Supplemental Topic B Accounting Help

Supplemental Topic B BONDS ISSUED AT A DISCOUNT OR A PREMIUM‘ Underwriters normally sell corporate bonds to investors either at par or at a price very close to par. Therefore, the underwriter usually purchases these bonds from the issuing corporation at a.discount-s-that is, at a price below par. The discount generally is quite small-perhaps 1% or 2% of the face amount of the bonds. When bonds are issued, the borrower records a liability equal to the amount received.

If the bonds are issued at a small discount-which is the normal case-this liability is slightly smaller than the face value of the bond issue. At the maturity date, of course. the issuing corporation must redeem the bonds at full face value. Thus, over the life of the bond issue, the borrower’s liability gradually increases from the original issue price to the maturity value. 80nd Discount: Part of the Cost of Borrowing When bonds arc issued at a discount, the borrower must repay more than the amount originally borrowed. ‘

Thus any discount in the issuance price becomes an additional cost of the overall borrowing transaction. In terms of cash outlays, the additional cost represented by the discount is not paid until the bonds mature. But the matching principle may require the borrower to recognize this cost gradually over the life of the bond issue. I After all, the borrower does benefit from the use of the borrowed funds throughout this entire period r LO 11 Accounting for Bond Discount: An Illustration, To illustrate assume that on January 1, 200 1, SCUBA TECH sells $1 million of 9%, 40- year bonds to an underwriter at a price of 98 ($980 for each bond).

On January I, 200 I. it receives $980,000 cash from the underwriter and records a liability of this amount.BONDS ISSUED AT A DISCOUNT OR A PREMIUM’ Underwriters normally sell corporate bonds to investors either at par or at a price very close to par. Therefore, the underwriter usually purchases these bonds from the issuing corporation at a.discount-s-that is, at a price below par. The discount generally is quite small-perhaps 1% or 2% of the face amount of the bonds. When bonds are issued, the borrower records a liability equal to the amount received. If the bonds are issued at a small discount-which is the normal case-this liability is slightly smaller than the face value of the bond issue. At the maturity date, of course. the issuing corporation must redeem the bonds at full face value.

Thus, over the life of the bond issue, the borrower’s liability gradually increases from the original issue price to the maturity value. 80nd Discount: Part of the Cost of Borrowing When bonds arc issued at a discount, the borrower must repay more than the amount originally borrowed. Thus any discount in the issuance price becomes an additional cost of the overall borrowing transaction. In terms of cash outlays, the additional cost represented by the discount is not paid until the bonds mature.

But the matching principle may require the borrower to recognize  this cost gradually over the life of the bond issue. I After all, the borrower does benefit from the use of the borrowed funds throughout this entire period r LO 11 Accounting for Bond Discount: An Illustration, To illustrate .•assume that on January 1, 200 1, SCUBA TECH sells $1 million of 9%, 40- year bonds to an underwriter at a price of 98 ($980 for each bond).

On January I, 200 I. it receives $980,000 cash from the underwriter and records a liability of this amount. Account for bonds Issued at a discount or premium.

If the amount of the discount is immaterial, it may be charged directly to expense as II matter of convenience . Supplemental

Topic 8 But when these bonds mature in 40 years, SCUBA TECH will owe its bondholders $1,000,000. Thus the comp to bondholders will increase by $20,000 over .toe life of the bond issue. This liability is illustrated below: Notice that the Long-term liability increasing very gradually at an average rate of $500  increase + 40-year life of the bond issue). When bonds arc issued, tof any discount is debited to an account entitled Discount Oil SCUBA TECH will record the issuance of these bonds as follows: Notice that the Long-term liability i~increasing very gradually at an average rate of $500 per year ($::!O.OOO increase + 40-year life of the bond issue). When bonds arc issued, the mount of any discount is debited to an account entitled Discount OilSCUBA TECH will record the issuance of these bonds as follows: Cash 980,000

Discount on Bonds Payable 20,000 Bonds Payable1,000,000 Issued $1,000.000 face value 40-year bonds to an underwriter at a price of 98 SCUBA TEqrs liability at the date of issuance will appear as follows: Long-term liabilities:

Bonds Payable Less: Discount on Bonds Payable . $1,000,000 20,000 $980,000 The debit balance account Discount on Bonds Payable is a contra-liability account. In the balance sheet, it is shown as a reduction in the amount of the long-term liability. Thus the net liability originally is equal to the amount borrowed:

Amortization of the Discount Over the 40-year life of the bond issue, adjusting entries are made to gradually transfer the balance in the Discount account into interest expense.

Thus the balance in the Discount account gradually declines, and the carrying value of the bonds face value less the amortized discount-rises toward the bonds’ maturity value. Assuming the bonds pay interest annually on December 31 each year, SCUBA TECH will make the following adjusting menu to amortize the bond discount: Interest Expense’ Discount on Bonds Payable 500 Recognized one year’s amortization of discount on 40-year bonds .payable ($20,000 originals discount x %0).

Notice that the Motioning liability increasing very gradually at an average rate of $500 per year ( increase + 40-year life of the bond issue). When bonds arc issued, the mount of any discount is debited to an account entitled Discount Oil Bonds SCUBA TECH will record the issuance of these bonds as follows: Cash 980,000 Discount on Bonds Payable . 20,000  Bonds Payable .1,000,00 Issued $1,000.000 face value 40-year bonds to an underwriter at a price of 98. SCUBA Tears liability at the date of issuance will appear as follows: Long-term liabilities Bonds Payable  Less:

Discount on Bonds Payable $1,000,000 20,000 $980,000 The debit balance account Discount on Bonds Payable is a contract liability account. In the balance sheet, it is shown as a reduction in the amount of the long-term liability.

Thus the net liability originally is equal to the amount borrowed: Amortization of the Discount Over the 40-year life of the bond issue, adjusting entries are made to gradually transfer the balance in the Discount account into interest expense.

Thus the balance in the Discount account gradually declines, and the carrying value of the bonds-face value less the unamortized discount-rises toward the bonds’ maturity  value.

Assuming the bonds pay interest annually on December 31 each year.

Posted on November 21, 2015 in Liabilities

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