Philosophy on Amortization

• Amortization of the bond premium or discount is to bring the carrying

amount of the investment to face value on the date of maturity.

• When the bonds are redeemed on the date of maturity:

Entry:
Cash………………………….XXX
Investment in bonds(@face value)……XXX

• Conceptually: Bond Premium is a loss on the part of bondholder

because bondholder paid more than what can be collect on the date of
maturity.

• Such loss is not recognized outright, but allocated over the life of the
bonds to be offset against interest income to be derived from the bond
investment.
 Philosophy on Amortization

• On the other hand: Bond Discount is a gain on the part of the

bondholder because the bondholder paid less than what can be
collected on the date of maturity.

• Such gain is not recognized outright, but allocated over the life of the
bonds to be added to the interest income to be derived from the bond
investment.

• Such process of allocating the bond premium as deduction from the

interest income and the bond discount as addition to interest income is
what is traditionally called AMORTIZATION.
 Sales of Bonds Prior to Maturity

 When investment in bonds is sold prior to the date of maturity, it is

necessary to determine the carrying amount of the bond investment to
be used as basis in computing gain or loss on the sale.

• In such a case, amortization of the premium or discount should be

recognized up to the date of sale.

 If the sale between interest dates, the sale price normally includes the
accrued interest.
• Accordingly, That portion of the sale price pertaining to the accrued
interest should be credited to interest income.
 The difference between the sale price after deducting the accrued
interest, and the carrying amount of the bond investment the gain or
loss on the sale of the investment.
25-9 Manda Company

Manda Company acquired P6,000,000 of landoil 12% bonds on May 1, 2015

at 94 plus accrued interest to be held as financial asset at amortized cost.
The bonds pay interest semiannually on Feb 1 and Aug 1, and mature on Feb
1, 2019. The Fiscal period for Manda Company is calendar period.
Amortization is done following the straight line method.

On May 1, 2017, Manda Company sold all the bonds at 105 plus accrued
interest.

Required:

Prepare journal entries for 2015,2016 and 2017.

Journal Entries 2015

May 1 Investment in bonds 5,640,000

Interest income 180,000
Cash 5,820,000

Aug. 1 Cash 360,000

Interest Income 360,000

Dec. 31 Accrued interest receivable 300,000

Interest Income 300,000

Investment in bonds 64,000

Interest Income (8000X8) 64,000
2016

Jan. 1 Interest Income 300,000

Accrued interest receivable 300,000
Feb. 1 Cash (6M X 12% x6/12) 360,000
Interest Income 360,000

Aug.1 Cash (6M X 12% x6/12) 360,000

Interest Income 360,000

Dec. 31 Accrued interest receivable 300,000

Interest Income 300,000

Investment in bonds 96,000

Interest Income(8,000 X 12) 96,000
2017

Jan. 1 Interest Income 300,000

Accrued interest receivable 300,000
Feb. 1 Cash (6M X 12% x6/12) 5/1/2015- 5,640,000
360,000
Interest Income 360,000
12/31/2015- 64,000
May 1 Investments in bonds 32,000
interest income 12/31/2016- 96,000
32,000
5/1/2017- 32,000
Cash 6,480,000
Investment in bonds 5,832,000
5/1/2017- 5,832,000
Interest Income (6M x 12%x3/12) 180,000
Gain on sale 468,000
 May 1 Cash 6,480,000
Investment in bonds 5,832,000
Interest Income (6M x 12%x3/12) 180,000
Gain on sale 468,000

2019
Feb. 1 Cash 6,000,000
Investment in bonds 6,000,000
 Callable Bonds
 Are those which may be called in or redeemed by the issuing entity
prior to their date of maturity.

 Usually, the call price or redemption price is at a premium or more than

the face value amount of the bonds

 The difference between the redemption price and the carrying amount of
the bond investment on the date of redemption is recognized in profit or
loss.
 Convertible Bonds

Are those which give the bondholders the right to exchange their bonds for
share capital of the issuing entity at any time prior to maturity.

The subject matter will discussed ore in detail in Chapter 30 because

convertible bonds involves an embedded derivative. The equity conversion
option is the embedded derivative.

The existence of the conversion feature generally precludes classification of

the convertible bonds as financial assets at amortized cost because that
would be inconsistent with paying for the conversion feature, meaning right
to convert into equity shares before maturity.

Accordingly, Investment in convertible bonds can be classified as financial

assets at fair value.
 Serial Bonds
Are those which have a series of maturity dates or those bonds which are
payable in installments.

Term bonds

Are those bonds that mature on a single date. Callable and convertible bonds
can be classified as term bonds despite their special features.
25-12 Park Company

On October 1, 2015, Park Company purchased 6,000 of P1,000 face

amount,10% bonds of Ott Company for P6,600,000 including accrued
interest of P150,000.The bonds which mature on January 1, 2022, pay
interest semiannually on Jan. 1 and July 1. Park company used straight line
method of amortization and appropriately recorded the bonds as financial
asset at amortized cost.

On Dec. 31, 2016, the bond investment should be reported at what amount?

a. 6,450,000
b. 6,432,000
c. 6,426,000
d. 6,360,000
25-12 Park Company

On Dec. 31, 2016, the bond investment

should be reported at what amount?

a. 6,450,000
b. 6,432,000
c. 6,426,000
d. 6,360,000
25-14 Hilltop Company

On July 1, 2015 Hilltop Company purchased as a long term investment in

Esex Company’s 10 years, 12% bonds with a face amount of P5,000,000
for P4,760,000. Interest is payable semiannually on January 1 and July
1. The bonds mature on July 1, 2019. Hilltop Company used the straight
line method of amortization.

What amount of interest income should be reported in the income

statement for the year ended December 31, 2015?

a. 270,000
b. 360,000
c. 300,000
d. 330,000
 7/1/2015

A.
End………………….
 25-11 Complex Company

On October 1, 2015, Complex Company purchased a 12% P3,000,000 face

amount bond issue for P2,700,000 excluding accrued interest to be held as
financial asset at amortized cost.

The date of the bonds is February 1, 2015 and the interest is payable
semiannually on February 1 and August 1. The bonds mature annually at the
rate of P1,000,000 on February 1, 2015 and every Feb 1 thereafter.

a. Prepare a schedule of amortization following the bond outstanding

method.
b. Prepare Journal entry for 2015 and 2016.
2015

Oct. 1 Investment in bonds 2,700,000

Interest income (3MX 12%x2/12) 60,000
Cash 2,760,000
Dec. 31 Accrued Interest Receivable 150,000
Interest income (3MX 12%x5/12) 150,000

Dec. 31 Investment in bonds 56,250

Interest income (75,000x3/4) 56,250
 2016

Jan. 1 Interest income (3MX 12%x5/12) 150,000

Accrued Interest Receivable 150,000
Feb. 1 Cash (3M x 12% x6/12) 180,000
Interest Income 180,000

Cash 1,000,000
Investment in bonds 1,000,000

Aug. 1 Cash (2M x 12% x6/12) 120,000

Interest Income
Jan.1- Feb 1,2016 (75,000X1/4) 120,000
18,750
Feb.1 – Dec.31 ,2016(150,000x11/12) 137,500
Dec. 31 AccruedTotal
Interest Receivable
amortization for 2016 100,000 156,250
Interest income (2M X 12%x5/12) 100,000

Investment in bonds 156,250

Interest income 156,250