Bonds PayableDefined along with Examples

Written By:
Lisa Borga

What Are Bonds Payable?

Bonds payable is a liability account that serves to record the long-term debt which occurs when an organization issues bonds.

Often corporations and governments issue bonds in order to raise cash for capital-intensive projects.

As a result, the company effectively breaks a loan down into a number of smaller units called bonds.

The issuer of the bonds agrees to repay the holder of the bonds the maturity value at a specified time in the future.

The issuer will also often pay interest semi-annually or annually until the bond reaches maturity.

The Bonds payable account contains the debt which the company owes to bondholders.

Because the company owes this money to bondholders, it will be recorded as a liability on the balance sheet.

Generally, these bonds will not be due within a single accounting period and, as a result, are considered long-term liabilities.

Issuing Price of a Bond

The value at which a bond is issued can be at par, a premium, or a discount.

The price at which a company issues bonds depends heavily on factors such as the time until expiration, the issuer’s credit quality, and the coupon rate compared to the general interest rate.

Once the bond is issued, the bond’s face value represents the amount that will be paid back to the investor once the bond has matured.

As a result, this face value will be recorded as bonds payable.

This amount may then be adjusted to account for the actual cash value paid for the bond, which will often include a premium, or discount, based on the bond’s coupon rate as compared to the prevailing market rate; this is recorded below bonds payable as either premium to bonds payable, or discount to bonds payable.

A Bond’s Carrying Value

A bond’s carrying value is the amount the issuer will record on its balance sheet.

Here is the formula for calculating the carrying value of a bond:

Carrying Value = Face Value + Unamortized Discount/Premium

The carrying value is the combined total of both the face value and any unamortized discount or premium.

A discount means that the carrying value will be lower than the bond’s face value.

Conversely, if the bond is sold at a premium, the carrying value is higher than the bond’s face value.

If the bond is offered at face value, the face value of the bond will be the carrying value.

However, this rarely occurs due to the constant fluctuations in the market rate.

Any premium or discount will be amortized throughout the life of the bond so that by maturity, the carrying value of the bond will be equivalent to the bond’s face value, no matter what its issuing price was.

Amortizing Over the Lifetime of a Bond

When a bond is issued at either a premium or a discount, the difference will be amortized through the period until its maturity.

If the bond is issued, there will be a premium on the bond payable balance.

Then, when each coupon payment is due, there will be interest owed for the bond.

But, the interest the company pays will be higher than the amount of this expense.

This difference is the amount of amortization.

This amount will reduce the balance in the account premium on bonds payable.

This happens with a bond that is discounted as well. Although it has the opposite effect.

You could have an accountant make an amortization schedule you could use to look at how the bonds payable account will change over time.

An amortization schedule would show any discount or premium as well as the changes that occur each time a coupon payment is due.

After the end of the last period in the schedule, the discount or premium should be zero.

Once this happens, the face value of the bond and the carrying value of the bond should be the same.

Special Circumstances

In some cases, there are special circumstances that may affect the bonds payable account.

One example includes callable bonds, which may allow the issuer to buy back the bonds at a price that is arranged in advance.

This can present a significant advantage for the issuer, who may wish to call in the debt before the bond’s maturity if interest rates fall.

However, in some cases, a company may not be able to issue callable bonds.

This may be the case when a company is in a poor financial situation.

In this case, the investors may be willing to take a chance and invest in a bond with a high-interest rate, but they may not be willing to accept the potential that these bonds will be called before they reach maturity.

These bonds also will generally entail offering a higher interest rate to make investors willing to accept the potential that they will be called, which can force the company to accept a greater cost in accepting this debt.

Example of Bonds Payable

Bonds are often used to finance capital-intensive projects.

An example of this would be a utility company issuing bonds to finance the construction of a new nuclear power plant.

The company may decide to finance part of the cost of the new nuclear power plant by issuing 30-year bonds.

If the market interest rate at the time the bonds are issued is 5%, the cost might only be 4% once income tax savings are taken into account.