C243 Ch. 8 Intercompany Indebtedness

Assignment of gain: constructive retirement Four approaches have been used:

1.The affiliate issuing the bonds 2.The affiliate purchasing the bonds 3.The parent company 4.The issuing and purchasing companies, based on the difference between the carrying amounts of the bonds on their books at the date of purchase and the par value of the bonds

Bonds of Affiliate Purchased from a Nonaffiliate: Illustration—YEAR 2

The impact of the constructive gain on the beginning noncontrolling interest balance and on the beginning consolidated retained earnings balance is reflected in the entry to eliminate intercompany bond holdings. The entry to eliminate intercompany bond holdings also eliminates all aspects of the intercorporate bond holdings, including:

Elimination of bonds payable needed for bond sale directly to an affiliate

Debit Bonds Payable (par value) Credit investment in sub bonds for discount cost credit discount on bonds payable for difference

Elimination of bonds interest income needed for bond sale directly to an affiliate

Debit Interest Income for total amount of interest for year and credit interest expense

Elimination of interest receivable against the interest payable needed for bond sale directly to an affiliate

Debit interest payable by the semiannual amount at par for interest and credit interest receivable

A constructive debt retirement is a. an acquisition of the bonds of an affiliate by another company within the consolidated entity. b. an acquisition of the bonds of an non-affiliate by a company within a consolidated entity. c. a sale of the bonds of a non-affiliate by a company within a consolidated entity. d. a sale of the bonds of an affiliate to a company within a consolidated entity.

an acquisition of the bonds of an affiliate by another company within the consolidated entity.

Which of the following statements is NOT true when affiliate bonds are purchased at an amount less than book value? a. When the price paid to acquire the bonds differs from the liability reported by the debtor, a gain or loss is reported. b. Bond interest income and interest expense reported by the two affiliates subsequent to the purchase must be eliminated. c. Interest income and interest expense reported affiliates are not equal because of the different bond carrying amounts on the companies' books. d. Interest income and interest expense reported affiliates are always equal.

d. Interest income and interest expense reported affiliates are always equal.

How do consolidation procedures when affiliate bonds are purchased at an amount greater than book value differ from when they are purchased at an amount less than book value? a. A constructive loss is reported instead of a constructive gain. b. The entries are identical. c. No consolidation entries are necessary. d. The constructive gain is ignored.

A constructive loss is reported instead of a constructive gain.

Direct intercompany debt transfer

involves a loan from one affiliate to another without the participation of an unrelated party.

Constructive Retirment

Acquisition of an affiliate's bonds by another company within the consolidated entity.

Acquisition of the bonds of an affiliate by another company within the consolidated entity is referred to as constructive retirement.

Although the bonds actually are not retired, they are treated as if they were retired in preparing consolidated financial statements.

Scenario: Bonds that were issued to an unrelated party are acquired later by an affiliate of the issuer.

From the viewpoint of the consolidated entity, an acquisition of an affiliate's bonds retires the bonds at the time they are purchased.

Bond elimination entry in subsequent years

In years after 20X2, the worksheet entry to eliminate the intercompany bonds and to adjust for the gain on constructive retirement of the bonds is similar to the entry to eliminate intercompany bond holdings. The unamortized bond discount and premium decrease each year based on the amortization table.

Indirect intercompany debt transfer

Involves the issuance of debt to an unrelated party and the subsequent purchase of the debt instrument by an affiliate of the issuer. Therefore, the parent company acquires the debt of the sub indirectly.

Transfer at Par Value of Bond Sale to an Affiliate from Parent

Need to eliminate bonds payable by debiting and interest income by debiting and crediting Investment in sub and interest expense in consolidation FS.

Retirement on Bond

Parent company purchased bonds from sub if the BV on sub is more than the price paid then there is a gain on constructive retirement of bonds.

The entry to eliminate intercompany bond holdings also eliminates all aspects of the intercorporate bond holdings, including:

Peerless' investment in bonds Special Foods' bonds payable and the associated premium Peerless' bond interest income Special Foods' bond interest expense

Bonds of Affiliate Purchased from a Nonaffiliate

Purchase at an amount less than book value: When the price paid to acquire the bonds of an affiliate differs from the liability reported by the debtor, a gain or loss is reported in the consolidated income statement in the period of constructive retirement The bond interest income and interest expense reported by the two affiliates subsequent to the purchase must be eliminated in preparing consolidated statements. Interest income reported by the investing affiliate and interest expense reported by the debtor are not equal in this case because of the different bond carrying amounts on the books of the two companies.

When a constructive retirement occurs:

The consolidated income statement for the period reports a gain or loss on debt retirement based on the difference between the carrying value of the bonds on the books of the debtor and the purchase price paid by the affiliate. Neither the bonds payable nor the purchaser's investment in the bonds is reported in the consolidated balance sheet because the bonds are no longer considered outstanding.

Bonds of Affiliate Purchased from a Nonaffiliate Purchase at an amount greater than book value

The consolidation procedures are virtually the same except that a loss is recognized on the constructive retirement of the debt

Transfer at a Discount of Bond Sale to an Affiliate from Parent

The difference between the par value and the discount price is the discount on bonds payable. There is a difference between par value interest and discount value of interest that goes to discount on bonds payable as well (credit).

Transfer at a Premium of Bond Sale to an Affiliate from Parent

The difference between the par value and the premium price is the premium on bonds payable. There is a difference between par value interest and premium value of interest that goes to premum on bonds payable as well (debit).

Which of the following statements is true? a. A direct intercompany debt transfer always involves an unrelated party. b. An indirect intercompany debt transfer always involves a transfer directly to a related party. c. A direct intercompany debt transfer never involves an unrelated party. d. An indirect intercompany debt transfer is first transferred to an affiliated company with a subsequent transfer to an unrelated party.

c. A direct intercompany debt transfer never involves an unrelated party.