Question

On January 1, 2020, Novak Corporation issued $450,000 of 7% bonds, due in 8 years. The bonds were issued for $423,784, and pay interest each July 1 and January 1. Novak uses the effective-interest method. Prepare the company’s journal entries for (a) the January 1 issuance, (b) the July 1 interest payment, and (c) the December 31 adjusting entry. Assume an effective-interest rate of 8%.

Answer 1

(a) the January 1 issuance

Dr Cash 423,784

Dr Discount on bonds payable 26,216

Cr Bonds payable 450,000

(b) the July 1 interest payment

Dr Interest expense 16,951

Cr Cash 15,750

Cr Discount on bonds payable 1,201

(c) the December 31 adjusting entry

Dr Interest expense 16,999

Cr Interest payable 15,750

Cr Discount on bonds payable 1,249

Step-by-step explanation:

a) the discount on bonds payable = $450,000 - $423,784 = $26,216

b) to calculate total interest expense using the effective interest method:

($423,784 x 4%) - ($450,000 x 3.5%) = $16,951 - $15,750 = $1,201

total interest expense = $16,951

Dr Interest expense 16,951

Cr Cash 15,750

Cr Discount on bonds payable 1,201

c) to calculate accrued interest on December 31

bond's carrying value = $423,784 + $1,201 = $424,985

($424,985 x 4%) - ($450,000 x 3.5%) = $16,999 - $15,750 = $1,249

Dr Interest expense 16,999

Cr Interest payable 15,750

Cr Discount on bonds payable 1,249