Worthington Company issued $1,000,000 face value , six-year, 10% bond on July 1, 2010, when the market rate of interest was 12%. Interest payments are due every July 1, and January 1. Worthington uses a calendar year-end. 1. Prepare the journal entry to record the issuance of the bonds on July 1, 2010. 2. Prepare the adjusting journal entry on December 31, 2010, to accrue interest expense. 3. Prepare the journal entry to record the interest payment on January 1, 2011. 4. Calculate the amount of cash that will be paid for the retirement of the bonds on the maturity date.
To answer your question, here are the steps to prepare the journal entries, accrue interest expense, record the interest payment, and calculate the amount of cash paid for the retirement of the bonds:
1. Journal entry to record the issuance of the bonds on July 1, 2010:
- Debit: Cash (for the amount received)
- Credit: Bonds Payable (for the face value of the bonds)
2. Adjusting journal entry on December 31, 2010, to accrue interest expense:
- Debit: Interest Expense (for the accrued interest expense)
- Credit: Interest Payable (for the accrued interest payable)
To calculate the accrued interest expense, you need to determine the period from July 1 to December 31, 2010, which is 6 months. Multiply the face value of the bonds ($1,000,000) by the annual interest rate (10%) to get the annual interest payment ($100,000). Divide this by 2 to get the semi-annual interest payment ($50,000). Multiply the semi-annual interest payment by 6/12 to get the accrued interest expense ($25,000).
3. Journal entry to record the interest payment on January 1, 2011:
- Debit: Interest Expense (for the semi-annual interest payment)
- Debit: Interest Payable (for the remaining accrued interest)
- Credit: Cash (for the interest payment made)
4. To calculate the amount of cash that will be paid for the retirement of the bonds on the maturity date, you need to consider the face value of the bonds ($1,000,000) and any remaining interest that needs to be paid on the maturity date.
Since the bond is a six-year bond and you are given that interest payments are due every July 1 and January 1, there are 12 semi-annual interest payments over the life of the bond.
To calculate the remaining interest, subtract the number of interest payments made (1 payment in January 2011) from the total number of payments (12 payments over 6 years). Multiply this by the semi-annual interest payment ($50,000) to get the remaining interest.
The amount of cash that will be paid for the retirement of the bonds on the maturity date will be the face value of the bonds plus the remaining interest.
1. The journal entry to record the issuance of the bonds on July 1, 2010, will be:
Date: July 1, 2010
Debit: Cash (Face value of bonds) - $1,000,000
Credit: Bonds Payable (Face value of bonds) - $1,000,000
2. The adjusting journal entry on December 31, 2010, to accrue interest expense will be:
Date: December 31, 2010
Debit: Interest Expense (Accrue interest for 6 months) - ($1,000,000 x 10% x 6/12) = $50,000
Credit: Interest Payable - $50,000
3. The journal entry to record the interest payment on January 1, 2011, will be:
Date: January 1, 2011
Debit: Interest Payable - $50,000
Credit: Cash - $50,000
4. The amount of cash that will be paid for the retirement of the bonds on the maturity date can be calculated using the following formula:
Cash payment = Face value of bonds + Interest expense over the bond term
Since the bonds have a face value of $1,000,000 and a term of 6 years, we need to calculate the total interest expense over this period. The interest expense for each year can be found using the following formula:
Interest expense = Principal amount x Interest rate
Year 1: $1,000,000 x 10% = $100,000
Year 2: $1,000,000 x 10% = $100,000
Year 3: $1,000,000 x 10% = $100,000
Year 4: $1,000,000 x 10% = $100,000
Year 5: $1,000,000 x 10% = $100,000
Year 6: $1,000,000 x 10% = $100,000
Total interest expense over 6 years = $100,000 x 6 = $600,000
Therefore, the cash payment for the retirement of the bonds on the maturity date will be:
Cash payment = Face value of bonds + Interest expense over the bond term
= $1,000,000 + $600,000
= $1,600,000