Question

A company issues term bonds totaling $300,000 on January 1, 2014. The bonds have a coupon rate of 5%, pay interest semi-annually on January 1st and July 1st of each year, and mature in 10 years.

Calculate the bond issue price assuming that the prevailing annual market rate of interest is: 5%, 4%

As applicable, prepare a bond discount or bond premium amortization schedule based on the effective-interest method.

As applicable, record the applicable journal entries in 2014 (1/1/2014, 7/1/14, 12/31/14).

1) 5% Annual market rate of interest (at par) Since the coupon rate equals the prevailing market rate (both 5%), there is no bond discount or premium. And since there is no bond discount or premium, there is no need for an amortization table.

N= I/Y= PV= PMT= FV= The bond issue price equals:

Semi-annual interest is equal to:

Applicable journal entries (first year, 1/1/2014, 7/1/14, 12/31/14):

2) 4% Annual market rate of interest (Bond premium) In this scenario, the coupon rate of 5% is greater than the prevailing market rate of 4%. Therefore, this bond will be issued at premium.

N= I/Y= PV= PMT= FV= The bond issue price equals:

Amortization Schedule:

3) 6% Annual Market rate of interest (bond discount) In this scenario, the coupon rate of 5% is less than the prevailing market rate of 6%. Therefore, this bond will be issued at a discount.

N= I/Y= PV= PMT= FV= The bond issue price equals:

Amortization Schedule:

Answer 1

1. Ifannual market rate of interest is 5%, then it means it is equal to coupon rate which means bond will be issued ar par i.e. bond will be issued for $300000 and this there will be no requirement for bond amortization table or schedule and journal entries in this case will be as follows :-

Date	general journal	debit	credit
1/1/2014	cash Bonds payable (To bond issued at par value )	300000	300000
7/1/2014	interest exp Cash (Interest on bond payable semi annually as 300000x5%x6/12)	7500	7500
12/31/14	interest exp Cash (To interest payable on bonds semi annually )	7500	7500

2. Since market rate of interest is 4% and coupon rate of bond is 5% , hence bonds will be issued at premium. Bond price will be calculated as follows

7500xpvaf(2%, 20)+300000xpvif (2%,20)

7500x16.3514+300000x0.6730

= 122635+201900

= $324535.

Amortization schedule will be as follows :-

(A) Period	(B) interest payment (coupon)	(C= market rate previous bv in g) interest expense (market rate)	(D = c-b) amortization of bond premium	(E) balance in premium	(F) balance in bond payable	(G = F+E) book value of bonds
1/1/14				24535	300000	324535
7/1/14	7500	6491	(1009)	23526	300000	323526
12/31/14	7500	6471	(1029)	22497	300000	322497

Journal entries will be as follows :-

Date	general journal	debit	credit
1/1/14	cash Bonds payable Premium on bonds payable (To bonds issued at premium)	324535	300000 24535
7/1/14	interest expense Premium on bonds payable Cash (To bonds interest paid)	6491 1009	7500
12/31/14	interest exp Premium on bonds payable Cash (To interest on bonds paid)	6471 1029	7500

3 . If market rate of interest is 6%, it means bonds has to be issued at discount. Bond price will be calculated as follows :-

7500xpvaf (3%,20)+300000xpvif (3%, 20)

= 7500x14.8775+300000x0.5537

= 111581+166110

= $277690.

Discount on issue of bond = 300000-277690 = $22310

Amortization schedule will be as follows :-

(A) to Period	(B = 2.5% of fv) interest payment	(C = 3% of previous by) Interest expense	(D = C-B) Amortization of bond discount	(E) Balance in bond discount	(F) Balance in bond payable	(G = F-E) Book value of bond
1/1/14				22310	300000	277690
7/1/14	7500	8330	830	21480	300000	278520
12/31/14	7500	8355	855	20625	300000	279375

Journal entries will be as follows :-

Date	general journal	debit	credit
1/1/14	Cash Discount on bonds payable Bonds payable (To bonds issued at discount(	277690 22310	300000
7/1/14	interest exp Discount on bonds payable Cash (To interest on bonds paid)	8330	830 7500
12/31/14	interest exp Discount in bonds payable Cash (To interest on bonds paid)	8355	855 7500

Note :-

Kindly note that there may be minute rounding off problem. Please take care of it.