Refer to the information in E9-3, except assume that Mustafa hopes to make a gain on the bonds as interest rates are expected to fall. Mustafa accounts for the bonds at fair value with changes in value taken to net income, and separately recognizes and reports interest income. The fair value of the bonds at December 31 of each year end is as follows:
2014 ................ $534,200
2015 .................. $515,000
2016 ................ $513,000
2017 ................ $507,000
2018 ................ $500,000
In exercise
On January 1, 2014, Mustafa Limited paid $537,907.40 for 12% bonds with a maturity value of $500,000. The bonds provide the bondholders with a 10% yield. They are dated January 1, 2014, and mature on January 1, 2019, with interest receivable on December 31 of each year. Mustafa accounts for the bonds using the amortized cost approach, applies ASPE using the effective interest method, and has a December 31 year end.
Instructions
(a) Prepare the journal entry at the date of the bond purchase.
(b) Prepare the journal entries to record interest income and interest received, and recognition of fair value at December 31, 2014, 2015, and 2016.
(c) Did market interest rates fall as expected? Explain briefly.