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Impact of Discount and Premium

Impact of a Discount

Berol Corporation sold 20-year bonds on January 1, 2008. The face value of the bonds was $100,000; and they carry a 9% stated rate of interest, which is paid on December 31 of every year. Berol received $91,526 in return for the issuance of the bonds when the market rate was 10%. Any premium or discount is amortized using the effective interest method.

Required:

1. Prepare the journal entry to record the sale of the bonds on January 1, 2008, and the proper balance sheet presentation on this date.

2. Prepare the journal entry to record interest expense on December 31, 2008, and the proper balance sheet presentation on this date.

3. Explain why it was necessary for Berol to issue the bonds for only $91,526 rather thn $100,000.

Impact of a Premium

Assume the same set of facts for Berol Corporation as listed above except that it received $109,862 in return for the issuance of the bonds when the market rate was 8%.

Required:

1. Prepare the journal entry to record the sale of the bonds on January 1, 2008, and the proper balance sheet presentation on this date.

2. Prepare the journal entry to record interest expense on December 31, 2008, and the proper balance sheet presentation on this date.

3. Explain why the company was able to issue the bonds for $109,862 rather than for the face amount.

Solution Preview

Part 1: Impact of a discount

1. Journal Entry
Jan. 1, 2008 Cash 91,526
Discount on Bonds Payable 8,474
Bonds Payable 100,000

Balance Sheet Entry
Assets = Liabilities + Owners' Equity

+91,526 = -8,474 + 0
+100,000

2. Journal Entry
Dec 31, 2008 Interest Expense 9,153 ...

Solution Summary

Journal entries for sale of bonds records and interest expenses are given along with explanations of why Berol issued bonds at a value different to the face amount.

$2.19