If Salem Co. calls $10 million of these bonds it will report:
A) A $700,000 gain.
B) A $400,000 loss.
C) An unrealized gain.
D) Neither gains nor losses are recognized on early retirements of debt.

Question

Quizplus · Accepted Answer

When a bond is called, the company must pay the call price, which is typically higher than the book value of the bond. In this case, the book value of the bond is $9.6 million (96% of $10 million), but the call price is likely higher. Therefore, if the company calls the bonds, it will likely recognize a loss on early retirement of debt, resulting in choice (B).