Final answer:
The journal entry for Legacy's issuance of bonds at a discount records Cash and Discount on Bonds Payable debits for the amount received and the discount, respectively, with a credit to Bonds Payable for the face value of the bonds.
Step-by-step explanation:
The student's question is concerned with how to record the journal entry for the issuance of bonds at a discount. For the provided scenario, where Legacy issues $325,000 of 5%, four-year bonds at a discount because the market rate is higher than the bond's stated rate, the entry on January 1, 2021, would include debiting Cash for the amount received, debiting Discount on Bonds Payable for the difference between the face value and the cash received, and crediting Bonds Payable for the face value of the bonds.
Journal entry to record bond issuance: Debit Cash $292,181; Debit Discount on Bonds Payable $32,819; Credit Bonds Payable $325,000.
When bonds are issued at a discount, it means they are sold for less than their face value. This occurs when the market interest rate is above the stated rate of the bonds, making them less attractive unless sold for a lower price. In the given scenario, Legacy issued bonds with a stated interest rate of 5% but the market demanded an 8% return, leading to the bonds being issued at a discount.
To record the issuance, we debit Cash for the amount received by the company, which is $292,181. However, the face value of the bonds is $325,000, which represents the liability that the company must pay back in the future. This necessitates a credit to Bonds Payable for $325,000. The difference between cash received and the face value of the bonds is considered a discount on the bonds payable, and it is debited to account for the less cash received upfront. Over the term of the bonds, this discount will be amortized, effectively increasing the interest expense recognized by the issuer.