Instructions On January 1, 2018, Kelly Corporation acquired bonds with a face va
ID: 2572609 • Letter: I
Question
Instructions On January 1, 2018, Kelly Corporation acquired bonds with a face value of $500,000 for $483,841.79, a price that yields a 10% effective annual interest rate. The bonds carry a 9% stated rate of interest, pay interest semiannually on June 30 and December 31, are due December 31, 2021, and are being held to maturity. Required: Prepare journal entries to record the purchase of the bonds and the first two interest receipts using the: 1. straight-line method of amortization 2. effective interest method of amortizationExplanation / Answer
Solution:
Part 1 ---- Journal Entries to record the purchase of the bonds and the first two interest receipts using Straight Line method of amortization
Under SLM method, the discount / premium on bonds are recognized over the life of bond. In SLM, each amortization amount remains same.
Semi Annual maturity period = 4*2 = 8
Issue Price of the Bonds = $483,841.79
Face Value / Maturity Value of the bonds =$500,000
Discount Received on Issue of the Bonds = $500,000 - $483,841.79 = $16,158.21
Amortization of Discount to be recognized on each payment = 16,158.21 / 8 = $2,019.78
Semi Annual Interest Receivable = Face Value x Stated Rate of Interest = $500,000 x 9% x ½ = $22,500
Date
Account Titles and Explanation
Debit
Credit
Jan.1
Investment in Held to Maturity Debt Securities
$483,841.79
Cash
$483,841.79
June.30
Interest Income
$24,519.78
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$2,019.78
Dec.31
Interest Income
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$2,019.78
Note—Above entry is to be passed on each semi annual interest payment and at the time of maturity of bonds investment, the balance will become in Investment in Held to Maturity Debt Securities $500,000 (i.e. face / maturity value of Bonds)
Part2 ---- Journal Entries to record the purchase of the bonds and the first two interest receipts using Effective Interest Rate Method
In this method, Interest Revenue is recognized by using Effective Interest Rate.
Interest Revenue/Income = Carrying Value of the Investment in bonds at the beginning of period x Effective Interest Rate x Semi Annual ½
Interest Revenue on June 30.
Book/Carrying Value of Investment = $483,841.79
Interest Income = $483,841.79 x 10% x ½ = $24,192.09
Amortization of Discount = Interest Income – Cash Interest Receivable = $24,192.09 - $22,500 = $1,692.09
Interest Income on Dec.31
Book Value of Bond Investment = $483,841.79 + Amortization of Discount $1,692.09 = $485,533.88
Interest Income = $485,533.88 x 10% x ½ = $24,276.69
Amortization of Discount = Interest Income – Cash Interest Receivable = $24,276.69 - $22,500 = $1,776.69
Date
Account Titles and Explanation
Debit
Credit
Jan.1
Investment in Held to Maturity Debt Securities
$483,841.79
Cash
$483,841.79
June.30
Interest Income
$24,192.09
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$1,692.09
Dec.31
Interest Income
$24,276.69
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$1,776.69
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Date
Account Titles and Explanation
Debit
Credit
Jan.1
Investment in Held to Maturity Debt Securities
$483,841.79
Cash
$483,841.79
June.30
Interest Income
$24,519.78
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$2,019.78
Dec.31
Interest Income
Interest Receivable
$22,500.00
Investment in Held to Maturity Debt Securities (Amortization Portion)
$2,019.78