Topic: Accrued Interest

LO: 1

1. Perfect Pet Company gave a creditor a 90-day, 6% note payable for $28,000 on December 1, 2019. What amount of interest will be accrued as of December 31, 2019?

Where will this amount be reported in the companys financial statements?

Answer:

$28,000 6% 30/360 = $140

Reported as a current liability as interest payable on the balance sheet

Topic: Gain (Loss) on Bond Repayment

LO: 2

2. On June 30, one year before maturity, Boat Shoes, Inc. retired $600,000 of its 10% bonds payable at 96. The bonds book value on June 30 is $495,000. Bond interest is presently paid up to the date of retirement.

How much is the gain or loss on the retirement of these bonds?

Answer:

Cash for retirement = $600,000 x 0.96 = $576,000

Gain (loss) = Net bonds payable - Cash payment = $495,000 $576,000 = $81,000 loss

Topic: Financial Statement Classification

LO: 1, 2

3. Indicate the proper financial classification (balance sheet or income statement) for each of the following accounts:

A.Loss on bond retirement

B. Bonds payable

C. Mortgage interest expense

D. Bonds due to be paid within 12 months

Answer:

A. Reported on the income statement

B. Shown on the balance sheet as long-term liability

C. Reported on the income statement

D. Reported as a current liability on the balance sheet

Topic: Accrued Interest

LO: 1

4. Calculate the interest accrued for each of the following notes payable owed by Boundas Resorts as of December 31, 2019:

Lender

Date of Note

Principal

Coupon Rate

Term

Roof Point

10/01/19

$90,000

10.0%

6 months

Second Bank

12/01/19

$45,000

8.0%

90 days

Step Up

3/31/19

$30,000

9.0%

1 year

Answer:

Lender

Interest Accrued

Principal Annual Rate Time outstanding

Roof Point

$2,250

$90,000 10.0% 3/12

Second Bank

$300

$45,000 8.0% 30/360

Step Up

$2,025

$30,000 9.0% 9/12

Topic: Bond Retirement

LO: 2

5. Kenyon Company issued $1,050,000 of 7%, 20-year bonds at 104 on January 1, 2008. Interest is payable semi-annually on July 1 and January 1. Through January 1, 2019, Kenyon amortized $25,500 of the bond premium. On January 1, 2019, Kenyon retires the bond at 101 (after making the interest payment on that date).

Indicate the journal entry for the bond retirement on January 1, 2019.

Answer:

$1,050,000 1.04 = $1,092,000 issue price

$1,050,000 1.01 = $1,060,500 retirement amount

Unamortized premium = $42,000 premium $25,500 amortized = $16,500

Book value of bonds on date of repurchase = $1,050,000 + $16,500 = $1,066,500

Gain on retirement = $1,060,500 - $1,066,500 = $6,000

2016

Jan. 1Bonds payable1,050,000

Premium on bonds payable16,500

Gain on bond retirement 6,000

Cash1,060,500

Topic: Transaction Analysis

LO: 1

6. Determine how each of the following transactions affect liabilities.

A.Payment to employees for wages previously accrued

B. Accrue interest of $200 on a note payable

C. Payment of $180 to bank for interest accrued on a note payable

Answer:

A. This transaction reduces current liabilities with a decrease in cash and a decrease in wages payable.

B. Interest payable increases which is a current liability. Interest expense also increases on the income statement causing retained earnings to decrease.

C. Interest payable, a current liability, decreases along with cash.

Topic: Interest Accrual

LO: 1

7. Stone Mountain took out a one-year, 6%, $100,000 to be repaid on April 1, 2020. Interest is due when the loan is repaid.

How much interest should be accrued at December 31, 2019, and how should it be recorded in the financial statements?

Answer:

Interest expense = Principal Annual interest rate Portion of year outstanding

= $100,000 6% 9/12 = $4,500

The $4,500 should be recorded as an increase in liabilities (interest payable) and an increase in interest expense on the income statement which in turn reduces retained earnings on the balance sheet.

Topic: Gain (Loss) on Note Retirement

LO: 2

8. Fergus Fabricators, a manufacturing company, paid $20,400,000 to retire $24,000,000 in 7% notes due in 5 years. The book value of the notes was $19,200,000 at the date of retirement.

How much is the net gain or loss on the redemption of these notes? Prepare the journal entry to record the transaction.

Answer:

$20,400,000 paid - $19,200,000 book value = $1,200,000 net loss

Notes payable

19,200,000

Loss on note retirement

1,200,000

Cash

20,400,000

Topic: Recognition and Disclosure

LO: 3

9. The following items represent various types of liabilities.

1. A manufacturing company is sued for alleged product liability. The companys attorney does not feel that the suit will result in liability to the company, but a loss is possible. If adversely adjudicated, the liability would be material.

2. Alpha has sold products to Sparkle Jewelers, a retailer that sold the products to customers. The manufacturers warranty offers replacement of the product if it is found to be defective within 90 days of the sale to the consumer. Historically, 0.06% of the products are returned for replacement.

3. A customer has filed a lawsuit for a minor amount against Sparkle Jewelers. Sparkles attorneys have reviewed the case and have found that many similar cases have never been awarded to the plaintiff.

Identify if the above independent situations should be (a) recorded in the financial statements, (b) disclosed in a footnote in the financial statements, or (c) neither.

Answer:

1. (b)Disclosed in footnote because this is reasonably possible

2. (a)Recorded in the financial statements because the costs are probable and reasonably estimable.

3. (c)Neither recorded nor disclosed because this is not even reasonably possible

Topic: Interest Expense and Bonds

LO: 2

10. Explain the differences in the components of interest expense for the bonds sold at face value, at a discount, and at a premium.

Answer:

When a bond is sold at face value, the cost to the issuing company is only the cost of the cash interest paid. Interest expense, in this case, is equal to the cash interest paid.

When a bond is sold at a discount, the interest expense is equal to the cash interest paid plus the amortization of the discount.

When a bond is sold at a premium, the interest expense is equal to the cash interest paid less the amortization of the premium.