Bond amortization schedule definition
/What is a Bond Amortization Schedule?
A bond amortization schedule is a table that shows the amount of interest expense, interest payment, and discount or premium amortization of a bond in each successive period. The table is commonly used by the issuers of bonds to assist them in accounting for these instruments over time.
The Effective Rate Method
The most accurate method used for this calculation is called the effective rate method. The following steps are used to prepare the table using this method:
Calculate the current balance of the bond payable by discounting its remaining cash flows. The discount rate used is the market rate of interest. The market rate is the effective rate of interest.
Multiply the face value of the bond by its stated interest rate to arrive at the interest payment to be made on the bond in the period.
Multiply the current balance of the bond by the effective interest rate to arrive at the interest expense to record for the period.
Calculate the difference between the interest payment (step 2) and the interest expense (step 3). This is the discount or premium on the bond to be amortized in the period.
If there was a discount in the period, add the amortized amount to the beginning balance of the bond to arrive at the ending balance of the bond. If there was a premium in the period, subtract the amortized amount from the beginning balance to arrive at the ending balance of the bond.
Related AccountingTools Courses
The Straight-Line Method
A simpler but less accurate way to prepare a bond amortization schedule is to use the straight-line method. The following steps are used to prepare the schedule using this approach:
Calculate the current balance of the bond payable by discounting its remaining cash flows. The discount rate used is the market rate of interest. The market rate is the effective rate of interest.
Divide the total discount or premium by the number of remaining periods in order to determine the amount to amortize in the current period.
Multiply the face value of the bond by its stated interest rate to arrive at the interest payment to be made on the bond in the period.
If there is a discount, calculate interest expense by adding the amortized amount to the interest payment. If there is a premium, calculate interest expense by subtracting the amortized amount from the interest payment.
If there was a discount in the period, add the amortized amount to the beginning balance of the bond to arrive at the ending balance of the bond. If there was a premium in the period, subtract the amortized amount from the beginning balance to arrive at the ending balance of the bond.
The Difference Between the Effective Rate Method and the Straight-Line Method
There are several significant differences between the effective rate method and the straight-line method. First, the effective rate method is more difficult to calculate, and so is more likely to be avoided when the discount or premium amount is small. Another difference is that auditors prefer their clients to use the effective rate method, since it is more theoretically accurate.