Final answer:
David will report the $700 as interest income, which is the return on investment for lending money to the bond issuer, and not as capital gain, dividend income, or rental income.
Step-by-step explanation:
If David does not elect to amortize the bond, he will report the entire $700 payment he receives as interest income for the year. Interest income is the appropriate category for periodic payments received from a bond, as they are essentially the return on investment for lending money to the issuer of the bond. These interest payments are distinct from capital gains, which are the profits realized from the sale of the bond if sold for more than its purchase price, and dividend income, which is money paid to shareholders out of a company's profits. It is also different from rental income, which is received from renting out property.
A large company may issue bonds to raise capital, promising to pay a fixed interest rate over the life of the bond, with the bond's face value repaid at maturity. When interest rates in the market rise, the selling price of existing bonds typically decreases to offer a competitive yield, and the reverse is true when market interest rates fall. This fluctuation in bond prices does not affect the stated coupon rate or the amount of interest income bondholders receive annually.