On July 1, 2013, the Jazz Corporation issues $4,000,000 of 10-year bonds dated July 1, 2013, at 89 when the market rate of interest was 8%. Jazz Corporation uses the effective-interest method of amortization. Interest is paid each June 30 and December 31. The entry to record the first semi-annual interest payment on December 31, 2013, will include a:

Question

Quizplus · Accepted Answer

Under the effective-interest method, the interest expense for each period is calculated by multiplying the carrying value of the bonds at the beginning of the period by the effective interest rate. The effective interest rate is the market rate at the time of issuance adjusted for the discount or premium amortization. In this case, the effective interest rate would be 8.25% (8% + (100-89)/10), and the carrying value of the bonds at the beginning of the first period would be $3,600,000 (the face value of $4,000,000 less the discount of $400,000). Therefore, the interest expense for the first period (6 months) would be $149,400 ($3,600,000 x 8.25% x 6/12). Since the interest payment on December 31, 2013, is only for 6 months, the interest expense will be reduced by $7,000 ($149,400 - $142,400), and the entry to record the payment would be a debit to Interest Expense for $142,400 and a credit to Cash for the same amount. There is no need to make any adjustment to the discount or premium accounts at this point.

On July 1, 2013, the Jazz Corporation Issues $4,000,000 of 10-Year