Question

On February 1, 2018, Wolf Inc. issued 10% bonds dated February 1, 2018, with a face amount of $270,000. The bonds sold for $323,440 and mature in 20 years. The effective interest rate for these bonds was 8%. Interest is paid semiannually on July 31 and January 31. Wolf's fiscal year is the calendar year. Wolf uses the effective interest method of amortization.
Required:
1. Prepare the journal entry to record the bond issuance on February 1, 2018.
2. Prepare the entry to record interest on July 31, 2018.
3. Prepare the necessary journal entry on December 31, 2018.
4. Prepare the necessary journal entry on January 31, 2019.

Answer 1

Answer:

Required 1

Cash $323,440 (debit)

Bonds Payable $323,440 (credit)

Required 2

Interest Expense $12,938 (debit)

Bond Payable $12,938 (credit)

Required 3

J1

Interest Expense $12,961 (debit)

Bond Payable $12,961 (credit)

Interest accrued on Bond

J2

Bond Payable $12,938 (debit)

Cash $12,938 (credit)

Interest Cash outflow

Required 4

J1

Interest Expense $12,961 (debit)

Bond Payable $12,961 (credit)

Interest accrued on Bond

J2

Bond Payable $12,938 (debit)

Cash $12,938 (credit)

Interest Cash outflow

Explanation:

First, determine the coupon payments as follows :

FV = ($270,000)

PV = $323,440

N = 20

P/yr = 1

I = 8%

PMT = ?

Using a Financial Calculator, the annual coupon payments will be $27,042 ($12,938 semi-annually).

July 31,2018

Effective Interest Calculation

Effective Interest = $323,440 × 8% × 1/2

                            = $12,938