Question

On January 1, a company issues bonds dated January 1 with a par value of $730,000. The bonds mature in 3 years. The contract rate is 10%, and interest is paid semiannually on June 30 and December 31. The bonds are sold for $718,000. The journal entry to record the first interest payment using straight-line amortization is:
a. Debit interest expense $38,500; credit discount on bonds payable $2,000; credit cash $36,500
b. debit interest payable $36,500; credit cash $36,500
c. debit interest expense $36,500; credit premium on bonds payable $2,000; credit cash $34,500
d. debit interest expense $36,500; credit cash $36,500
e. debit interest expense $34,500; debit discount on bonds payable $2,000; credit cash $36,50

Answer 1

Answer:

a. Debit interest expense $38,500; credit discount on bonds payable $2,000; credit cash $36,500

Explanation:

As the bonds are sold less than the face vaue then it is said the bonds are issued on discount, we need to calculate the discount on the bond

Discount on the bond = Face value of bond - Issuance value of bond = $730,000 - $718,000 = $12,000

The discount will be amortized over the life of the bond

The first interest and its amortization is as follow

Cash Payment = Face value x Coupon rate x Semiannual fraction = $730,000 x 10% x 6/12 = $36,500

Amortization of discount on bond = Discount on Bond / Total Numbers of periods = $12,000 / ( 3 years x 2 payment period per year ) = $2,000 per eperiod

The cash will be credited by $36,500

The bond liability will be credited by $2,000

Hence the interest exepense will be debited by $38,500 ( $36,500 + $2,000 )