Herman Company received proceeds of ₤565,500 on 10-year, 8% bonds issued on January 1, 2012. The bonds had a face value of ₤600,000, pay interest semi-annually on June 30 and December 31, and have a call price of 101. Herman uses the straight-line method of amortization. Herman Company decided to redeem the bonds on January 1, 2014. What amount of gain or loss would Herman report on its 2014 income statement?
A) ₤27,600 gain
B) ₤33,600 gain
C) ₤33,600 loss
D) ₤27,600 loss

Question

Quizplus · Accepted Answer

To redeem the bonds, Herman Company must pay the call price, which is 101% of the face value, or ₤606,000 (₤600,000 × 1.01). On January 1, 2014, Herman would have to record a loss for the difference between the call price and the carrying amount of the bonds. As of December 31, 2013, two years after the bonds were issued, Herman would have amortized the bond discount of ₤34,500 (₤600,000 - ₤565,500) as follows:

Each six-month period: 
Discount amortized = ₤34,500 ÷ 20 = ₤1,725

As of December 31, 2013: 
Total discount amortized = ₤1,725 × 4 = ₤6,900 
Carrying amount of bonds = ₤565,500 + ₤6,900 = ₤572,400

On January 1, 2014, Herman would record the following entry to redeem the bonds:

Bonds payable..................₤600,000 
Discount on bonds payable...₤34,500 
Cash.................................₤606,000 
Gain on redemption of bonds.... ₤33,600 (₤606,000 - ₤572,400)

Therefore, the amount of gain or loss that Herman would report on its 2014 income statement is ₤33,600 loss.

Herman Company Received Proceeds of ₤565,500 on 10-Year, 8% Bonds