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Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094

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BuyFindarrow_forward

Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094
Textbook Problem

Debt investment transactions, available for-sale valuation

Rekya Mart Inc. is a general merchandise retail company that began operations on January 1. Year 1. The following transactions relate to debt investments acquired by Rekya Mart Inc., which has a fiscal year ending on December 31:

Year 1  
Apr. 1. Purchased $90,000 of smoke Bay 6%, 10-year bonds at their face amount plus accrued interest of $900.The bonds pay interest semiannually on February 1 and August 1.
May 16. Purchased $42,000 of Geotherma Co. 4%, 12-year bonds at their face amount plus accrued interest of $70. The bonds pay interest semiannually on May 1 and November 1.
Aug. 1. Received semiannual interest on the Smoke Bay bonds.
Sept. 1. Sold $12,000 of Smoke Bay bonds at 101 plus accrued interest of $60.
Nov. 1. Received semiannual interest on the Geotherma Co. bonds.
Dec. 31. Accrued $1,950 interest on the Smoke Bay bonds.
31 Accrued $280 interest on the Geotherma Co. bonds.
Year 2  
Feb. 1. Received semiannual interest on the Smoke Bay bonds.
May 1. Received semiannual interest on the Geotherma Co. bonds.

Instructions

1. Journalize the entries to record these transactions.

2. If the bond portfolio is classified as available for sale, what impact would this have on financial statement disclosure?

(1)

To determine

Bond investment: Bond investments are debt securities which pay a fixed interest revenue to the investor.

Journal entry: Journal entry is a set of economic events which can be measured in monetary terms. These are recorded chronologically and systematically.

Debit and credit rules:

  • Debit an increase in asset account, increase in expense account, decrease in liability account, and decrease in stockholders’ equity accounts.
  • Credit decrease in asset account, increase in revenue account, increase in liability account, and increase in stockholders’ equity accounts.

To journalize: The bond investment transactions in the books of Company RM

Explanation

Prepare journal entry for purchase of $100,000 bonds of Company SB, at face amount with an accrued interest of $900.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
April 1 Investments–Company SB Bonds   90,000  
    Interest Receivable   900  
             Cash     90,900
    (To record purchase of Company SB bonds for cash)      

Table (1)

Explanation:

  • Investments–Company SB Bonds is an asset account. Since bonds investments are purchased, asset value increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received has increased, asset value increased, and an increase in asset is debited.
  • Cash is an asset account. Since cash is paid, asset account decreased, and a decrease in asset is credited.

Prepare journal entry for purchase of $210,000 bonds of Company B, at face amount with an accrued interest of $700.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
May 16 Investments–Company G Bonds   42,000  
    Interest Receivable   70  
             Cash     42,070
    (To record purchase of Company G bonds for cash)      

Table (2)

Explanation:

  • Investments–Company G Bonds is an asset account. Since bonds investments are purchased, asset value increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received has increased, asset value increased, and an increase in asset is debited.
  • Cash is an asset account. Since cash is paid, asset account decreased, and a decrease in asset is credited.

Prepare journal entry to record the interest revenue received from Company SB bonds.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
August 1 Cash   2,700  
             Interest Receivable     900
             Interest Revenue     1,800
    (To record receipt of interest revenue)      

Table (3)

Explanation:

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received is received, asset value decreased, and a decrease in asset is credited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.

Working Notes:

Compute amount of interest received from Company SB.

Interest received = {Amount of debt investment × Rate of interest×Time period}= $90,000×6%×612= $2,700

Prepare journal entry for $12,000 bonds of Company SB sold at 101%, with an accrued interest of $60.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
September 1 Cash   12,180  
           Interest Revenue     60
           Gain on Sale of Investments     120
           Investments–Company SB Bonds     12,000
    (To record sale of Company SB bonds)      

Table (4)

Explanation:

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.
  • Gain on Sale of Investments is an income account. Since income increases equity, equity value is increased, and an increase in equity is credited.
  • Investments–Company SB Bonds is an asset account. Since bond investments are sold, asset value decreased, and a decrease in asset is credited.

Working Notes:

Calculate the cash received from the sale of bonds.

Particulars Amount ($)
Cash proceeds from sale of  $12,000 bonds ($12,000×101%) 12,120
Add: Accrued interest revenue 60
Cash received $12,180

Table (5)

Calculate the realized gain (loss) on sale of $40,000 bonds.

Particulars Amount ($)
Cash proceeds from sale of  $12,000 bonds ($12,000×101%) 12,120
Cost of bonds sold (12,000)
Gain (loss) on sale of bonds $120

Table (6)

Prepare journal entry to record the interest revenue received from Company G bonds.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
November 1 Cash   840  
             Interest Receivable     70
             Interest Revenue     770
    (To record receipt of interest revenue)      

Table (7)

Explanation:

  • Cash is an asset account

(2)

To determine

To explain: The impact of bonds, if the portfolio is classified as available-for-sale investment

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