15-1
15-2
Chapter 10 Liabilities
Learning Objectives
After studying this chapter, you should be able to:
1. Explain a current liability, and identify the major types of current
liabilities.
2. Describe the accounting for notes payable.
3. Explain the accounting for other current liabilities.
4. Explain why bonds are issued, and identify the types of bonds.
5. Prepare the entries for the issuance of bonds and interest expense.
6. Describe the entries when bonds are redeemed or converted.
7. Describe the accounting for long-term notes payable.
8. Identify the methods for the presentation and analysis of long-term
liabilities.
15-3
Preview of Chapter 10
Financial and Managerial Accounting
Weygandt Kimmel Kieso
15-4
Current liability is debt with two key features:
1. Company expects to pay the debt from existing
current assets or through the creation of other current
liabilities.
2. Company will pay the debt within one year or the
operating cycle, whichever is longer.
LO 1 Explain a current liability, and identify the major types of current liabilities.
Current liabilities include notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes payable, salaries payable, and interest payable.
Current Liabilities
15-5
To be classified as a current liability, a debt must be
expected to be paid:
a. out of existing current assets.
b. by creating other current liabilities.
c. within 2 years.
d. both (a) and (b).
Question
LO 1 Explain a current liability, and identify the major types of current liabilities.
Current Liabilities
15-6 LO 2 Describe the accounting for notes payable.
Notes Payable
Written promissory note.
Require the borrower to pay interest.
Issued for varying periods.
Current Liabilities
15-7
Illustration: First National Bank agrees to lend $100,000 on
September 1, 2014, if Cole Williams Co. signs a $100,000,12%, four-month note maturing on January 1.
Instructions
a) Prepare the entry on September 1.
b) Prepare the adjusting entry on December 31, assuming
monthly adjusting entries have not been made.
c) Prepare the entry at maturity (January 1, 2015).
LO 2 Describe the accounting for notes payable.
Current Liabilities
15-8
Notes payable
100,000
Cash 100,000
Interest payable
4,000
Interest expense 4,000
$100,000 x 12% x 4/12 = $4,000
b) Prepare the adjusting entry on Dec. 31.
LO 2 Describe the accounting for notes payable.
Current Liabilities
Illustration: First National Bank agrees to lend $100,000 on
September 1, 2014, if Cole Williams Co. signs a $100,000,12%, four-month note maturing on January 1.
a) Prepare the entry on September 1.
15-9
Interest payable 4,000
Notes payable 100,000
Cash
104,000
LO 2 Describe the accounting for notes payable.
Current Liabilities
Illustration: First National Bank agrees to lend $100,000 on
September 1, 2014, if Cole Williams Co. signs a $100,000,12%, four-month note maturing on January 1.
c) Prepare the entry at maturity (January 1, 2015).
15-10 LO 3 Explain the accounting for other current liabilities.
Sales Tax Payable
Sales taxes are expressed as a stated percentage of
the sales price.
Either rung up separately or included in total receipts.
Retailer collects tax from the customer.
Retailer remits the collections to the state’s department
of revenue.
Current Liabilities
15-11
Illustration: The March 25 cash register reading for Cooley
Grocery shows sales of $10,000 and sales taxes of $600 (sales
tax rate of 6%), the journal entry is:
Sales revenue
10,000
Cash 10,600
Sales tax payable
600
LO 3 Explain the accounting for other current liabilities.
Current Liabilities
15-12
The term “payroll” pertains to both:
Salaries - managerial, administrative, and sales
personnel (monthly or yearly rate).
Wages - store clerks, factory employees, and manual
laborers (rate per hour).
Determining the payroll involves computing three amounts: (1)
gross earnings, (2) payroll deductions, and (3) net pay.
LO 3 Explain the accounting for other current liabilities.
Payroll and Payroll Taxes Payable
Current Liabilities
15-13
Illustration: Assume a corporation records its payroll for the
week of March 7 as follows:
Salaries and wages expense 100,000
Federal income tax payable21,864
FICA tax payable7,650
State income tax payable2,922Salaries and wages payable
67,564
LO 3
Cash
67,564
Salaries and wages payable 67,564Mar. 11
Record the payment of this payroll on March 11.
Mar. 7
Current Liabilities
15-14
Payroll tax expense results from three taxes that
governmental agencies levy on employers.
These taxes are:
FICA tax
Federal unemployment tax
State unemployment tax
LO 3 Explain the accounting for other current liabilities.
Current Liabilities
15-15
Illustration: Based on the corporation’s $100,000 payroll, the
company would record the employer’s expense and liability for
these payroll taxes as follows.
Payroll tax expense 13,850
Federal unemployment tax payable800
FICA tax payable7,650
State unemployment tax payable 5,400
LO 3 Explain the accounting for other current liabilities.
Current Liabilities
15-16
Employer payroll taxes do not include:
a. Federal unemployment taxes.
b. State unemployment taxes.
c. Federal income taxes.
d. FICA taxes.
Question
Current Liabilities
LO 3 Explain the accounting for other current liabilities.
15-17
15-18 LO 3 Explain the accounting for other current liabilities.
Unearned Revenue
Revenues that are received before the company delivers goods
or provides services.
1. Company debits Cash, and credits
a current liability account
(unearned revenue).
2. When the company earns the
revenue, it debits the
Unearned Revenue account,
and credits a revenue account.
Current Liabilities
15-19
Illustration: Assume that Superior University sells 10,000 season football tickets at $50 each for its five-game home schedule. The university makes the following entry for the sale of season tickets:
LO 3 Explain the accounting for other current liabilities.
Unearned revenue
500,000
Cash 500,000Aug. 6
Ticket revenue
100,000
Unearned revenue 100,000Sept. 7
As the school completes each of the five home games, it would record the revenue earned.
Current Liabilities
15-20
Current Maturities of Long-Term Debt
Portion of long-term debt that comes due in the
current year.
No adjusting entry required.
LO 3 Explain the accounting for other current liabilities.
Current Liabilities
15-21LO 3
Statement Presentation and Analysis
Illustration 10-5
15-22
Working capital is calculated as:
a. current assets minus current liabilities.
b. total assets minus total liabilities.
c. long-term liabilities minus current liabilities.
d. both (b) and (c).
Question
Current Liabilities
LO 3 Explain the accounting for other current liabilities.
15-23
Liquidity refers to the ability to pay maturing obligations and meet unexpected needs for
cash.
The current ratio permits us to compare the liquidity of different-sized companies and of
a single company at different times.
Illustration 10-7
Illustration 10-6
LO 3 Explain the accounting for other current liabilities.
Analysis
Statement Presentation and Analysis
15-24
The Missing Control
Human Resource Controls. Thorough background checks should be performed. No employees should begin work until they have been approved by the Board of Education and entered into the payroll system. No employees should be entered into the payroll system until they have been approved by a supervisor. All paychecks should be distributed directly to employees at the official school locations by designated employees.Independent internal verification. Budgets should be reviewed monthly to identify situations where actual costs significantly exceed budgeted amounts.
Total take: $150,000
ANATOMY OF A FRAUD
Art was a custodial supervisor for a large school district. The district was supposed to employ between 35 and 40 regular custodians, as well as 3 or 4 substitute custodians to fill in when regular custodians were missing. Instead, in addition to the regular custodians, Art “hired” 77 substitutes. In fact, almost none of these people worked for the district. Instead, Art submitted time cards for these people, collected their checks at the district office, and personally distributed the checks to the “employees.” If a substitute’s check was for $1,200, that person would cash the check, keep $200, and pay Art $1,000.
15-25
A form of interest-bearing notes payable.
To obtain large amounts of long-term capital.
Three advantages over common stock:
1. Stockholder control is not affected.
2. Tax savings result.
3. Earnings per share may be higher.
LO 4 Explain why bonds are issued, and identify the types of bonds.
Long-Term Liabilities
Bond Basics
15-26
Effects on earnings per share—stocks vs. bonds.
Illustration 10-9
LO 4 Explain why bonds are issued, and identify the types of bonds.
Bond Basics
15-27
The major disadvantages resulting from the use of bonds
are:
a. that interest is not tax deductible and the principal
must be repaid.
b. that the principal is tax deductible and interest must
be paid.
c. that neither interest nor principal is tax deductible.
d. that interest must be paid and principal repaid.
Question
Current Liabilities
LO 4 Explain why bonds are issued, and identify the types of bonds.
15-28
Types of Bonds
LO 4
Bond Basics
15-29
State laws grant corporations the power to issue bonds.
Board of directors and stockholders must approve bond
issues.
Board of directors must stipulate number of bonds to be
authorized, total face value, and contractual interest rate.
Bond contract known as a bond indenture.
Paper certificate, typically a $1,000 face value.
Bond Basics
Issuing Procedures
LO 4 Explain why bonds are issued, and identify the types of bonds.
15-30
Represents a promise to pay:
► sum of money at designated maturity date, plus
► periodic interest at a contractual (stated) rate on the
maturity amount (face value).
Interest payments usually made semiannually.
Generally issued when the amount of capital needed is
too large for one lender to supply.
Bond Basics
Issuing Procedures
LO 4 Explain why bonds are issued, and identify the types of bonds.
15-31
MaturityDate
MaturityDate
Illustration 10-10
Contractual Interest
Rate
Contractual Interest
Rate
Face or Par ValueFace or
Par Value
DUE 2017 DUE 2017
2017
LO 4
Issuer of Bonds
Issuer of Bonds
Bond Basics
15-32
Determining the Market Value of Bonds
The features of a bond (callable, convertible, and so on) affect the market rate of the bond.
Bond Basics
Market value is a function of the three factors that determine present value:
1. dollar amounts to be received,
2. length of time until the amounts are received, and
3. market rate of interest.
LO 4 Explain why bonds are issued, and identify the types of bonds.
15-33
Corporation records bond transactions when it
issues (sells),
retires (buys back) bonds and
when bondholders convert bonds into common stock.
NOTE: If bondholders sell their bond investments to other investors,
the issuing firm receives no further money on the transaction, nor
does the issuing corporation journalize the transaction.
Accounting for Bond Issues
LO 5 Prepare the entries for the issuance of bonds and interest expense.
15-34
Issue at Par, Discount, or Premium?
Accounting for Bond Issues
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Illustration 10-12
Bond
Contractual
Interest Rate
of 10%
15-35 LO 5 Prepare the entries for the issuance of bonds and interest expense.
The rate of interest investors demand for loaning funds to
a corporation is the:
a. contractual interest rate.
b. face value rate.
c. market interest rate.
d. stated interest rate.
Accounting for Bond Issues
Question
15-36 LO 5 Prepare the entries for the issuance of bonds and interest expense.
Karson Inc. issues 10-year bonds with a maturity value of $200,000. If the bonds are issued at a premium, this indicates that:
a. the contractual interest rate exceeds the market interest rate.
b. the market interest rate exceeds the contractual interest rate.
c. the contractual interest rate and the market interest rate are the same.
d. no relationship exists between the two rates.
Question
Accounting for Bond Issues
15-37
Illustration: On January 1, 2014, Candlestick Corporation
issues $100,000, five-year, 10% bonds at 100 (100% of face
value). The entry to record the sale is:
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Jan. 1 Cash 100,000
Bonds payable 100,000
Issuing Bonds at Face Value
Accounting for Bond Issues
15-38
Illustration: On January 1, 2014, Candlestick Corporation
issues $100,000, five-year, 10% bonds at 100 (100% of face
value). Assume that interest is payable semiannually on
January 1 and July 1. Prepare the entry to record the payment
of interest on July 1, 2014, assume no previous accrual.
LO 5 Prepare the entries for the issuance of bonds and interest expense.
July 1 Interest expense 5,000
Cash 5,000
Issuing Bonds at Face Value
15-39
Illustration: On January 1, 2014, Candlestick Corporation
issues $100,000, five-year, 10% bonds at 100 (100% of face
value). Assume that interest is payable semiannually on
January 1 and July 1. Prepare the entry to record the accrual
of interest on December 31, 2014, assume no previous
accrual.
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Dec. 31 Interest expense 5,000
Interest payable 5,000
Issuing Bonds at Face Value
15-40 LO 5 Prepare the entries for the issuance of bonds and interest expense.
Illustration: On January 1, 2014, Candlestick, Inc. sells
$100,000, five-year, 10% bonds for $92,639 (92.639% of face
value). Interest is payable on July 1 and January 1. The entry
to record the issuance is:
Jan. 1 Cash 92,639
Discount on bonds payable 7,361
Bond payable 100,000
Accounting for Bond Issues
Issuing Bonds at a Discount
15-41
Sale of bonds below face value causes the total cost of borrowing
to be more than the bond interest paid.
The reason: Borrower is required to pay the bond discount at the
maturity date. Thus, the bond discount is considered to be a
increase in the cost of borrowing.
Statement Presentation
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Illustration 10-13
Issuing Bonds at a Discount
Carrying value or book value
15-42 LO 5 Prepare the entries for the issuance of bonds and interest expense.
Total Cost of Borrowing
Illustration 10-14
Illustration 10-15
Issuing Bonds at a Discount
15-43
Discount on Bonds Payable:
a. has a credit balance.
b. is a contra account.
c. is added to bonds payable on the balance sheet.
d. increases over the term of the bonds.
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Issuing Bonds at a Discount
Question
15-44 LO 5 Prepare the entries for the issuance of bonds and interest expense.
Jan. 1 Cash 108,111
Bonds payable 100,000
Premium on bond payable 8,111
Illustration: On January 1, 2014, Candlestick, Inc. sells
$100,000, five-year, 10% bonds for $108,111 (108.111% of
face value). Interest is payable on July 1 and January 1. The
entry to record the issuance is:
Accounting for Bond Issues
Issuing Bonds at a Premium
15-45
Statement Presentation
LO 5 Prepare the entries for the issuance of bonds and interest expense.
Sale of bonds above face value causes the total cost of borrowing
to be less than the bond interest paid.
The reason: The borrower is not required to pay the bond premium at
the maturity date of the bonds. Thus, the bond premium is
considered to be a reduction in the cost of borrowing.
Illustration 10-16
Issuing Bonds at a Premium
15-46 LO 5 Prepare the entries for the issuance of bonds and interest expense.
Total Cost of Borrowing
Illustration 10-17
Illustration 10-18
Issuing Bonds at a Premium
15-47 LO 6 Describe the entries when bonds are redeemed or converted.
Assuming that the company pays and records separately the
interest for the last interest period, Candlestick records the
redemption of its bonds at maturity as follows:
Bond payable 100,000
Cash 100,000
Accounting for Bond Retirements
Redeeming Bonds at Maturity
15-48
When bonds are retired before maturity, it is necessary to:
1. eliminate carrying value of bonds at redemption date;
2. record cash paid; and
3. recognize gain or loss on redemption.
The carrying value of the bonds is the face value of the bonds less unamortized bond discount or plus unamortized bond premium at the redemption date.
LO 6 Describe the entries when bonds are redeemed or converted.
Accounting for Bond Retirements
Redeeming Bonds before Maturity
15-49 LO 6 Describe the entries when bonds are redeemed or converted.
When bonds are redeemed before maturity, the gain or
loss on redemption is the difference between the cash
paid and the:
a. carrying value of the bonds.
b. face value of the bonds.
c. original selling price of the bonds.
d. maturity value of the bonds.
Accounting for Bond Retirements
Question
15-50
Illustration: Assume Candlestick, Inc. has sold its bonds at a
premium. At the end of the eighth period, Candlestick retires
these bonds at 103 after paying the semiannual interest. The
carrying value of the bonds at the redemption date is $101,623.
Candlestick makes the following entry to record the
redemption at the end of the eighth interest period (January 1,
2018):Bonds payable 100,000
Premium on bonds payable 1,623
Loss on bond redemption 1,377
Cash 103,000
LO 6 Describe the entries when bonds are redeemed or converted.
Accounting for Bond Retirements
15-51
Until conversion, the bondholder receives interest on the
bond.
For the issuer, the bonds sell at a higher price and pay a
lower rate of interest than comparable debt securities without
the conversion option.
Upon conversion, the company transfers the carrying value of
the bonds to paid-in capital accounts. No gain or loss is
recognized.
LO 6 Describe the entries when bonds are redeemed or converted.
Accounting for Bond Retirements
Converting Bonds into Common Stock
15-52
Illustration: On July 1 Saunders Associates converts
$100,000 bonds sold at face value into 2,000 shares of $10 par
value common stock. Both the bonds and the common stock
have a market value of $130,000. Saunders makes the
following entry to record the conversion:
Bonds payable 100,000
Common stock (2,000 x $10) 20,000
Paid-in capital in excess of par value 80,000
LO 6 Describe the entries when bonds are redeemed or converted.
Accounting for Bond Retirements
15-53
When bonds are converted into common stock:
a. a gain or loss is recognized.
b. the carrying value of the bonds is transferred to
paid-in capital accounts.
c. the market price of the stock is considered in the
entry.
d. the market price of the bonds is transferred to
paid-in capital.
Question
LO 6 Describe the entries when bonds are redeemed or converted.
Accounting for Bond Retirements
15-54
May be secured by a mortgage that pledges title to specific
assets as security for a loan.
Typically, terms require borrower to make installment
payments over the term of the loan. Each payment consists of
interest on the unpaid balance of the loan and
a reduction of loan principal.
Companies initially record mortgage notes payable at face
value.
LO 7 Describe the accounting for long-term notes payable.
Accounting for Long-Term Notes Payable
15-55
Illustration: Porter Technology Inc. issues a $500,000, 12%, 20-
year mortgage note on December 31, 2014. The terms provide for
semiannual installment payments of $33,231 (not including real
estate taxes and insurance). The installment payment schedule
for the first two years is as follows.
LO 7 Describe the accounting for long-term notes payable.
Illustration 10-19
Accounting for Other Long-Term Liabilities
15-56 LO 7 Describe the accounting for long-term notes payable.
Dec. 31 Cash 500,000
Mortgage payable 500,000
Jun. 30 Interest expense 30,000
Mortgage payable 3,231
Cash 33,231
Accounting for Other Long-Term Liabilities
Illustration: Porter Technology Inc. issues a $500,000, 12%, 20-
year mortgage note on December 31, 2014. The terms provide for
semiannual installment payments of $33,231 (not including real
estate taxes and insurance). The installment payment schedule
for the first two years is as follows.
15-57
Each payment on a mortgage note payable consists of:
a. interest on the original balance of the loan.
b. reduction of loan principal only.
c. interest on the original balance of the loan and
reduction of loan principal.
d. interest on the unpaid balance of the loan and
reduction of loan principal.
LO 7 Describe the accounting for long-term notes payable.
Accounting for Other Long-Term Liabilities
Question
15-58
15-59LO 8 Identify the methods for the presentation
and analysis of long-term liabilities.
Illustration 10-20
Statement Presentation and Analysis
Presentation
15-60
Two ratios that provide information about debt-paying
ability and long-run solvency are:
Debt to Total Assets Ratio
Times Interest Earned Ratio
LO 8 Identify the methods for the presentation and analysis of long-term liabilities.
Statement Presentation and Analysis
Analysis
15-61
Illustration: Kellogg had total liabilities of $8,925 million, total assets
of $11,200 million, interest expense of $295 million, income taxes of
$476 million, and net income of $1,208 million.
The higher the percentage of debt to total assets, the greater the risk
that the company may be unable to meet its maturing obligations.
LO 8
Statement Presentation and Analysis
Analysis
15-62
Illustration: Kellogg had total liabilities of $8,925 million, total assets
of $11,200 million, interest expense of $295 million, income taxes of
$476 million, and net income of $1,208 million.
Times interest earned indicates the company’s ability to meet interest
payments as they come due.
LO 8
Statement Presentation and Analysis
Analysis
15-63
15-64
Illustration: Assume that you are willing to invest a sum of
money that will yield $1,000 at the end of one year, and you can
earn 10% on your money. What is the $1,000 worth today?
To compute the answer,
1. divide the future amount by 1 plus the interest rate
($1,000/1.10 = $909.09 OR
2. use a Present Value of 1 table. ($1,000 X .90909) = $909.09
(10% per period, one period from now).
LO 9 Compute the market price of a bond.
Present Value of Face Value
APPENDIX 10A PRESENT VALUE CONCEPTS RELATED TO BOND PRICING
15-65
To compute the answer,
1. divide the future amount by 1 plus the interest rate
($1,000/1.10 = $909.09.
Illustration 10A-1
LO 9 Compute the market price of a bond.
Present Value of Face Value
15-66 LO 9 Compute the market price of a bond.
Present Value of Face Value
To compute the answer,
2. use a Present Value of 1 table. ($1,000 X .90909) =
$909.09 (10% per period, one period from now).
15-67
The future amount ($1,000), the interest rate (10%), and the
number of periods (1) are known
LO 9 Compute the market price of a bond.
Illustration 10A-2
Present Value of Face Value
15-68
If you are to receive the single future amount of $1,000 in
two years, discounted at 10%, its present value is $826.45
[($1,000 1.10) 1.10].
LO 9 Compute the market price of a bond.
Illustration 10A-3
Present Value of Face Value
15-69
To compute the answer using a Present Value of 1 table.
($1,000 X .82645) = $826.45 (10% per period, two periods
from now).
LO 9 Compute the market price of a bond.
Present Value of Face Value
15-70
In addition to receiving the face value of a bond at maturity,
an investor also receives periodic interest payments
(annuities) over the life of the bonds.
To compute the present value of an annuity, we need to
know:
1) interest rate,
2) number of interest periods, and
3) amount of the periodic receipts or payments.
LO 9 Compute the market price of a bond.
Present Value of Interest Payments (Annuities)
15-71
Assume that you will receive $1,000 cash annually for three years and the interest rate is 10%.
LO 9 Compute the market price of a bond.
Illustration 10A-5
Present Value of Interest Payments (Annuities)
15-72 LO 9 Compute the market price of a bond.
Illustration 10A-6
Present Value of Interest Payments (Annuities)
Assume that you will receive $1,000 cash annually for three years and the interest rate is 10%.
15-73 LO 9 Compute the market price of a bond.
$1,000 annual payment x 2.48685 = $2,486.85
Present Value of Interest Payments (Annuities)
Assume that you will receive $1,000 cash annually for three years and the interest rate is 10%.
15-74
Selling price of a bond is equal to the sum of:
Present value of the face value of the bond discounted
at the investor’s required rate of return
PLUS
Present value of the periodic interest payments
discounted at the investor’s required rate of return
LO 9 Compute the market price of a bond.
Computing the Present Value of a Bond
15-75
Assume a bond issue of 10%, five-year bonds with a face value
of $100,000 with interest payable semiannually on January 1
and July 1.Illustration 10A-8
LO 9 Compute the market price of a bond.
Computing the Present Value of a Bond
15-76
Illustration 10A-9
LO 9 Compute the market price of a bond.
Computing the Present Value of a Bond
Assume a bond issue of 10%, five-year bonds with a face value
of $100,000 with interest payable semiannually on January 1
and July 1.
15-77 LO 9 Compute the market price of a bond.
Computing the Present Value of a Bond
Assume a bond issue of 10%, five-year bonds with a face value
of $100,000 with interest payable semiannually on January 1
and July 1.Illustration 10A-10
15-78 LO 9 Compute the market price of a bond.
Computing the Present Value of a Bond
Assume a bond issue of 10%, five-year bonds with a face value
of $100,000 with interest payable semiannually on January 1
and July 1.Illustration 10A-11
15-79
Under the effective-interest method, the amortization of
bond discount or bond premium results in period interest
expense equal to a constant percentage of the carrying value
of the bonds.
Required steps:
LO 10 Apply the effective-interest method of amortizing bond discount and bond premium.
1. Compute the bond interest expense.
2. Compute the bond interest paid or accrued.
3. Compute the amortization amount.
APPENDIX 10B EFFECTIVE-INTEREST METHOD OF BOND AMORTIZATION
15-80
Illustration: Candlestick, Inc. issues $100,000 of 10%, five-year
bonds on January 1, 2014, for $92,639, with interest payable each
July 1 and January 1. This results in a discount of $7,361.
Illustration 10B-2
LO 10 Apply the effective-interest method of amortizing bond discount and bond premium.
Effective-Interest Method of Bond Amortization
Amortizing Bond Discount
15-81
Illustration: Candlestick, Inc. issues $100,000 of 10%, five-year
bonds on January 1, 2014, for $92,639, with interest payable each
July 1 and January 1. This results in a discount of $7,361.
Journal entry on July 1, 2014, to record the interest payment and
amortization of discount is as follows:
Interest Expense 5,558
Cash 5,000
Discount on Bonds Payable 558
July 1
LO 10 Apply the effective-interest method of amortizing bond discount and bond premium.
Amortizing Bond Discount
15-82
Illustration 10B-4
Illustration: Candlestick, Inc. issues $100,000 of 10%, five-year
bonds on January 1, 2014, for $108,111, with interest payable
each July 1 and January 1. This results in a premium of $8,111.
Amortizing Bond Premium
LO 10 Apply the effective-interest method of amortizing bond discount and bond premium.
15-83
Interest Expense 4,324
Cash 5,000
Premium on Bonds Payable 676
July 1
Illustration: Candlestick, Inc. issues $100,000 of 10%, five-year
bonds on January 1, 2014, for $108,111, with interest payable
each July 1 and January 1. This results in a premium of $8,111.
Journal entry on July 1, 2014, to record the interest payment and
amortization of premium is as follows:
Amortizing Bond Premium
LO 10 Apply the effective-interest method of amortizing bond discount and bond premium.
15-84
Illustration: Candlestick, Inc., sold $100,000, five-year, 10%
bonds on January 1, 2014, for $92,639 (discount of $7,361).
Interest is payable on July 1 and January 1.
Illustration 10C-2
Amortizing Bond Discount
LO 11 Apply the straight-line method of amortizing bond discount and bond premium.
APPENDIX 10B STRAIGHT-LINE AMORTIZATION
15-85
Illustration: Candlestick, Inc., sold $100,000, five-year, 10%
bonds on January 1, 2014, for $92,639 (discount of $7,361).
Interest is payable on July 1 and January 1. The bond discount
amortization for each interest period is $736 ($7,361/10).
Journal entry on July 1, 2014, to record the interest payment and
amortization of discount is as follows:
Interest Expense 5,736
Cash 5,000
Discount on Bonds Payable 736
July 1
Amortizing Bond Discount
LO 11 Apply the straight-line method of amortizing bond discount and bond premium.
15-86
Illustration: Candlestick, Inc., sold $100,000, five-year, 10%
bonds on January 1, 2014, for $108,111 (premium of $8,111).
Interest is payable on July 1 and January 1.
Illustration 10C-4
Amortizing Bond Premium
LO 11 Apply the straight-line method of amortizing bond discount and bond premium.
15-87
Illustration: Candlestick, Inc., sold $100,000, five-year, 10%
bonds on January 1, 2014, for $108,111 (premium of $8,111).
Interest is payable on July 1 and January 1. The bond premium
amortization for each interest period is $811 ($8,111/10).
Journal entry on July 1, 2014, to record the interest payment and
amortization of premium is as follows:
Interest Expense 4,189
Cash 5,000
Premium on Bonds Payable 811
July 1
Amortizing Bond Discount
LO 11 Apply the straight-line method of amortizing bond discount and bond premium.
15-88
Liabilities are defined by the IASB as a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits. Liabilities may be legally enforceable via a contract or law but need not be; that is, they can arise due to normal business practice or customs.
IFRS requires that companies classify liabilities as current or non-current on the face of the statement of financial position (balance sheet), except in industries where a presentation based on liquidity would be considered to provide more useful information (such as financial institutions). When current liabilities (also called short-term liabilities) are presented, they are generally presented in order of liquidity.
Key Points
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Under IFRS, liabilities are classified as current if they are expected to be paid within 12 months.
Similar to GAAP, items are normally reported in order of liquidity. Companies sometimes show liabilities before assets. Also, they will sometimes show non-current (long-term) liabilities before current liabilities.
Under IFRS, companies sometimes will net current liabilities against current assets to show working capital on the face of the statement of financial position. (This is evident in the Zetar financial statements in Appendix C.)
The basic calculation for bond valuation is the same under GAAP and IFRS.
Key Points
15-90
IFRS requires use of the effective-interest method for amortization of bond discounts and premiums. GAAP allows use of the straight-line method where the difference is not material. Under IFRS, companies do not use a premium or discount account but instead show the bond at its net amount. For example, if a $100,000 bond was issued at 97, under IFRS a company would record:
Cash 97,000
Bonds payable 97,000
Key Points
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The accounting for convertible bonds differs across IFRS and GAAP, Unlike GAAP, IFRS splits the proceeds from the convertible bond between an equity component and a debt component. The equity conversion rights are reported in equity.
Key Points
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The FASB and IASB are currently involved in two projects, each of which has implications for the accounting for liabilities. One project is investigating approaches to differentiate between debt and equity instruments. The other project, the elements phase of the conceptual framework project, will evaluate the definitions of the fundamental building blocks of accounting. The results of these projects could change the classification of many debt and equity securities.
Looking to the Future
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Which of the following is false?
a) Under IFRS, current liabilities must always be presented
before noncurrent liabilities.
b) Under IFRS, an item is a current liability if it will be paid
within the next 12 months.
c) Under IFRS, current liabilities are shown in order of liquidity.
d) Under IFRS, a liability is only recognized if it is a present
obligation.
IFRS Self-Test Questions
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The accounting for bonds payable is:
a) essentially the same under IFRS and GAAP.
b) differs in that GAAP requires use of the straight-line method
for amortization of bond premium and discount.
c) the same except that market prices may be different because
the present value calculations are different between IFRS and
GAAP.
d) not covered by IFRS.
IFRS Self-Test Questions
15-95
The joint projects of the FASB and IASB could potentially:
a) change the definition of liabilities.
b) change the definition of equity.
c) change the definition of assets.
d) All of the above.
IFRS Self-Test Questions
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