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14 Cards in this Set
- Front
- Back
- 3rd side (hint)
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Reasons for Long-Term Liabilities
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1 Debt financing only source of funds
2 Debt may have lower cost 3 Debt financing has income tax advantages 4 Voting privilege is not shared 5 Opportunity for leverage |
Bond interest paid is tax deductible to corporations
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Premium on Bonds Payable
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An Adjunct Liability Account
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Added to the account (initially a credit)
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Discount on Bonds Payable
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A contra liability account
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Subtracted from the account (initially a debit)
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Bond Premium entry (corporation selling bonds)
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Dr Cash 107,721.71
Cr Bonds Payable 100,000 Cr Premium on Bonds 7,721.71 |
Int Expense
Dr Interest expense 5386.09 Dr Premium on Bond 613.91 Cr Cash 6000 Interest expense is less than payment |
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Bond Premium interest expense
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Dr Interest Expense 5386.09
Dr Premium on Bond 613.91 CR Cash 6000 Dr Interest Expense 5355.29 Dr Premium on Bond 644.61 Cr Cash 6000 |
Premium is deducted from original cash receipt. Next interest payment is calculated using new balance times effective interest rate until bond reaches the face value usually 100,000. Interest expense decreases each period (amortization increases) until face value is reached
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Bonds Discount (corporation selling)
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Originally recorded
Dr Cash 92976.39 Dr Discount Bonds 7023.61 Cr Bonds Payable 100,000 |
Interest Expense
Dr Interest Expense 6508.35 Cr Discount on Bonds 508.35 Cr Cash 6000 |
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Bond Discount Interest Expense
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Dr Interest Expense 6508.35
Cr Discount on Bonds 508.35 Cr Cash 6000 Dr Interest Expense 6543.93 Cr Discount on Bonds 543.93 Cr Cash 6000 |
Discount is added back to original cash receipt. Each new interest payment includes previous additions (discount) added back to original amt until face value is reached. Interest Expense Increases and bond discount increases until face value is reached
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Par
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Contract rate or Yield
Interest Expense = Interest Paid Contract rate = effective interest rate or current market rate |
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Premium
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Yield < Contract Rate
Interest Expense < Interest Paid |
You Pay a higher rate for the bond because interest rate is greater than current market rate. Investors bid up higher price to get desired effective rate
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Discount
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Yield>Contract Rate
Interest Expense > Interest Paid |
Bond sold at a discount because it needs to increase the rate of return to equal the current market rate. Price is bid lower to increase the interest rate. Interest expense is greater than coupon rate because coupon rate was not high enough
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Effective Interest Rate =
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Market Rate
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Contract Rate or Coupon rate =
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Interest rate stated on the Bond
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Retiring a Premium Bond
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Dr Bond Payable
Dr Unamortized premium Dr Interest Payable (If retired between interest payments) Dr Loss on Bond Retirement (Retirement price - book value) Cr Cash |
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Retiring a Discount Bond
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Dr Bond Payable
Dr Loss on Retirement (Retirement price - Book Value) Cr Unamortized discount on Bonds Payable Cr Cash |
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