CASE 115 Early Extinguishment of Debt

Gains or losses from the early extinguishment of debt that is refunded can theoretically be accounted for in three ways:

1. Amortized over the life of old debt
2. Amortized over the life of the new debt issue
3. Recognized in the period of extinguishment

Required:

1. Discuss the supporting arguments for each of the three theoretical methods of accounting for gains and losses from the early extinguishment of debt.
2. Which of the three methods would provide a balance sheet measure that reflects the present value of the future cash flows discounted at the interest rate that is commensurate with the risk associated with the new debt issue? Why?
3. Which of the three methods is generally accepted, and how should the appropriate amount of gain or loss be shown in a companys financial statements?