 In this presentation, we will calculate the amortization of a discount and the recording of the reduction of the discount as well as interest on bonds issued at a discount. Support accounting instruction by clicking the link below, giving you a free month membership to all of the content on our website, broken out by category, further broken out by course, each course then organized in a logical, reasonable fashion, making it much more easy to find what you need than can be done on a YouTube page. We also include added resources such as Excel practice problems, PDF files and more like QuickBooks backup files when applicable. So once again, click the link below for a free month membership to our website and all the content on it. Here's going to be our data on the left side. We're going to enter that into our general journal and then post that to our worksheet. Our worksheet being in order, assets in green, liabilities in orange, equity, light blue and revenue and expenses in dark blue. Debits being positive numbers in our worksheet, credits being negative, the green zero indicating that the debits minus the credits equals zero or debits equal credits, net income currently at 700,000. We can see that we issued the bond at 198,484. The face amount of the bond was 240,000. So that's going to be here and that resulted in our bond on the books, 240,000 and a discount of 41516. That being the difference between the face amount of 240 and the issue price 198. So we have this discount. So now what we're going to say is that we pay these semi-annually. We pay interest semi-annually. So we're going to record our interest payments. When we do so, however, we're also going to have to deal with this discount and the reduction of this payable. Why? Because this is going to be really due to interest in a way. This difference is due to the market rate being assumed to be different from the rate on the contract and that's why we have this difference. So we're going to treat this reduction of the payable as kind of a type of interest, meaning we are going to expense it or put it on the income statement as we pay our normal interest payments, which in this case is semi-annual. So to do that, we'll first do a little calculation over here. We're going to do this with a straight line method. The effective method is a preferred method. It's going to be a little bit more exact in terms of applying the interest out, but the straight line is an easy method for us to understand. It can be used if the amount between the two methods is not materially different. And it really kind of lines up to what we see with other types of amortization methods if we're amortizing or depreciating something like equipment. It's more like it's just a straight line method. So that's what we want to take a look at. We'll take a look at an effective method, a different type of method, which will change slightly in terms of the amount that will be amortized each period in a later presentation. So what we're going to have here is we're going to start off with our discount and we know that the discount, we could just pull it from our number. So I'm just going to say the discount equals this number. Now don't pull it from the trial balance because that'll change the ending trial balance. If we pull it from the beginning trial balance, we can say, okay, that's our beginning number. And then the carrying amount is going to be the original amount minus the discount. So I'm going to take this number. I'm going to flip the sign subtracting the discount from it. So in other words, it's going to be negative. I'm going to take the 240 so that makes it a positive. And then I'm going to say minus this 41,516. So in other words, what we're saying here is the bonds on the books for 240,000 minus the discount gives us what we actually paid for it at the beginning of the bond, 198,44. That's going to be the carrying amount before any payments have been made. We're going to make a semi-annual interest payments and we're going to reduce the carrying amount or reduce the unamortized amount each of those pay periods. So that means we're going to take the amortization here, which is going to be equal to, it's just going to be straight line, this 41,516 and we'll divide it by the number of periods. Now this is a little bit tricky because there's 15 years semi-annual. So that would be 30 periods. So I'm going to divide it by 30. So again, this is actually a common problem and there's a couple of different ways we can calculate it. If we take the unamortized discount 41,516 and divide it by the number of years, what's given in the problem 15, then we're going to take that and divide it by 2 because it's semi-annual divided by 2 and that gives us this number about rounded as we can see. Or you take the 41,516 divided by the number of periods, which is 15 years times 2 divided by 30 and that'll give us the same amount. So whatever works best for you to think through that, then we're just going to take the unamortized premium minus what has been amortized. So this equals this minus this and enter and that's going to be the 41,132 and then the carrying amount is always going to be 240,000 minus whatever the unamortized premium is. So again, I'm going to do that with a little bit of a formula negative of this number over here. Make sure to pick the beginning number because this number will change so of the trial balance and then minus, we're going to take the 40,132. So it's just like this one, we took the negative 40 minus the unamortized, we're going to take that same negative 40 or that makes it a positive 40 minus the 40,132. We'll take the negative of this 240. Make sure not to pick this one up, we're going to pick up the first one because this number will change as we make journal entries and then we're going to subtract out the 40,132. So this is always the unamortized amount, we're going to take the original, the bond payable which won't change until the end and then we'll subtract out the unamortized amount. So it's just like this first one, 240 minus the 41 and then of course this went down and now we'll do it again. So if we do this a second time and note we're jumping forward in time, this is the bond, this is six months later and then six months later because we're paying every six months. So now we're going to say this will be the same because it's straight line the amount that we're going to amortize each month. And note we're not actually paying this amount, we will be paying interest each time. This is going to be allocating out the amount of the discount that we're going to be reducing. So we're going to say this equals the 1384 and then once again the unamortized amount will equal what was unamortized before minus the current amount that we're going to reduce it by and then the carrying amount once again will be negative of the 240 which doesn't change minus the 38,748 and we're just going to keep on doing this all the way down until we've completely reduced this amount to zero and we will then be at the end of the bond term. Now what we're going to do is we're going to copy this all the way down and we'll see that this amortized amount will go down and down until it reaches zero at the end of 30 payments. So to do that I'm going to copy it down one time this whole row and then see what happens to it and then we'll continue to copy it down. So I'm going to highlight these three cells or select them, then we're going to use the AutoVail fill and see if we can just copy it down and see if it does what we expected to do. So we'll copy that down and this looks right. This looks right because this is just equaling the cell above it. This one is subtracting out the correct two that's what we would want. This one however looks funny. Why? Because it's picking up this cell and that's not what we want. So what I'm going to do instead is delete this and try to do it again and we're going to say what if I pick up this cell I want this not to change when I copy it down and when I moved it down it takes the relative one that goes down. So to do that I'm going to use an absolute reference. So this cell I'm just going to say F4 on the keyboard push F4 or type in a dollar sign before the H and a dollar sign before the 6. We don't need two dollar signs but it doesn't hurt. So I'm going to say OK and then we'll copy this down one time. I'll highlight it copy it down one time. So there we have it now it looks like it's doing what we want that looks right that looks right that looks right. So this is going to keep going down until it gets down to zero and this is going to keep going till it gets to the carrying amount of 240. So we've added the date to note the year isn't here but of course we're talking about the next year each time. So this is six months later from the beginning then we've got the end of the year six months later now we're in the next year so we're always jumping up six months. So if we go then and we highlight this all the way down I'm going to select these cells going to go all the way down to 30 payments or 30 of the amortizations that we're going to be making here and just auto fill this all the way down to 30. So we could see that it does what we would expect it's going down evenly by one thousand three eighty four till it gets to zero and then we're at the two hundred forty so the at the end of thirty periods at the end of fifteen years two times a year we will be down to being left with just the two hundred forty and this will be at zero and then of course we'll make that final payment of the two hundred forty. So now what we're going to do is we're just going to record the first one of these so we're recording this one I'm going to make it a different color so that we can see it as we record it. So first question is cash affected we're going to say it is not because of this spreadsheet but because we're going to record both the payment that we make as well as the reduction or amortization of the discount at the same time. So cash is going down so I'm going to say I'm going to copy cash I'm going to put that on the bottom right click and paste one two three. Now the amount that we're going to pay in cash is going to be equal to the face amount of the bond times the carrying rate or the amount on the bond meaning we're going to pay in accordance with the contract on the bond so we're going to use the two amounts that will physically be on the bond. The issue price is not physically on the bond neither is the market price. The things on the bond the promise we made is to pay two hundred forty thousand of the face amount times the interest rate stated on the bond. So that's what we're going to have now to calculate that it's going to be two hundred forty thousand times the rate on the bond point oh six six percent that would be for a year we're going to divide that by two so two thousand seven hundred or we can say okay well the rate is point oh six for a year if we divide that by two it would be three percent times the face amount two hundred forty thousand so two ways we can do that let's do that over here it's going to be a credit so I'm in east four negative two hundred forty thousand times point oh six divided by two so there we have it I'm going to indent this home tab alignment increase indenting probably done for you already okay so then we're going to have the the amount we paid the reduction in the print of the discount so here's the discount we need it to go down it's helpful to have a trial balance because it'll tell us that a discount has a debit balance and you know a discount has a debit balance because it's kind of the opposite of the bond it has to bring the bond down the bond payables a liability this must have a debit balance then in order to make it go down we're going to do the opposite thing to it we're going to credit it so I'm going to copy right click and copy and put that in C5 right click and paste one two three we're going to increase the indenting and that's going to be a credit and that's going to be a credit for the amount we determined over here so I'm going to do that with a formula negative of this number then we need a debit and that debit is going to go to the bond interest expense so I'm going to right click and copy expenses have debit balances they only go up the debit direction put that in C3 right click and paste one two three it's going to be the sum of these two 2007 plus the 1384 now this is the part that's really kind of confusing to most people because we can understand why we're expensing the 7200 because we pay that it's interest expense just like a loan this we didn't pay why are we doing it because the difference between these two when we put it on the books is the difference between the carrying value it's the difference between the face amount of the bond and the issue price and the reason for that is a difference in interest rates between market and the bond rate so therefore we're going to put this difference to interest and we're gonna we're gonna record it into interest as we go through the bond term so we're gonna add these two up I'm gonna do that with our negative sum formula it's going to be 8,584 in D 3 negative SUM double click the sum function now you could try to move this out of the way or go from the bottom to the top where you can move this out of the way and go from the top to the bottom there it is if we post this out here's the bond interest here it is here we're in the middle column in I 12 equals point to that 8,584 bringing the balance up net income down then we've got cash we're gonna be in I 3 equals 2007 bringing cash down and then the discount in I 7 equals pointing to the discount and enter bringing the discount down note what is not happening we're not paying the bond down and some people have problem with that because often we're used to loans like a mortgage where we pay both interest and principal here we're not paying any the principal until the end therefore this is just gonna remain on the books all we're doing is paying the rent on the money the interest we're not paying the principal down we're gonna pay it all off and a lump sum at the end now we can see we match the amortization table this number equaling this number the unamortized discount the carrying value if we take this minus this 199 868 is here 199 868 now we'll do this one more time I'm gonna make this blue again and make this one green let's do this one more time very similar journal entry as of the end of the year so that's why I kind of made this 12-1 instead of 1-1 so we can have two payments in the same year here so we've got 12-1 and same thing we're gonna pay cash so the cash I'm gonna copy the cash it's gonna be the same journal entry and same calculation so we're gonna say this is a negative so put negative 240,000 face amount times 0.06 6% the contract rate divided by 2 so there's that and I'll indent this home tab alignment increase in denting then the discount copy paste I'm gonna paste this one normal so that it'll indent for us and then the amount then is just gonna be this amount but it's gonna be a credit so same amount because we're using a straight line method negative of that number and then those are gonna go to the expense I'm gonna copy the expense same transaction negative sum adding these up 8,584 using the plug formula negative sum and then again if this is in the way it's faster to just go from the bottom to the top or you can move it out of the way but there you go okay then we'll post this out we'll have bond interest bond interest we're gonna say plus 8,584 bringing the interest up net income down cash it's gonna go here double click something's in it go to the end of it plus 7,002 bringing the cash down and then the bond discount here double click go to the end of it plus and we're gonna pick up that 1,384 and enter now we're left with once again the bond doesn't go down we're just paying off the interest and we're reducing the discount to interest and note you could do this with two journal entries and it might make it more sense to some people meaning we could make a journal entry saying cash is going down by 7,200 and then debit the expense and then make another journal entry saying that the bond discount is going down by 1,384 and debit the bond interest expense debiting interest expense twice most textbooks will combine the two however in practice so it's probably good to see them in that format but if it makes sense to you to break them out then break it out okay so then we're gonna have this matching out over here so we've got the 240 minus the 38,748 is 201,252 that being the carrying amount and of course the unamortized amount is the 38,748