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In this final week, we have one problem using the effective interest rate method.
In order to use this, we need to calculate time value of money. There are three ways
to go about this:
1. Use a table that is an appendix in most accounting books and is easily found by
conducting an Internet search for "amortization tables."
2. Use a mathematical formula.
3. Use an Excel present value formula.
Let's assume we want the present value of $5,000, which we will receive six months from now,
assuming an 8% interest rate. We know that the present value will be less than $5,000.
Using a table:
You can find a "present value of a lump sum" table by going to principlesofaccounting.com
and clicking "supplements" at the bottomleft of the screen. "Time value of money"
will be one of the supplements listed.
You will use the table called "present value of $1." Because we are interested in a payment
six months from now, we will have to divide the interest rate by 2 to represent a halfyear.
District Water Company issued 10year bonds with a face value of $100,000 and a stated interest rate of 8.0%.
The bonds are dated April 1, 2016, and call for semiannual interest payments on each April 1 and October 1.
Due to market fluctuations, the bonds actually sold to yield 10.0% per year.
1. Compute the amount received for the bonds.
2. Compute the first interest and amortization amounts for the October 1, 2016, payment.
3. Prepare journal entries for the issuance of the bonds and for the first interest payment.
4. Compute the second interest and amortization amounts for the April 1, 2017, payment.
SOLUTION:
Present value of principal (principal × table factor for 10%, 10 years)
100,000 × .38554 =
Present value of 20 semiannual interest payments:
Use half the interest rate and twice the number of years in the table.
Use the present value of an ordinary annuity table here.
Use actual interest dollar amount × factor from table for 5% and 20 years.
4,000 × 12.46221 =
Bond value

