On January 1 of Year 1,Congo Express Airways issued $3,500,000 of 7% bonds that pay interest semiannually on January 1 and July 1.The bond issue price is $3,197,389 and the market rate of interest for similar bonds is 8%.The bond premium or discount is being amortized at a rate of $10,087 every six months.After accruing interest at year end,the company's December 31,Year 1 balance sheet should reflect total liabilities associated with the bond issue in the amount of:
A)$3,217,563.
B)$3,340,063.
C)$3,782,437.
D)$3,780,000.
E)$3,902,500.

Question

Quizplus · Accepted Answer

First, we need to calculate the total amount of interest expense for the year. The face value of the bonds is $3,500,000 with a coupon rate of 7%, so the annual interest payment is $245,000 ($3,500,000 x 0.07). Since interest is paid semiannually, the interest expense for each six-month period is $122,500 ($245,000 / 2).
Next, we need to calculate the amount of bond premium or discount. The issue price of the bonds is $3,197,389, which is less than the face value of $3,500,000, so there is a bond discount. The total bond discount is $302,611 ($3,500,000 - $3,197,389).
The bond premium or discount is being amortized at a rate of $10,087 every six months. Since interest is paid semiannually, the bond amortization for each six-month period is also $10,087.
Using these numbers, we can calculate the interest expense and bond amortization schedule for the year:
Period 1: 
Interest expense: $122,500
Bond amortization: $10,087
Period 2: 
Interest expense: $122,500
Bond amortization: $10,087
Period 3: 
Interest expense: $122,500
Bond amortization: $10,087
Period 4: 
Interest expense: $122,500
Bond amortization: $10,087
Total interest expense for the year: $490,000
Total bond amortization for the year: $40,348 ($10,087 x 4)
To find the amount of total liabilities associated with the bond issue on the December 31, Year 1 balance sheet, we need to add the face value of the bonds ($3,500,000) to the remaining unamortized bond premium or discount. Since we've already accounted for $40,348 of bond amortization, the remaining unamortized bond discount is $262,263 ($302,611 - $40,348). Therefore, the total liabilities associated with the bond issue on the balance sheet should be $3,762,263 ($3,500,000 + $262,263), which corresponds to answer choice B.

On January 1 of Year 1,Congo Express Airways Issued $3,500,000