Bonds and Long-Term Notes

Sid Glandon, DBA, CPA

Assistant Professor of Accounting
Long-Term Debt
 Bonds payable
 Long-term notes payable
 Mortgages payable
 Pension liabilities
 Lease liabilities
Bonds Payable
 Bond indenture
 Promise to pay principle amount at
maturity date
 Promise to pay periodic interest at
stated rate on face (maturity) value
Valuation of Bonds Payable
 Present value of
 Principle discounted at market rate
 Interest (ordinary annuity) discounted
at market rate
 Sold at a premium
 Market rate of interest < Stated rate
 Sold at a discount
 Market rate of interest > Stated rate
 Bonds Issued at a Discount

ACCOUNT DEBIT CREDIT

Cash 855,000
Discount on bonds payble 45,000
Bonds payable 900,000

Bonds issued at 95
 Bonds Issued at a Premium

ACCOUNT DEBIT CREDIT

Cash 945,000
Bonds payable 900,000
Premium on bonds payable 45,000

Bonds issued at 105

Amortization of Premium or Discount

 Amortization of premium
 Reduces interest expense
 Amortization of discount
 Increases interest expense
Bonds Issued between Interest Dates

 Buyer pays seller for accrued

interest up to the date of purchase
 Purchaser receives full interest
payment on the interest payment
date
 Example:
Bonds Issued between Interest Dates

ACCOUNT DEBIT CREDIT

Cash 907,500
Bonds payable 900,000
Interest expense 7,500

10% bonds issued at par on February 1 dated Janurary 1

Interest is payable on January 1 of each year
Effective Interest Method
 Bond interest expense
 Multiply carrying value of bonds times effective
interest rate
 Bond interest paid
 Multiply face amount of bonds times stated
interest rate
 Amortization of premium or discount
 Subtract interest paid from interest expense
 Bond Issue Price
Issue price of bonds payable

$900,000, 5-year, 10% (payable annually) bonds issued to yield 12%

Present value of principal:

Face amount $900,000
PV of $1, n=5, i=12% 0.56743
PV of principal $510,687
Present value of annuity:
Face amount 900,000
Stated interest rate 10%
Annuity 90,000
PVOA, n=5, i=12% 3.60478
PV of annuity 324,430
Issue price of bonds $835,117
 Journal Entry to Record Issue
ACCOUNT DEBIT CREDIT
Cash 835,117
Discount on bonds payable 64,883
Bonds payable 900,000
To record the issuance of $900,000, 5-year, 10% bonds to yield 12%
Amortization Schedule
Schedule of Amortization of Discount
Effective Interest Method
5-Year, 10% Bonds Sold to Yield 12%

Interest Amortization Carrying

Date Payment Expense of Discount Value
1/1/01 835,117
1/1/02 90,000 100,214 10,214 845,331
1/1/03 90,000 101,440 11,440 856,771
1/1/04 90,000 102,813 12,813 869,584
1/1/05 90,000 104,350 14,350 883,934
1/1/06 90,000 106,066 16,066 900,000
450,000 514,883 64,883
Bond Issue Costs
 Record as deferred charge (asset)
 “Unamortized Bond issue costs”
 Amortize over the life of the bonds
 Use of straight-line method is ok
 Journal Entry for January 1, 2002
Interest Payment
DATE ACCOUNT DEBIT CREDIT
1/1/02 Interest expense 100,214
Amortization of discount 10,214
Cash 90,000
To record the payment of interest and amortization of discount on January 1, 2002
Extinguishment of Debt
 Before maturity date of bonds
 Amortization must be brought
current
 Discount
 Premium
 Unamortized bond issue costs
 Gain or loss is classified as separate
line item, part of ordinary income
Long-Term Notes Payable
 Valued as the present value of
 Future principle payments, and
 Future interest payments
 Premium or discount is amortized
over life of loan
Types of Long-Term Notes
 Interest-Bearing Notes
 Issued at par
 Issued at less than market rate
 Zero-Interest-Bearing Notes
 Calculate discount
 Amortize discount as interest expense
for each period over the life of the loan
 Zero-Interest-Bearing Note
Zero-Interest-Bearing, 5-Year, 10% $100, 000 Note

Maturity Value 100,000

Principle 100,000
PV of $1, n=5, i=10% 0.62092
Carrying value 62,092
Discount on Note Payable 37,908
 Journal Entry

ACCOUNT DEBIT CREDIT

Cash 62,092
Discount on note payable 37,908
Note Payable 100,000

Zero-Interest-Bearing, 5-Year, 10%, $100,000 Note

 Amortization Schedule
Amortization Schedule on Discounted Note
Zero-Interest Bearing, 5-Year, 10% Note of $100,000

Cash Interest Discount Carrying

Date Paid Expense Amortization Amount
01/01/2001 62,092
01/01/2002 0 6,209 6,209 68,301
01/01/2003 0 6,830 6,830 75,131
01/01/2004 0 7,513 7,513 82,644
01/01/2005 0 8,264 8,264 90,909
01/01/2006 0 9,091 9,091 100,000