Journal entry for issuing bonds
Introduction
In business, we may issue bonds to obtain cash for financing our business operation or business expansion. In this case, we need to make the journal entry for issuing bonds in order to record the cash inflow to the business as well as to account for the bonds payable which is a liability that exists at the time of issuing the bond.
Bonds are corporate debts that we, as a company, issue in order to obtain cash to fund our business. Likewise, the bonds issued usually come with interest attached which is also known as the “coupon rate”.
In this case, after issuing the bonds, we usually need to pay the interest amount to the bondholder annually or semi-annually based on the coupon rate stated on the bond. This is the compensation (besides the discount) that we give to the bondholder for buying the bonds we issue.
Journal entry for issuing bonds
When we issue a bond, we may issue it at face value, at a discount, or at a premium. This is usually based on the market interest rate and the risk that our bonds expose to as well as our reputation on the market.
Of course, it may also be because we want to properly manage cash flows as a result of issuing the bonds. For example, we may issue bonds at a premium in which we will receive more cash than issuing at face value. However, we may also need to give a higher coupon rate than the interest rate on the market. Otherwise, investors may not be interested in buying our bonds.
In any case, we will have different journal entries for issuing bonds at face value, at a discount, and at a premium.
Issuing bonds at face value
Issuing bonds at face value means that the cash that we receive from issuing the bonds equals the face value of the bonds.
In this case, we can make the journal entry for issuing bonds at face value by debiting the cash account and crediting the bonds payable.
| Account | Debit | Credit |
|---|---|---|
| Cash | xxxx | |
| Bonds payable | xxxx |
In this journal entry, the cash we receive from issuing the bonds equals the face value of the bonds. Hence, the carrying value of the bonds payable on the balance sheet equals the face value of issued bonds.
Issuing bonds at a discount
On the other hand, issuing bonds at a discount means that the cash we receive is less than the face value of the bonds.
In this case, we can make the journal entry for issuing bonds at a discount with the debit of the cash account and the bond discount account, and the credit of the bonds payable account.
| Account | Debit | Credit |
|---|---|---|
| Cash | xxxx | |
| Bond discount | xxxx | |
| Bonds payable | xxxx |
The bond discount account in this journal entry is a contra account to bonds payable on the balance sheet, in which its normal balance is on the debit side. And the amount recorded here is the difference between the cash received from issuing the bonds and the face value of the bonds.
In this case, the carrying value of the bonds payable on the balance sheet equals the bonds payable less the bond discount.
| Bonds payable on the balance sheet | |
| Bonds payable | xxxx |
| Less: Bond discount | (xxxx) |
| Carrying value of bonds payable | xxxx |
Issuing bonds at a premium
Meanwhile, issuing bonds at a premium means that the cash we receive from issuing the bonds is more than the face value of the bonds.
In this case, we can make the journal entry for issuing bonds at a premium by debiting the cash account and crediting the bonds payable account and the bond premium account.
| Account | Debit | Credit |
|---|---|---|
| Cash | xxxx | |
| Bonds payable | xxxx | |
| Bond premium | xxxx |
In this journal entry, the bond premium account is recorded as a liability that is added to the carrying value of the bonds payable on the balance sheet. Likewise, the normal balance of the bond premium account is on the credit side.
Hence, the carrying value of the bonds payable on the balance sheet equals the bonds payable plus the bond premium.
| Bonds payable on the balance sheet | |
| Bonds payable | xxxx |
| Add: Bond premium | xxxx |
| Carrying value of bonds payable | xxxx |
Bond interest payment
As mentioned, after issuing the bond, we usually need to pay the bond interest every six or twelve months during the period of the bond.
In this case, we need to make the journal entry for bond interest payment by debiting the interest expense account and crediting the cash account.
| Account | Debit | Credit |
|---|---|---|
| Interest expense | xxxx | |
| Cash | xxxx |
The journal entry of bond interest payment will increase total expenses on the income statement while decreasing total assets on the balance sheet.
Bond redemption at maturity
At the end of bond maturity, we can redeem the bonds back by paying the bondholders the amount equal to the face value of the bonds.
In this case, we can make the journal entry for bond redemption at maturity by debiting the bonds payable account and crediting the cash account.
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Cash | xxxx |
In this journal entry, both total assets and total liabilities on the balance sheet decrease by the same amount as a result of redeeming the bonds back at maturity.
Issuing bonds example
For example, we issue $100,000, three-year, 8% bonds at their face value. For these bonds, we have to pay the bond interest at the end of each year for the three-year periods of bond maturity.
What are the journal entries for issuing bonds, bond interest payment, and bond redemption at the end of maturity?
Solution:
Issuing bonds
We can make the journal entry for issuing the $100,000 bonds at the face value by debiting this $100,000 amount to the cash account and crediting the same amount to the bonds payable account.
| Account | Debit | Credit |
|---|---|---|
| Cash | 100,000 | |
| Bonds payable | 100,000 |
This journal entry will increase total assets and total liabilities on the balance sheet by $100,000 as a result of issuing the $100,000 bonds at their face value.
Bond interest payment
As the bonds have an interest rate of 8% per annum, we can calculate the interest payment to be $8,000 ($100,000 x 8%) per year.
In this case, we can make the journal entry for bond interest payment at the end of each year by debiting the $8,000 to the interest expense account and crediting the same amount to the cash account as below:
At the end of year 1:
| Account | Debit | Credit |
|---|---|---|
| Interest expense | 8,000 | |
| Cash | 8,000 |
At the end of year 2:
| Account | Debit | Credit |
|---|---|---|
| Interest expense | 8,000 | |
| Cash | 8,000 |
At the end of year 3:
| Account | Debit | Credit |
|---|---|---|
| Interest expense | 8,000 | |
| Cash | 8,000 |
Bond redemption at maturity
At the end of bond maturity, we can make the journal entry for the redemption of the $100,000 bonds at their maturity as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | 100,000 | |
| Cash | 100,000 |
This journal entry will decrease total assets and total liabilities by the same amount of $100,000 as we redeem the bonds back by paying the bondholders the $100,000 which is the face value of the bonds at the end of their maturity.
Bond redemption before maturity
Sometimes, we may redeem the issued bonds before their maturity. This may happen when there is a change in the market interest rate. Specifically, when there is a decrease in the market interest rate.
Of course, we need to have cash on hand in order to redeem back the issued bonds. Hence, we may just have a lot of cash surplus sometime, so we decide to redeem the issued bonds back before maturity to save the cost of interest.
In any case, there is usually a gain or loss on bond redemption before maturity. So, we need to record the gain or loss on the bond redemption to the income statement for the period.
Gain on bond redemption before maturity
Gain on redemption of bond issued at face value
We can make the journal entry for gain on bond redemption before maturity by debiting the bonds payable account and crediting the gain on bond redemption account and the cash account if the bond is issued at face value.
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Gain on bond redemption | xxxx | |
| Cash | xxxx |
Gain on redemption of bond issued at a discount
If the bond is issued at a discount, we need to also remove the remaining balance of the bond discount that has not been amortized as well. After all, redeeming the bond before maturity means that the discount or premium part of bond has not fully amortized yet.
In this case, for the discounted bond, the journal entry for gain on bond redemption will include the credit of the bond discount account as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Gain on bond redemption | xxxx | |
| Bond discount | xxxx | |
| Cash | xxxx |
As the normal balance of the bond discount is on the debit side of the T-account, we need to credit the bond discount to remove it from the balance sheet. Likewise, in this journal entry, we credit the bond discount account to remove the remaining unamortized amount of the bond discount from the balance sheet.
Gain on redemption of bond issued at a premium
Similarly, for the bond issued at a premium, we also need to remove the remaining balance of bond premium by debiting the bond premium account in the journal entry for gain on bond redemption as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Bond premium | xxxx | |
| Gain on bond redemption | xxxx | |
| Cash | xxxx |
The normal balance of the bond premium account is on the credit side which is the opposite of the bond discount account. Hence, we need to debit the bond premium account in order to remove the remaining unamortized amount of the bond premium from the balance sheet.
Gain on bond redemption example
For example, we issued $300,000, five-year, 6% bonds for $270,000 which was equal to only 90% of their face value. The interests on these bonds are payable annually at the end of each year.
However, after paying the interest at the end of the fourth year, we decide to redeem these bonds back by paying $290,000 in cash. And at the end of the fourth year, the carrying value of these bonds payable on our balance sheet is $294,000. This is because we have a $6,000 bond discount that we have not amortized yet on the balance sheet.
| Bonds payable on the balance sheet | |
| Bonds payable | $300,000 |
| Less: Bond discount | (6,000) |
| Carrying value of bonds payable | $294,000 |
In this case, we have a $4,000 gain on redemption as we only pay $290,000 for the bonds that have a carrying value of $294,000 on the balance sheet.
Hence, we can make the journal entry for the $4,000 gain on bond redemption before maturity by crediting this amount to the gain on bond redemption account as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | 300,000 | |
| Gain on bond redemption | 4,000 | |
| Bond discount | 6,000 | |
| Cash | 290,000 |
This journal entry will remove the $300,000 bonds payable together with a $6,000 unamortized amount of bond discount from the balance sheet. And at the same time, it will also record a $4,000 gain as other revenues to the income statement.
Loss on bond redemption before maturity
Loss on redemption of bond issued at face value
On the other hand, we can make the journal entry for loss on bond redemption before maturity by debiting the bonds payable account and the loss on bond redemption account and the cash account for the bond issued at face value.
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Loss on bond redemption | xxxx | |
| Cash | xxxx |
Loss on redemption of bond issued at a discount
If the bond is issued at a discount, the journal entry for loss on bond redemption will be as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Loss on bond redemption | xxxx | |
| Bond discount | xxxx | |
| Cash | xxxx |
Loss on redemption of bond issued at a premium
For the bond issued at a premium, the journal entry for loss on bond redemption will include the debit of the bond premium account as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | xxxx | |
| Loss on bond redemption | xxxx | |
| Bond premium | xxxx | |
| Cash | xxxx |
Loss on bond redemption example
For example, we issued $100,000, five-year, 6% bonds for $110,000 which is 110% of their face value. The interest is payable annually at the end of each year.
However, after paying the interest at the end of the third year, we decide to redeem those $100,000 bonds back in order to save the cost of interest by paying a total amount of $105,000. And at the end of the third year, there is a $4,000 unamortized balance of bond premium which results in a $104,000 carrying value of the bonds payable.
| Bonds payable on the balance sheet | |
| Bonds payable | $100,000 |
| Add: Bond premium | 4,000 |
| Carrying value of bonds payable | $104,000 |
In this case, we make a loss of $1,000 ($105,000 – $104,000) on the redemption of these bonds before maturity.
Hence, we can make the journal entry for a $1,000 loss on the redemption of bonds before maturity by recording this amount to the loss on bond redemption account as below:
| Account | Debit | Credit |
|---|---|---|
| Bonds payable | 100,000 | |
| Loss on bond redemption | 1,000 | |
| Bond premium | 4,000 | |
| Cash | 105,000 |