On January 1, year 1, Boston Group issued $100,000 par value, 5% five-year bonds when the market rate of interest was 8%. Interest is payable annually on December 31. The following present value information is available:

On January 1, year 1, Boston Group issued $100,000 par value, 5% five-year bonds when the market rate of interest was 8%. Interest is payable annually on December 31. The following present value information is available:

5%
8%
Present value of $1 (n = 5)
0.78353 0.68058
Present value of an ordinary annuity (n = 5)
4.32948 3.99271

What amount is the value of net bonds payable at the end of year 1?

 

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CORRECT! The bonds were issued at a discount because the market interest rate exceeds the stated rate. The net liability at the end of year 1 reflects the issue price at the beginning of the year plus the discount amortization for year 1. Discount is a contra bond payable account. When it is amortized, the contra account is reduced, thus increasing the net bond liability. The bond price is $100,000(.68058) + .05($100,000)(3.99271) = $88,022. Interest expense for year 1 is .08($88,022) = $7,042. The journal entry for the first interest payment is: dr. Interest expense 7,042; cr. Discount 2,042; cr. Cash 5,000. Net liability at end of year 1 = $88,022 + $2,042 = $90,064.