable

= $13600000+1458522= $15058522