Sigma Company issued 12 million in 10 percent bonds 6 years

Sigma Company issued $12 million in 10 percent bonds 6 years ago currently having a carrying amount of $10.7 million. The bond agreement allows for early extinguishment by Sigma Company beginning in the current year. Sigma\'s investment bank has arranged for the company to issue $10 million of new 8 percent bonds at face value to a group of investors. The proceeds will be used to extinguish the 10 percent bonds. The banking, legal, and accounting costs to execute the transaction total $200,000. The journal entry to record the debt extinguishment will include:

a debit to Bonds Payable—8% for $10,000,000.

a credit to Gain on Extinguishment of 10% Bonds for $500,000.

a credit to Bonds Payable—10% for $12,000,000.

a debit to Loss on Extinguishment of 10% Bonds for of $200,000.

Solution

Answer : a credit to Gain on Extinguishment of 10% Bonds for $500,000.

Journal entry to record the debt extinguishment :

       Long term notes payable 10%                                   $10,700,000

                            Cash $200,000

                             Long term notes payable 8% $10,000,000

                            Gain on Extinguishment of 10% Bonds                                            $500,000