On January 1,your company issues a 5-year bond with a face value of $10,000 and a stated interest rate of 7%.The market interest rate is 5%.The issue price of the bond was $10,866.Using the effective interest method of amortization,the interest expense in the first year ended December 31 would be:

Question

Quizplus · Accepted Answer

The effective interest method of amortization allocates the difference between the interest expense (calculated using the market interest rate) and the interest payable (calculated using the stated interest rate) to the bond discount or premium over its life.

Step 1: Calculate the interest payable for the year using the stated interest rate: 
$10,000 x 7% = $700

Step 2: Calculate the interest expense for the year using the market interest rate: 
($10,000 x 5%) + ($10,866 - $10,000) x 5% = $500 + $43.30 = $543.30

Step 3: Calculate the bond discount amortization for the year: 
$543.30 - $700 = -$156.70

Since the bond was issued at a premium, the bond discount is negative.

Therefore, the interest expense in the first year ended December 31 would be $543.30.

On January 1,your Company Issues a 5-Year Bond with a Face