How is the amortization schedule different if bonds are issued at a premium?

Amortizing Bond Premium with the Effective Interest Rate Method. When a bond is sold at a premium, the amount of the bond premium must be amortized to interest expense over the life of the bond. This means that when a bond’s book value decreases, the amount of interest expense will decrease.

How do you amortize a bond premium?

First, calculate the bond premium by subtracting the face value of the bond from what you paid for it. Then, figure out how many months are left before the bond matures and divide the bond premium by the number of months remaining. That tells you how much to amortize on a monthly basis.

When bonds are issued at a premium?

A bond that’s trading at a premium means that its price is trading at a premium or higher than the face value of the bond. For example, a bond that was issued at a face value of $1,000 might trade at $1,050 or a $50 premium. Even though the bond has yet to reach maturity, it can trade in the secondary market.

How do you calculate bond amortization?

Amortization = (Bond Issue Price – Face Value) / Bond Term Simply divide the $3,000 discount by the number of reporting periods. For an annual reporting of a five-year bond, this would be five. If you calculate it monthly, divide the discount by 60 months. The amortized cost would be $600 per year, or $50 per month.

What are the two methods of amortization of bonds discount premium?

Effective-interest and straight-line amortization are the two options for amortizing bond premiums or discounts.

What does amortization of premium on bonds payable?

The amortization of the premium on bonds payable is the systematic movement of the amount of premium received when the corporation issued the bonds. Over the life of the bonds the premium amount will be systematically moved to the income statement as a reduction of Bond Interest Expense.

Why do you amortize a bond premium?

When interest rates go up, the market value of bonds goes down and vice versa. It leads to market premiums and discounts on the face value of bonds. The bond premium has to be amortized periodically, thus leading to a reduction in the cost basis. It facilitates the taxation of assets.

How do you prepare a bond amortization schedule?

The following steps are used to prepare the schedule using this approach:

1. Calculate the current balance of the bond payable by discounting its remaining cash flows.
2. Divide the total discount or premium by the number of remaining periods in order to determine the amount to amortize in the current period.

Do you have to amortize bond premiums?

If the bond yields tax-exempt interest, you must amortize the premium. As long as the bond is held to maturity, there will be no capital gain or loss associated with the bond. If the bond is sold before maturity, you may have capital gain or loss based is the portion of the premium which has not yet been amortized.

What is the effective interest rate of premium bonds?

1%
The nearest thing Premium Bonds have to an interest rate is their annual prize rate, currently 1%.

Why discount and premium on issue of bonds is amortized?

With regards to bonds payable, the term amortize means to systematically allocate the discount on bonds payable, the premium on bonds payable, and the bond issue costs to Interest Expense over the remaining life of the bonds. (Bonds are likely to mature in 10 years or more.) What is the face value of a bond payable?

Do I have to amortize bond premium?

Is bond premium amortization an expense?

What Is an Amortizable Bond Premium? The amortizable bond premium is a tax term that refers to the excess price paid for a bond over and above its face value. Depending on the type of bond, the premium can be tax-deductible and amortized over the life of the bond on a pro-rata basis.

What happens on bond maturity date?

A bond’s term to maturity is the period during which its owner will receive interest payments on the investment. When the bond reaches maturity, the owner is repaid its par, or face, value. The term to maturity can change if the bond has a put or call option.

Why do you amortize bond discount?

Discounted bonds’ amortization always leads to an effective interest expense that is higher than the payment of the bond interest coupon for each period. If a bond is sold at a discount, it means that the market interest rate is above the coupon rate.

When bonds are issued at a premium the?

When a bond is issued at a premium, that means that the bond is sold for an amount greater than the bond’s face value. This generally means that the bond’s contract rate is greater than the market rate.

What is the amortization of premium on bonds payable?

What does it mean to amortize a bond discount or premium?

A tax term, the amortizable bond premium refers to the excess price (the premium) paid for a bond, over and above its face value. The premium paid for a bond represents part of the cost basis of the bond, and so can be tax-deductible, at a rate spread out (amortized) over the bond’s lifespan. 1.

What is the amortization schedule for a bond?

An amortization schedule lists each interest payment and reconciles it with interest expense showing period-wise amortization of bond premium. Following is the amortization schedule relevant to the bond payable discussed above:

How does amortizing bond premium reduce interest expense?

Amortizing Bond Premium with the Effective Interest Rate Method. In other words, the credit balance in the account Premium on Bonds Payable must be moved to the account Interest Expense thereby reducing interest expense in each of the accounting periods that the bond is outstanding.

When to amortize a 5 year 9% Bond?

Before we demonstrate the effective interest rate method for amortizing the bond premium pertaining to a 5-year 9% $100,000 bond issued in an 8% market for $104,100 on January 1, 2020, let’s outline a few concepts: The bond premium of $4,100 must be amortized to Interest Expense over the life of the bond.

How much is straight line amortization on a bond?

The following table shows how the bond’s book value will decrease from $104,100 to the bond’s maturity amount of $100,000: If monthly financial statements are issued, the straight-line amortization of the bond premium will be $68.33 per month ($4,100 of bond premium divided by the bond’s life of 60 months).