I'm Larry Walther, this is principlesofaccounting.com,
Chapter 13 on long-term obligations.
And in this module, we will consider special considerations that relate to
bonds that are issued between interest payment dates as well as bond retirements.
Now, a bond might be issued between an interest date.
It might be dated, for example in this case, dated April 1, 20X1,
but for some reason, it was delayed in its issuance until June 1.
So we've got $100,000 of 12% bonds, so that'll involve $12,000
a year of interest, or let's just say $1,000 a month of interest.
They're dated on April 1 but it's two months later.
April passes and May passes,
it's two months later until the bonds are actually issued.
And nevertheless,
the first interest payment's going to occur on September 30th, six months
after the date of the bonds, four months after the issuance of the bonds.
In effect, interest for April and
May has already accrued at the time the bonds are issued.
So that calculates to be the $2,000 amount,
$100,000 times 12% times two-twelfths.
So when Thompson issues the bonds, they're actually going to collect, in addition to
the issue price of the bond, they're going to collect the accrued interest of $2,000.
Four months later, they're going to pay a full six months of interest,
essentially giving back the 2,000 and 4,000 more.
It wouldn't have to be this way.
It's just the way it is because bonds customarily
tie their interest payment dates to a corresponding schedule of payment.
So the market exchange of the $2,000 in a way simplifies the bookkeeping.
It doesn't necessitate keeping track on a daily basis of who has bonds and
how long those bonds are outstanding.
The net difference of 4, 000 will correspond to entries for June,
July, August, September.
So let's look at some journal entries here.
Here is the issue date, we debit cash $102,000.
That's the $100,000 issue price plus $2,000 of accrued interest.
Then, on September 30, we turn around and pay credit, cash $6,000.
We turn around and pay that $6,000, debiting $4,000 to expense and
repaying interest payable of $2,000, that'll offset the interest payable.
Recognize also that end of period entries may need to include adjustments of
interest expense for the amortization of premiums or
discounts relating to elapsed periods of time.
Now considering bonds retired early,
a company may on occasion retire its bonds early.
It may have generated sufficient cash flows from operations and
it simply wants to pay off its debt to stop incurring interest costs, or
interest rates may have changed, and the company wants to take advantage of more
favorable borrowing opportunities by refinancing at a lower rate.
Now in this case, I'm going to assume a company is retiring 200,000 face amount of
its 6% bonds payable.
The last interest payment occurred on April 30th,
we're trying to retire these bonds on June 30th.
So May and June have elapsed since we last paid interest, and
we're paying off the bond at the end of June.
I also assume the unamortized discount as of April 30th was $6,000.
Assume there was five years remaining on the life of the bond as of April 30th
20X5, and assume that the repurchase price for
the bond is 200,000 plus any accrued interest.
So we've got a lot of facts there.
Let's look at a journal entry.
First, we need to bring the accounting for interest up to date.
We're going to debit interest expense 2,200, credit interest payable, 2,000.
That's two months worth of interest to the 1,000 a month.
And I'm assuming we have $200 of discount that are amortized.
There was $6,000 total discount spread over 5 years or 60 months or
a $100 dollars a month here.
So right before retirement, what I'm saying is we bring the accounting for
the bond up to date.
We accrue the interest, we amortize any premium or discount.
We get everything up to snuff as of June 30th.
Then we can remove the bonds from the books.
So here in this entry I'm paying $212,000 to retire the bonds.
That's $210,000, the call price for the bonds and $2000 for
the accrued interest payable.
Hence my credit to cash of 212.
I'm removing the bonds payable from the books,
that's the debit bonds payable 200,000
along with the unamortized discount of $5,800 credit discount on bonds payable.
So that gets the bonds off the books and it gets the cash off the books.
I'm also relieving the interest payable that I set up in the previous entry so
I'm sweeping everything away.
And I'm left with a debit to balance of 15,800.
What this means is it took $15,800 more in cash to
pay off the debt than was its up-to-date carrying value.
That's the appropriate entry.
That would be a loss recorded.
We could have needed a credit to balance, in which case it would have been a gain.
This illustration is repeated in the book, and
I've gone through it fairly quickly here in this video.
You might wanna go back and actually tie out the mathematics by looking at
the illustration in the text book.
There's simply a lot of moving pieces here to pin down.
I need you to really stop and maybe get out a pencil and paper and think about it.
This certainly reflects the principles that are appropriate, however.