Question

On January 1, Ozone Inc. sells bonds with a face value of $1,000,000 and a contractual interest rate of 10% for $800,000. The bonds will mature in 10 years. Using the straight-line method of amortization, how much interest expense will be recognized in the first year?

Answer 1

Interest expense for the year = $80,000

Since the contractual interest rate is of 10% on $800,000. Therefore, annual interest cost = $80,000, amortization is done on cost of bonds that is $800,000 here though the face value is $1,000,000 but since issue price is $800,000 that cost only shall be amortized in the entire period.

Interest cost is not amortized and charged every year, as an expense in income statement. And it will not depend on book value of bonds after amortization.

Therefore interest expense for the year = $80,000