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



Sold at a premium


Principle discounted at market rate
Interest (ordinary annuity) discounted
at market rate
Market rate of interest < Stated rate
Sold at a discount

Market rate of interest > Stated rate
Bonds Issued at a Discount
ACCOUNT
Cash
Discount on bonds payble
Bonds payable
Bonds issued at 95
DEBIT
855,000
45,000
CREDIT
900,000
Bonds Issued at a Premium
ACCOUNT
Cash
Bonds payable
Premium on bonds payable
Bonds issued at 105
DEBIT
945,000
CREDIT
900,000
45,000
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
Cash
Bonds payable
Interest expense
DEBIT
907,500
10% bonds issued at par on February 1 dated Janurary 1
Interest is payable on January 1 of each year
CREDIT
900,000
7,500
Effective Interest Method

Bond interest expense


Bond interest paid


Multiply carrying value of bonds times effective
interest rate
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
PV of $1, n=5, i=12%
PV of principal
Present value of annuity:
Face amount
Stated interest rate
Annuity
PVOA, n=5, i=12%
PV of annuity
Issue price of bonds
$900,000
0.56743
$510,687
900,000
10%
90,000
3.60478
324,430
$835,117
Journal Entry to Record Issue
ACCOUNT
DEBIT
835,117
64,883
CREDIT
Cash
Discount on bonds payable
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%
Date
1/1/01
1/1/02
1/1/03
1/1/04
1/1/05
1/1/06
Payment
90,000
90,000
90,000
90,000
90,000
450,000
Interest
Expense
100,214
101,440
102,813
104,350
106,066
514,883
Amortization
of Discount
10,214
11,440
12,813
14,350
16,066
64,883
Carrying
Value
835,117
845,331
856,771
869,584
883,934
900,000
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
Principle
PV of $1, n=5, i=10%
Carrying value
Discount on Note Payable
100,000
100,000
0.62092
62,092
37,908
Journal Entry
ACCOUNT
Cash
Discount on note payable
Note Payable
DEBIT
62,092
37,908
Zero-Interest-Bearing, 5-Year, 10%, $100,000 Note
CREDIT
100,000
Amortization Schedule
Amortization Schedule on Discounted Note
Zero-Interest Bearing, 5-Year, 10% Note of $100,000
Date
01/01/2001
01/01/2002
01/01/2003
01/01/2004
01/01/2005
01/01/2006
Cash
Paid
Interest
Expense
0
0
0
0
0
6,209
6,830
7,513
8,264
9,091
Discount
Amortization
6,209
6,830
7,513
8,264
9,091
Carrying
Amount
62,092
68,301
75,131
82,644
90,909
100,000