A company issued 7%, 5-year bonds with a par value of $100,000. The market rate when the bonds were issued was 7.5%. The company received $97,947 cash for the bonds. Using the effective interest method, the amount of interest expense for the first semiannual interest period is:
A) $3,500.00.
B) $3,673.01.
C) $3,705.30.
D) $7,000.00.
E) $7,346.03.

Question

Quizplus · Accepted Answer

The interest expense using the effective interest method is calculated by multiplying the carrying amount of the bonds at the beginning of the period by the market interest rate at the time of issuance. Since the market rate is 7.5% annually, for a semiannual period it is 3.75% (7.5% / 2). The carrying amount of the bonds at issuance is $97,947. Therefore, the interest expense for the first semiannual period is $97,947 * 3.75% = $3,673.01.

A Company Issued 7%, 5-Year Bonds with a Par Value