BONDS PAYABLE

At the end of the topic, you should be able to:

1. To understand the nature and purpose of a bond.
2. To identify the types of bond.
3. To know the measurement of bonds payable.
4. To understand the concept of bond premium and bond discount.
5. To describe the methods of amortizing bond premium and bond discount.
6. To apply the fair value option of measuring bonds payable.

CHAPTER 4
Bonds
✓ These are borrowings from the general investing public when an entity
needs large amounts of money.

✓ Bonds are used primarily by corporations and government units.

✓ Contract of debt whereby one party called the issuer borrows funds from
another party called the investor.

✓ Evidenced by a certificate and the contractual agreement between the

issuer and investor is contained in the bond indenture.
Types of Bonds
As to As to As to
Maturity Security Registration

Term Mortgage Registered

Bonds Bonds Bonds

Serial Collateral Coupon or

Bonds Trust Bearer
Bonds Bonds

Debenture
Bonds
Other Types of Bonds
Convertible Bonds

Callable Bonds

Guaranteed Bonds

Junk Bonds

Zero-Coupon Bonds
Features of Bond Issue
Bond Indenture
✓ Shows in detail the
terms of the loan
and the rights and
duties of the
borrower and
other parties to the
contract.
Features of Bond Issue
Trustee
✓ Usually a bank or trust entity which holds the title to the property
pledged as security for the loan and also acts as registrar or disbursing
agent.
Contents of Bond Indenture
Normally, it contains the following:
1. Characteristics of the bonds.
2. Maturity date and the provision for repayment.
3. Period of grace allowed to issuing entity.
4. Establishment of a sinking fund and the periodic deposit therein.
5. Deposit to cover interest payments.
6. Provisions affecting mortgaged property, such as taxes, insurance coverage, collection
of interest or dividends on collaterals.
7. Access to corporate books and records of trustee.
8. Certification of bonds by trustee.
9. Required debt to equity ratio.
10. Minimum working capital to be maintained, if any.
Accounting for Authorization to Issue Bonds
Memorandum Approach
• When an entity is authorized to issue bonds, no journal entry
is made. Only a memorandum entry is made in the general
journal and a notation of the amount authorized.
Journal Entry Approach
• A journal entry is made by debiting ‘Unissued Bonds Payable
and crediting ‘Authorized Bonds Payable’
Sale or Issuance of Bonds Payable
✓ Bonds are divided into various denominations (P100, P1,000 and P10,000)

✓ Each bond is evidenced by a certificate called bond certificate.

✓ Sale of the bonds may be undertaken by the entity itself, however, it may
be sold to an underwriter or investment bank which assumes the
responsibility of the bonds to investors for a commission.

✓ When an entity sells a bond issue, it undertakes to pay the face amount of
the bonds issue on maturity date and the periodic interest.
Issuance of Bonds Payable @ Face Amount
Transaction Memorandum Journal Entry Approach
Approach

Authorization to Issue Dr: Unissued Bonds Payable XX

Memorandum Entry
Bonds Payable Cr: Authorized Bonds Payable XX

Dr: Cash XX Dr: Cash XX

Issuance of Bonds Payable
Cr: Bonds Payable XX Cr: Unissued Bonds Payable XX

The memorandum approach will be employed in the succeeding discussions.

Initial Measurement of Bonds

Designated @ Fair Value

• Measured at fair value

NOT Designated @ Fair Value

• Measured at Fair Value less Transaction
Costs
Initial Measurement of Bonds
Fair Value
✓ The present value of the future cash payments to settle the bond
liability.
✓ The same as the issue price or net proceeds from the issue of the
bonds, excluding accrued interest.
Bond Issue Costs
✓ These are transaction costs directly attributable to the issue of bonds
payable
✓ Examples: printing and engraving cost, legal and accounting fee,
registration fee with regulatory authorities, commissions paid.
Treatment of Bond Issue Costs

Designated @ Fair Value

• Expensed Immediately

NOT Designated @ Fair Value

• Deducted from the Fair Value at initial
measurement.
Illustrative Problem 1 : Initial Measurement
On January 1, 2022, KAG Company issued a 5-year, P10,000,000, 15%
bonds. Interest on the bonds is payable semi-annually on June 30 and
December 31 of each year until maturity.

Determine the initial measurement of the bonds under each of the

following independent cases if the bonds were designated at fair
value or not designated at fair value.
1. The bonds were issued at 98.
2. The bonds were issued at 109.
Answers : Designated @ FV
1. Fair Value = 10,000,000 x 0.98 = 9,800,000

Cash 9,800,000
Bonds Payable 9,800,000

2. Fair Value = 10,000,000 x 1.09 = 10,900,000

Cash 10,900,000
Bonds Payable 10,900,000
Answer : For Designated @ Fair Value
Notes:
1. The bonds payable is initially recorded at fair value.
2. No bond discount or premium is recorded.
Answers : NOT Designated @ FV
1. Fair Value = 10,000,000 x 0.98 = 9,800,000

Cash 9,800,000
Discount on Bonds 200,000
Bonds Payable 10,000,000

2. Fair Value = 10,000,000 x 1.09 = 10,900,000

Cash 10,900,000
Bonds Payable 10,000,000
Premium on Bonds 900,000
Answer : For NOT Designated @ Fair Value
Notes:
1. The bonds is initially recorded at Fair Value less Transaction Costs, but
since there is no transaction cost, it is also recorded at Fair Value.
2. A bond discount or premium is recorded.
Illustrative Problem 2 : Initial Measurement
On January 1, 2022, KAG Company issued a 5-year, P10,000,000, 15%
bonds. VC Company incurred bond issue costs of P10,000. Interest on
the bonds is payable semi-annually on June 30 and December 31 of each
year until maturity.

Determine the initial measurement of the bonds under each of the

following independent cases if the bonds were designated at fair
value or not designated at fair value.
1. The bonds were issued at 98.
2. The bonds were issued at 109.
Answer : For Designated @ Fair Value
1. Fair Value = 10,000,000 x 0.98 = 9,800,000
Cash 9,800,000
Bonds Payable 9,800,000

Transaction Cost 10,000

Cash 10,000
2. Fair Value = 10,000,000 x 1.09 = 10,900,000
Cash 10,900,000
Bonds Payable 10,900,000

Transaction Cost 10,000

Cash 10,000
Answer : For Designated @ Fair Value
Notes:
1. The transaction costs or bond issue costs should be expensed
immediately.
2. No bond discount or premium is recorded.
Answer : For NOT Designated @ Fair Value
1. Fair Value = 10,000,000 x 0.98 = 9,800,000

Cash 9,790,000
Discount on Bonds 210,000
Bonds Payable 10,000,000

2. Fair Value = 10,000,000 x 1.09 = 10,900,000

Cash 10,890,000
Bonds Payable 10,000,000
Premium on Bonds 890,000
Answer : For NOT Designated @ Fair Value
Notes:
1. The transaction costs or bond issue costs are deducted from the fair
value.
2. A bond discount or premium is recorded.
Subsequent Measurement of Bonds

Designated @ Fair Value

• Measured at fair value through profit or loss

NOT Designated @ Fair Value

• Measured at amortized cost using the
effective interest method
Illustrative Problem 3 : @ Fair Value
On January 1, 2022, KAG Company issued a 5-year, P10,000,000, 15%
bonds @ 105 . Interest on the bonds is payable semi-annually on June 30
and December 31 of each year until maturity.

Prepare the journal entry to record change in fair value if the fair
value at December 31, 2022, is as follows:
1. @ P110
2. @ P103
Answer : @ Fair Value
1. Initial Measurement 10,500,000
Fair Value @ 12/31 11,000,000 500,000 increase

Loss from change in FV 500,000

Bonds Payable 500,000

2. Initial Measurement 10,500,000

Fair Value @ 12/31 10,300,000 200,000 decrease

Bonds Payable 200,000

Gain from change in FV 200,000
Answer : @ Fair Value
To record the interest expense

June 30
Interest Expense 750,000
Cash (7.5% x 10,000,000) 750,000

December 31
Interest Expense 750,000
Cash (7.5% x 10,000,000) 750,000
Answer : @ Fair Value
Notes:
1. The bonds payable under the fair value option shall be measured initially
measured ay every year-end with any changes in fair value recognized in
profit or loss.
2. Any change in fair value attributable to credit risk of the liability is
recognized in other comprehensive income. Credit risk does not include
market risk such as interest risk, currency risk and price risk,
3. There is no more amortization of bond discount or bond premium.
4. The interest expense is recorded based on the stated or nominal interest
rate.
Subsequent Measurement of Bonds
Amortized Cost
✓ The initial measurement minus principal repayment, plus or minus the
cumulative amortization using the effective interest method of any
difference between the face amount and present value of the bonds
payable.

Discount or Premium on Bonds Payable

✓ Face Amount > Present Value, we have Discount.
✓ Face Amount < Present Value, we have Premium.
Issuance of Bonds Payable @ Premium or Discount
Transaction Memorandum Approach
Cash XX
Issuance of Bonds @ a Premium Bonds Payable XX
Premium on Bonds XX
Cash XX
Issuance of Bonds @ a Discount Discount on Bonds XX
Bonds Payable XX
Effects of Premium and Discount on Bonds
Transaction Effect
✓ A gain on the part of the issuing entity
✓ This gain, however, is not recognized as outright gain.
Premium
✓ Recognized as reduction of interest Expense through amortization.
✓ Effective Rate < Nominal Rate

✓ A loss on the part of the issuing entity

✓ This loss, however, is not recognized as outright loss.
Discount
✓ Recognized as an additional interest expense through amortization.
✓ Effective Rate > Nominal Rate
Amortization of Bond Premium or Discount
Transaction Jour

Premium on Bonds XX
Amortization of Premium
Interest Expense XX

Interest Expense XX
Amortization of Discount
Discount on Bonds XX

NOTE: Recall on the previous slide that amortization of premium decreases our
interest expense. On the other hand, the amortization of discount increases our total
interest expense
Presentation of Premium and Discount on Bonds
Transaction Presentation in Balance Sheet
Noncurrent Liabilities:
Bonds Payable 5,000,000
Presentation
Premium on Bonds Payable 250,000
of Premium
Carrying Amount/Amortized Cost 5,250,000

Noncurrent Liabilities:
Presentation Bonds Payable 5,000,000
of Discount Discount on Bonds Payable (250,000)
Carrying Amount/Amortized Cost 4,750,000
Illustrative Problem 4 : @ Amortized Cost
On January 1, 2021, an entity issued a two-year 8% bonds payable with
face amount of P1,000,000 for P964,540, a price which will yield a 10%
effective interest cost per year. Interest is payable semiannually on June 30
and December 31.

Prepare the journal entries needed to record the subsequent

measurement of the bonds payable.
Answer 4 : @ Amortized Cost
Date Interest Interest Amortization Carrying
Paid Expense Amount
Jan 1, 2021 964,540
Jun 30, 2021 40,000 48,227 8,227 972,767
Dec 31, 2021 40,000 48,638 8,638 981,405
Jun 30, 2022 40,000 49,070 9,070 990,475
Dec 31, 2022 40,000 49,525 9,525 1,000,000
Answer : @ Amortized Cost
Journal Entries for 2021

January 1 Cash 964,540

Discount on Bonds 35,460
Bonds Payable 1,000,000

June 30 Interest Expense 40,000

Cash 40,000

Interest Expense 8,227

Discount on Bonds 8,227
Answer : @ Amortized Cost
Journal Entries for 2021

Dec 31 Interest Expense 40,000

Cash 40,000

Interest Expense 8,638

Discount on Bonds 8,638
Illustrative Problem 4 : @ Amortized Cost
On January 1, 2021, an entity issued a three-year 12% bonds payable with
face amount of P1,000,000 for P1,049,740, a price which will yield a 10%
effective interest cost per year. Interest is payable annually December 31.

Prepare the journal entries needed to record the subsequent

measurement of the bonds payable.
Answer 4 : @ Amortized Cost
Date Interest Interest Amortization Carrying
Paid Expense Amount
Jan 1, 2021 1,049,740
Dec 31, 2021 120,000 104,974 15,026 1,034,714
Dec 31, 2022 120,000 103,471 16,529 1,018,185
Dec 31, 2023 120,000 101,815 18,185 1,000,000
Answer : @ Amortized Cost
Journal Entries for 2021

January 1 Cash 1,049,740

Bonds Payable 1,000,000
Premium on Bonds 49,740

Dec 31 Interest Expense 120,000

Cash 120,000

Premium on Bonds 15,026

Interest Expense 15,026
Market Price or Issue Price of Bonds Payable
The market price or issue price of bonds payable is equal to the
present value of the principal bond liability plus the present
value of future interest payments using the effective or market
rate of interest.
Market Price or Issue Price of Bonds Payable
Present Value of Bonds Payable
= PV of 1 using Effective Rate x Face Amount

Present Value of Interest Payments

= PVOA of 1 using Effective Rate x Interest Payment

The total of these two is the Market Price of Bonds Payable.

Illustrative Problem 5 : Market Price – Term Bonds
On January 1, 2021, an entity issued a three-year 12% bonds payable with
face amount of P1,000,000 at a price which will yield a 10% effective
interest cost per year. Interest is payable annually December 31.

Determine the market price of the Bonds Payable.

Answer : Market Price – Term Bonds
Present Value of Bonds Payable
= PV of 1 using Effective Rate x Face Amount
= 0.751315 x P1,000,000
= P751,315
Present Value of Interest Payments
= PVOA of 1 using Effective Rate x Interest Payment
= 2.486852 x P120,000
= P298,422.2

Market Price = P751,315 + P298,422.2

= P1,049,737
Illustrative Problem 6 : Market Price – Term Bonds
On January 1, 2021, an entity issued a two-year 8% bonds payable with
face amount of P1,000,000 for a price which will yield a 10% effective
interest cost per year. Interest is payable semiannually on June 30 and
December 31.

Determine the market price of the Bonds Payable.

Answer : Market Price – Term Bonds
Present Value of Bonds Payable
= PV of 1 using Effective Rate x Face Amount
= 0.822702 x P1,000,000
= P822,702
Present Value of Interest Payments
= PVOA of 1 using Effective Rate x Interest Payment
= 3.545951 x P40,000
= P141,838

Market Price = P822,702 + P141,838

= P964,540
Illustrative Problem 7 : Market Price – Serial Bonds
On January 1, 2022, an entity issued a 5-year 12% serial-bonds payable
with face amount of P5,000,000 for a price which will yield a 8%
effective interest cost per year. The contract requires the face amount to
be paid in five equal annual installments and interest on the unpaid
balance to be paid annually every December 31 starting December 31,
2022.

Determine the market price of the Serial Bonds Payable.

Answer : Market Price – Serial Bonds
Present Value of Bonds Payable
Date Principal Interest Future Cash PV of 1 Present
Repayment Payment Payments @ 8% Value
12/31/22 1,000,000 600,000 1,600,000 0.9259 1,481,440
12/31/23 1,000,000 480,000 1,480,000 0.8573 1,268,804
12/31/24 1,000,000 360,000 1,360,000 0.7938 1,079,568
12/31/25 1,000,000 240,000 1,240,000 0.7350 911,400
12/31/26 1,000,000 120,000 1,120,000 0.6806 762,272
Total Present Value 01/01/22 5,503,484
Recording Interests on Bonds Payable
Accounting for interest expense on Bonds Payable requires
recognition of two items, namely:

✓ Payment of interest during the year

✓ Accrual of interest at the end of the year
Illustrative Problem 8 : Recording Interests
On March 1, 2021, an entity issued a two-year 8% bonds payable with
face amount of P1,000,000 for P964,540, a price which will yield a 10%
effective interest cost per year. Interest is payable semiannually on March
1 and September 1.

Prepare the journal entries needed to record the interest payments

and amortization.
Answer 8 : Recording Interests
Date Interest Interest Amortization Carrying
Paid Expense Amount
Mar 1, 2021 964,540
Sep 1, 2021 40,000 48,227 8,227 972,767
Mar 1, 2022 40,000 48,638 8,638 981,405
Sep 1, 2022 40,000 49,070 9,070 990,475
Mar 1, 2023 40,000 49,525 9,525 1,000,000
Answer 8 : Recording Interests
2021
Mar 1 Cash 964,540
Discount on Bonds 35,460
Bonds Payable 1,000,000

Sep 1 Interest Expense 48,227

Cash 40,000
Discount on Bonds 8,227
Answer 8 : Recording Interests
2021
Dec 31 Interest Expense 5,759
Discount on Bonds 5,759

Interest Expense 26,667

Accrued Interest 26,667
2022
Jan 1 Accrued Interest 26,667
Interest Expense 26,667
Answer 8 : Recording Interests
2022
Mar 1 Interest Expense 2,879
Discount on Bonds 2,879

Interest Expense 40,000

Cash 40,000

Sep 1 Interest Expense 49,070

Cash 40,000
Discount on Bonds 9,070
Recording Interests on Bonds Payable
Notes:
1. If the interest date do not coincide with the reporting date, an
accrual should be made to record for the interest expense.
2. The company may choose to reverse the entry of the accrual
made at the end of the year to facilitate normal recording of
interest payment on the next interest date.
3. The amortization of the discount on bonds payable or
premium on bonds payable may be on every interest date or
at the end of the year.
Issuance of Bonds Between Interest Dates
✓ If bonds are issued between interest dates, an accrued interest
is involved.

✓ Normally, when bonds are issued between interest dates, the

accrued interest is paid by the buyer or investor.
Illustrative Problem 9 : Between Interest Dates
On April 1, 2021, an entity issued a three-year 12% bonds payable dated
January 1, 2021, with face amount of P1,000,000 for P1,049,740 plus
accrued interest, which will yield a 10% effective interest cost per year.
Interest is payable annually December 31.

Prepare the journal entries needed to record the issuance of the

bonds payable and its subsequent measurement.
Answer 9 : Between Interest Dates
Date Interest Interest Amortization Carrying
Paid Expense Amount
Apr 1, 2021 1,049,740
Dec 31, 2021 120,000 104,974 15,026 1,034,714
Dec 31, 2022 120,000 103,471 16,529 1,018,185
Dec 31, 2023 120,000 101,815 18,185 1,000,000
Answer 9 : Between Interest Dates
2021
Apr 1 Cash 1,079,740
Bonds Payable 1,000,000
Premium on Bonds 49,740
Interest Expense 30,000

Issue Price P1,049,740

Add: Accrued Interest (1M x 12% x 3/12) 30,000
Total Cash Received P1,079,740

Face Amount P1,000,000

Issue Price 1,049,740
Premium on Bonds 49,740
Answer 9 : Between Interest Dates
2021
Dec 31 Interest Expense 120,000
Cash 120,000

Premium on Bonds Payable 15,026

Interest Expense 15,026
Answer 9 : Between Interest Dates
Notes:
1. The accrued interest sold is credited to interest expense.
2. Another approach is to credit accrued interest on the date of issue, however, the
approach of crediting interest expense instead of accrued interest payable is
preferable.
3. In either approach, the debit balance of the interest expense account will be the
same.
4. The amortization of the premium or discount on bonds payable may be on
every interest date or every end of the year.
Bonds Retirement on Maturity Date
✓ When the bonds mature, any discount or premium should
already be fully amortized. Hence, the carrying amount of the
bonds payable should be equal already to its face amount.
Illustrative Problem 10 : Retirement at Maturity Date
On April 1, 2021, an entity issued a three-year 12% bonds payable dated
January 1, 2021, with face amount of P1,000,000 for P1,049,740 plus
accrued interest, which will yield a 10% effective interest cost per year.
Interest is payable annually December 31.

Prepare the journal entry to record the retirement of the bond on

December 31, 2023.
Answer 10 : Retirement at Maturity Date
Date Interest Interest Amortization Carrying
Paid Expense Amount
Apr 1, 2021 1,049,740
Dec 31, 2021 120,000 104,974 15,026 1,034,714
Dec 31, 2022 120,000 103,471 16,529 1,018,185
Dec 31, 2023 120,000 101,815 18,185 1,000,000
Answer 10 : Retirement at Maturity Date
2023
Dec 31 Premium on Bonds Payable 18,185
Interest Expense 18,185

Interest Expense 120,000

Bonds Payable 1,000,000
Cash/Sinking Fund 1,120,000
Answer 10 : Retirement at Maturity Date
Notes:
1. At maturity date, the journal entry to retire the bonds will include the face
amount of the bonds and the last interest payment.
2. If a sinking fund is not used, the payment of the bonds will come from the
general cash.
 REFERENCES
Intermediate Accounting (Volume Two) 2021 Edition by Valix, Peralta & Valix.

Intermediate Accounting 2, 2022 Edition by Millan, Zeus Vernon.

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