On July 1, 2015, immediately after recording interest payments, Salsa, Inc. retired one fifth of its $500,000 of bonds payable for $97,500. The bonds were originally issued at par value in 2010. Which of the following statements is correct?
A) Stockholders' equity is not affected by the bond retirement.
B) A gain of $2,500 will be reported on the income statement.
C)A loss of $2,500 will be reported on the income statement.
D)A gain of $402,500 will be reported on the income statement.

Question

Quizplus · Accepted Answer

When a company retires bonds payable before maturity, the company could have a gain or loss on the retirement. In this case, the company retired one fifth of the $500,000 bonds payable, or $100,000 worth of bonds. The company paid $97,500 to retire these bonds, which is less than their carrying value ($100,000 x 1.05 = $105,000). Therefore, the company will report a gain on the income statement of $105,000 - $97,500 = $2,500. The retirement of bonds payable will result in a reduction of liabilities, but it does not affect stockholders' equity. The company will report the gain or loss on the income statement, not the balance sheet. The gain or loss is based on the carrying value of the bonds at the time of retirement, not the original par value of the bonds. Therefore, options A, C, and D are incorrect.

On July 1, 2015, Immediately After Recording Interest Payments, Salsa