Answer:
Under the effective interest method, as a bond approaches maturity, the interest expense decreases while the amortization of the bond premium increases.
Explanation:
E.g. a company issues $800,000 in 8% bonds when the market rate is 7%, so the bonds price is $856,850 (semiannual coupons are paid).
Journal entry to record the issuance
Dr Cash 856,850
Cr Bonds payable 800,000
Cr Premium on bonds payable 56,850
amortization of bond premium on first coupon payment:
($856,850 x 3.5%) - ($800,000 x 4%) = $29,989.75 - $32,000 = -$2,010.25 ≈ -$2,010
Journal entry to record first coupon payment:
Dr Interest expense 29,990
Dr Premium on bonds payable 2,010
Cr Cash 32,000
amortization of bond premium on second coupon payment:
($854,840 x 3.5%) - ($800,000 x 4%) = $29,919.40 - $32,000 = -$2,080.60 ≈ -$2,081
Journal entry to record second coupon payment:
Dr Interest expense 29,919
Dr Premium on bonds payable 2,081
Cr Cash 32,000
