Total interest expense, which is reported on the income statement, includes the total coupon payment plus a portion of the underappreciated discount or premium for the specified accounting period.

U.S. GAAP allows companies to amortize premiums or discounts by utilizing a straight-line amortization or the effective interest rate method.

• Straight-line Depreciation
 Formula 9.2Depreciation amount = premium or discount at issueÂ Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â  payment periods

Example
Company ABC issues a \$1m bond that will pay a 11% semiannual (coupon) for five years and similar bonds are paying 10%. Bond premiums are amortized using straight-line depreciation. The company issues at \$1,038,609 and face value is \$1m.

Interest expense = coupon payments - unamortized portion of bond premium for the period

The carry value = total market value at time of issue - cumulative amortized premium or discount

Unamortized portion of bond premium for every period (six months in this example) = \$38,609 / (10 payment periods) = \$3,860.9

Result
Under this method the issuing company will recognize an equal amount of unamortized depreciation for every period.

• Effective Interest Rate Method
Effective interest rate method results in an interest expense that is a constant percentage of the carrying value of the bonds; thus interest expense varies from period to period. In contrast, the straight-line method results in a constant interest expense from period to period.
 Formula 9.3Interest expense = current interest rate at time of issueÂ x carry value

The carry value = total market value at time of issue - cumulative amortized premium or discount
 Formula 9.4Amortized premium (discount) = coupon payment - interest expense

Example
Company ABC issues a \$1m bond that will pay a 11% semiannual (coupon) for five years, and similar bonds are paying 10%. Bond premiums are amortized using the effective interest rate depreciation method. The company issues at \$1,038,609 and face value is \$1m.
Reporting The Retirement Or Conversion of Bonds

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