Question

Silk Company issued $500,000 of 7%, 10-year bonds on one of its interest dates for $431,850 to yield an effective annual rate of 9%. The effective-interest method of amortization is to be used. Interest is paid annually. The journal entry on the first interest payment date, to record the payment of interest and amortization of discount will include a

Answer 1

interest expense 38,866.5 debit

discount on bond payable 3,866.5 credit

cash 35,000 credit

Step-by-step explanation:

The effective method calculates the interest expense considering the carrying value and the market rate. Then, the difference with the coupon payment is amortization of the premium or discount

carrying value (issued price of the bonds) 431,850

market rate: 9%

interest expense: 431,850 x 9% = 38,866.5

coupon payment 500,000 x 7% = 35,000

this is the cash outlay for the bonds

Difference: 38,866.5 - 35,000 = 3,866.5

As the proceeds are lower than face value, this is a discount.