Q1: Purchasing Bonds at a Premium Exercise (held-to-maturity securities) Tunnel

Question

Q1: Purchasing Bonds at a Premium Exercise (held-to-maturity securities) Tunnel Corporation acquired as a long-term investment $10,000 of 5-year, 4% bonds, dated July 1, on July 1, 2018. Company management has the positive intent and ability to hold the bonds until maturity. The market interest rate (yield) was 2% for bonds of similar risk and maturity. Tunnel paid $? for the bonds. The company will receive interest semiannually on June 30 and December 31. (1) Prepare the journal entry to record Tunnel 's investment in the bonds on July 1, 2018 (2) Prepare the journal entry by Tunnel to record interest on December 31, 2018, at the effective (market) rate. (3) At what amount will Tunnel report its investment in the December 31, 2018, balance sheet? 4) Suppose Moody's bond rating agency downgraded the risk rating of the bonds, motivating Tunnel to sell the investment on January 2, 2019, for $10,500. Prepare the journal entry to record the sale.

Explanation / Answer

Answer 1. Table Value Based on n= 10 (5 Years X 2) i= 1.00% (2% / 2) Cash Flow Amount Present Value Interest - $10,000 X 4% X 6/12                   200                                          1,894 ($200 X 9.47130) Principal             10,000                                          9,053 ($10,000 X 0.90529) Issue Price of Note                                        10,947 Premium on issue of Note                                              947 Answer 1 & 2. Journal Entry Date Particulars Dr. Amt. Cr. Amt. 1-Jul-18 Investment in Bonds          10,000 Premium on Bonds                947 Cash          10,947 (record the purchase of bonds) 31-Dec-18 Cash                200 Premium on Bonds                  91 Interest Revenue                109 (Record the interest received) Answer 3. Value of Investment - Dec 31, 2018          10,856 Answer 4. Journal Entry Date Particulars Dr. Amt. Cr. Amt. 2-Jan-19 Cash          10,500 Loss on Sale of Bonds                356 Investment in Bonds          10,000 Premium on Bonds                856 (Record the sale of Bonds) Premium Amortization Schedule Date Interest Recd - $10,000 X 4% X 6/12 Interest Revenue - Preceeding Bond Carrying Value X 2% X 6/12 Premium Amortization Unamortized Premium Bonds Carrying Amount A B C = A - B D = D - C E = $10000 + D 1-Jul-18                                        -                                              -                              -                        947                  10,947 31-Dec-18                                    200                                         109                           91                      856                  10,856

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