Why do we amortize bond discount?
Table of Contents
- 1 Why do we amortize bond discount?
- 2 Why is it necessary to amortize a premium or discount on a bond investment?
- 3 What impact will the amortization of a bond discount have on reported interest expense?
- 4 When a taxable bond is issued at a discount taxpayers are required to amortize?
- 5 What happens to bond book value as a discount is amortized?
- 6 How do you amortize a bond?
- 7 How are bond premiums treated for tax purposes?
- 8 How do you amortize a bond discount?
- 9 How to calculate the unamortized bond premium?
- 10 Is bond premium amortization taxable?
Why do we amortize bond discount?
Because bonds sold at a discount will be repaid at their full face value, total bond discount is added back to arrive at the bond face value. Bond discount amortization over time increases bond carrying value, which in turn increases the total interest expense.
When interest rates go up, the market value of bonds goes down and vice versa. It leads to market premiums and discounts on the face value of bonds. The bond premium has to be amortized periodically, thus leading to a reduction in the cost basis. It facilitates the taxation of assets.
What does amortization discount mean?
The systematic allocation of the discount on bonds payable (reported as a debit in a contra-liability account) to Bond Interest Expense over the life of the bonds.
What impact will the amortization of a bond discount have on reported interest expense?
When using the effective interest method, the debit amount in the discount on bonds payable is moved to the interest account. Therefore, the amortization causes interest expense in each accounting period to be higher than the amount of interest paid during each year of the bond’s life.
When a taxable bond is issued at a discount taxpayers are required to amortize?
(T/F) When a taxable bond is issued at a discount, taxpayers are required to amortize the discount and reduce the amount of interest reported in the current year by the amount of current year original issue discount amortization.
What is bond discount?
Bond discount is the amount by which the market price of a bond is lower than its principal amount due at maturity. This amount, called its par value, is often $1,000. The primary features of a bond are its coupon rate, face value, and market price.
What happens to bond book value as a discount is amortized?
The carrying value is also commonly referred to as the carrying amount or the book value of the bond. Because interest rates continually fluctuate, bonds are rarely sold at their face values. Premiums and discounts are amortized over the life of the bond, therefore book value equals par value at maturity.
How do you amortize a bond?
The easiest way to account for an amortized bond is to use the straight-line method of amortization. Under this method of accounting, the bond discount that is amortized each year is equal over the life of the bond. Companies may also issue amortized bonds and use the effective-interest method.
How do you amortize a discount bond?
When a discounted bond is sold, the amount of the bond’s discount must be amortized to interest expense over the life of the bond. When using the effective interest method, the debit amount in the discount on bonds payable is moved to the interest account.
If the bond yields tax-exempt interest, you must amortize the premium. This amortized amount is not deductible in determining taxable income. As long as the bond is held to maturity, there will be no capital gain or loss associated with the bond.
How do you amortize a bond discount?
What is a discount on a bond payable?
Discount on bonds payable (or bond discount) occurs when bonds are issued for less than their face or maturity amount. This is caused by the bonds having a stated interest rate which is lower than the market interest rate for similar bonds.
Obtain the interest rate you will use to calculate the present value of the coupons and maturity value.
Tax-exempt Bonds Purchased at a Premium. Generally no reduction for premium amortization is allowed since the interest is not taxable, but if the bonds are taxable (out-of-state) bonds, the taxable income can be reduced by the amount of premium amortization.
Are bond premiums taxable?
If you pay a premium to buy a bond, the premium is part of your basis in the bond. If the bond yields taxable interest, you can choose to amortize the premium. This generally means that each year, over the life of the bond, you use a part of the premium to reduce the amount of interest includible in your income.