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Chapter 14: Q2P (page 760)

(Issuance and Redemption of Bonds) Venezuela Co. is building a new hockey arena at a cost of \(2,500,000. It received a downpayment of \)500,000 from local businesses to support the project, and now needs to borrow \(2,000,000 to complete the project. It therefore decides to issue \)2,000,000 of 10.5%, 10-year bonds. These bonds were issued on January 1, 2016, and pay interest annually on each January 1. The bonds yield 10%.

Instructions

(a) Prepare the journal entry to record the issuance of the bonds on January 1, 2016.

(b) Prepare a bond amortization schedule up to and including January 1, 2020, using the effective-interest method.

(c) Assume that on July 1, 2019, Venezuela Co. redeems half of the bonds at a cost of $1,065,000 plus accrued interest. Prepare the journal entry to record this redemption.

Short Answer

Expert verified
  1. Journal entry record debit to cash, credit to bonds payable, and premium on bond payable.
  2. The bond's book value payable on 1 January 2020 is $2,043,559.
  3. The business entity will incur a loss of $41,938on redemption.

Step by step solution

01

Definition of Interest Payable

Interest payable can be defined as the interest expenses that are incurred by the business entity but are not paid to the creditor. These are reported under current liabilities by the business entity

02

Journal entry for the issuance

Date

Accounts and Explanation

Debit ($)

Credit ($)

1 Jan 2016

Cash

2,061,450

Bonds payable

2,000,000

Premium on bonds payable

61,450

Working note:

Particular

Amount $

Present value of bonds ($2,000,000脳11+0.1010)

$771,000

Present value of interest payment

($2,000,000脳10.5%脳1-11+0.10100.10)

$1,290,450

Present value

$2,061,450

03

Bond amortization schedule

Date

Interest payment at the stated rate on face value (10.5%)

Interest expenses at the market rate on the previous year book value (10%)

Amortized premium

Unamortized premium

Bond payable

Book value of bond payable

1 Jan 2016

$61,450

$2,000,000

$2,061,450

1 Jan 2017

$210,000

$206,145

$3,855

57,595

2,000,000

2,057,595

1 Jan 2018

210,000

205,759.5

4,240.5

53,354.5

2,000,000

2,053,354.5

1 Jan 2019

210,000

205,335.45

4,664.55

48,689.95

2,000,000

2,048,689.95

1 Jan 2020

210,000

204,868.995

5,131.005

43,558.945

2,000,000

2,043,558.945

04

Journal entry to record the redemption

Date

Accounts and Explanation

Debit ($)

Credit ($)

Entry for accrual

Interest expenses

51,217

Premium on bond payable

($5131.005脳12脳12)

1,283

Interest payable

($210,000脳12脳12)

52,500

Entry for reacquisition

Bond payable

1,000,000

Premium on bond payable

23,062

Loss on redemption

41,938

Cash

1,065,000

Working note:

Calculation of loss on redemption:

Particular

Amount $

Carrying amount of 1 Jan 2019

$2,048,689.95

Less: amortization of bond up to June 2019($5131.0052)

(2,565.5025)

Carrying amount on 1 July 2019

$2,046,124.4475

Half of bonds retired($2,046,124.44752)

$1,023,062.22

Calculation of gain or loss on redemption:

Particular

Amount $

Reacquisition price

$1,065,000

Less: Carrying value

($1,023,062.22)

Loss on redemption

($41,937.77)

Calculation of premium written off:

Particular

Amount $

Carrying value on 1 July 2019

$2,046,124.4475

Less: Par value

(2,000,000)

$46,124.4475

For 6months

$23,062.22

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Most popular questions from this chapter

Question: (Restructure of Note under Different Circumstances) Halvor Corporation is having financial difficulty and therefore has asked Frontenac National Bank to restructure its \(5 million note outstanding. The present note has 3 years remaining and pays a current rate of interest of 10%. The present market rate for a loan of this nature is 12%. The note was issued at its face value.

Instructions

The following are four independent situations. Prepare the journal entry that Halvor and Frontenac National Bank would make for each of these restructurings.

(a) Frontenac National Bank agrees to take an equity interest in Halvor by accepting common stock valued at \)3,700,000 in exchange for relinquishing its claim on this note. The common stock has a par value of \(1,700,000.

(b) Frontenac National Bank agrees to accept land in exchange for relinquishing its claim on this note. The land has a book value of \)3,250,000 and a fair value of \(4,000,000.

(c) Frontenac National Bank agrees to modify the terms of the note, indicating that Halvor does not have to pay any interest on the note over the 3-year period.

(d) Frontenac National Bank agrees to reduce the principal balance due to \)4,166,667 and require interest only in the second and third year at a rate of 10%.

E14-2 (L01) (Classification) The following items are found in the financial statements.

(a) Discount on bonds payable.

(b) Interest expense (credit balance).

(c) Unamortized bond issue costs.

(d) Gain on repurchase of debt.

(e) Mortgage payable (payable in equal amounts over next 3 years).

(f) Debenture bonds payable (maturing in 5 years).

(g) Notes payable (due in 4 years).

(h) Premium on bonds payable.

(i) Bonds payable (due in 3 years).

Instructions

Indicate how each of these items should be classified in the financial statements.

Fallen Company commonly issues long-term notes payable to its various lenders. Fallen has had a pretty good credit rating such that its effective borrowing rate is quite low (less than 8% on an annual basis). Fallen has elected to use the fair value option for the long-term notes issued to Barclay鈥檚 Bank and has the following data related to the carrying and fair value for these notes. Any changes in fair value are due to changes in market rates, not credit risk.

Carrying Value

Fair Value

December 31, 2017

\(54,000

\)54,000

December 31, 2018

44,000

42,500

December 31, 2019

36,000

38,000

Instructions

(a) Prepare the journal entry at December 31 (Fallen鈥檚 year-end) for 2017, 2018, and 2019, to record the fair value option for these notes.

(b) At what amount will the note be reported on Fallen鈥檚 2018 balance sheet?

(c) What is the effect of recording the fair value option on these notes on Fallen鈥檚 2019 income?

(d) Assuming that general market interest rates have been stable over the period, does the fair value data for the notes indicate that Fallen鈥檚 creditworthiness has improved or declined in 2019? Explain.

On January 1, 2017, Ellen Carter Company makes the two following acquisitions.

  1. Purchases land having a fair value of \(200,000 by issuing a 5-year, zero-interest-bearing promissory note in the face amount of \)337,012.
  2. Purchases equipment by issuing a 6%, 8-year promissory note having a maturity value of $250,000 (interest payable annually).

The company has to pay 11% interest for funds from its bank

Instructions

(Round answers to the nearest cent.)

  1. Record the two journal entries that should be recorded by Ellen Carter Company for the two purchases on January 1, 2017.
  2. Record the interest at the end of the first year on both notes using the effective-interest method.

(Amortization Schedule鈥擲traight-Line) Devon Harris Company sells 10% bonds having a maturity value of \(2,000,000 for \)1,855,816. The bonds are dated January 1, 2017, and mature January 1, 2022. Interest is payable annually on January 1.

Instructions

Set up a schedule of interest expense and discount amortization under the straight-line method. (Round answers to the nearest cent.)
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