Master Corporation owns 85 percent of Servant Corporation's voting shares.On January 1,2008,Master Corporation sold $200,000 par value 8 percent bonds to Servant for $245,000.The bonds mature in 10 years and pay interest semiannually on January 1 and July 1.
-Based on the information given above,in the preparation of the 2008 consolidated financial statements,premium on bonds payable will be:

Question

Quizplus · Accepted Answer

The consolidation process involves eliminating the intercompany transactions between Master Corporation and Servant Corporation to avoid double counting. In this case, Master Corporation issued bonds to Servant Corporation, which means that there is interest expense recorded in Master's financial statement and interest revenue recorded in Servant's financial statement.

To eliminate the intercompany transaction of the bond, we need to eliminate the interest expense and interest revenue recognized by each company. Master Corporation will eliminate the interest expense recorded on its financial statement and will recognize only the interest expense that Servant Corporation incurred. On the other hand, Servant Corporation will eliminate the interest revenue recorded on its financial statement and will recognize only the interest expense incurred by Master Corporation.

Since the bond was sold at a premium, Servant Corporation paid more than the face value of the bond. Thus, the premium on the bond payable should be amortized over the life of the bond, and the amortization amount will reduce the interest expense that Servant Corporation will recognize. The value of the premium amortized in 2008 is $4,500 ($45,000 premium divided by ten years maturity) for six months, and thus, the premium on bonds payable will be debited for $4,500 in the eliminating entries. Since Master Corporation did not recognize any premium on the bond, it will not affect its financial statements.

Therefore, the correct answer is C – debited for $40,500 in the eliminating entries.

Master Corporation Owns 85 Percent of Servant Corporation's Voting Shares