When the sales price of a bond is higher than the face value stated on the bond certificate, the bond is sold at a "premium." The excess amount of the sales price over the face value is recorded to the issuer's books under the account "premium on bonds payable" at the time of sale. Using the straight-line method of amortization, the seller evenly spreads the "premium" on its books over the life of the bond. This amortization reduces or offsets the interest expense incurred from the bond on the seller's books.
Locate the liability account "premium on bonds payable" in the company's general ledger to determine the value of the bond's premium recorded to the company's books on the date of the agreement.
Obtain the life of the bond from the bond agreement. Multiply the life of the bond by the number of semi-annual interest payments that must be paid to the lender. For example, if a two-year bond requires semi-annual interest payments, the total number of periods is four.
Divide the bond's premium from Step 1 by the total number of periods calculated in Step 2. The result is the portion of the bond's premium that should be amortized on the company's books each time interest is paid to the lender.
Create a journal entry that decreases the account "premium on bonds payable" with a debit when interest is paid semi-annually. Decrease cash for the interest paid to the lender with a credit, and debit the account "interest expense" for the difference.
Record this entry in the company's ledger each time interest is paid until the balance in the premium on bonds payable account has a zero balance at its maturity date.
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