-- "ff" 7

te:rb
~st

~r es t

ru ed
CHAPTER.27
EFFECTIVE INTEREST METH
A OD
in or ti ze ~ cost~ FVOCI an d FV
~the PL •

TECHNICAL KNOWLEDGE
.
. I
· To apply th e effective interest me
thod of amortizing bond
•

· discount an d premium. 1
th e
To apply the measureriient of b?n~
investment at fair value
through other comprehensive inc
ome. '
To ap pl y th e fa ir value option of measu I

ring bond
in
•
vestment.

lfl l

87 9
•
 Introdt1ction
. . that bond discount and bond premium shau
PFRS 9 r~qudires_ g the effective interest method. •
be an1ort1ze t1s1n . ,

• r~ t· intere.st
Tlle e 1ec 1ve ..
method is also ~nown as scientifii
• d" c
method or simply. "mterest metho •.

This method distinguishes two kinds of interest rate; namely

nomi11al rate and
.
effective :rate .. • • '

The nominal rate is the ~oupon r~te or st~ted rate

appearing on the face of the ~ond. , • :·. . .. =·

The effective rate is the yield rate or market.rate Which is

the actual or true rate of interest which the bondholder-earns
on the bond inve·stment. •, · ' '·
'I

. ,
The effective rate is the rate that exa_ctly· disco·unts
estimated future cash: payments th~ough_· the. ~xpected life
• of the bond or when appropriate, a· shorter-period· to the net
carrying amount of the bond. · •_··. - .! • . .• • •

~,. '

. . .

' ' .

,•

•
 Effective ra te Ye rsu s n .
1m sh all orn1na1 rat e
ffThe e/fectf ve rat e an d the n .
i ,. t of the bo nd inv est me nt
ionunal rate are the sam e if the
cos 8
eqi~al to the face value.
:ie nti fic
W7ien the bo nd s are acq uir ed at . •
.tS lower tha n the no mi na l rat a premiu
e. m, the effective rate
na me ly
The rea son is· tha t the premium is a
bon dho lde r. lo • th f h
ss on e par t o t e
1 ra te
On the ot~ er han ~, w~ en the bonds are acq
uired at a discount,
the effe ctiv e rat e is hig her tha n the nom
ina l rate.
hic h is
ea rn s
The rea son is tha t the discount. is
bon dho lde r.
again on the part of the
•
.
The eff ect ive rat e an d nom ina l rat e are
!OU il ts neces~ary in app lyi ng
the eff ect ive int ere st me tho d. •
ed life
he ne t Ef fec tiv e in ter es t .method
Th e •eff ec tiv e .in ter est me tho d
sim ply _re qui r~s the
• on b
com pa ris the inte res t earned or interest income
etwee?. .
and the int ere st received. •
I'

The dif fer enc e betwee1:1 the two rep res ent s the pre miu m or
discount am 'or tiz ati on . . ·
, •

•• t i·ncom
In ter est ea rn e d or 1·nt er es b the e is •com put edt ~Y
~ tiv e rat e y car ryi ng amoun of I
mu ltip lyi ng the e f i.ec . •
the bon d inv est me nt. • •
I
• al l
• • •l • g t:

I~ ter est rece.1. ve • com put e. d by mult1p yin the nol llln
d 18
t of the bond. .
rat e by the face am o~ n .
•
#
t
d • vestmen 1-8 the ini tia l·
f the bon in rt. zation of discount
The car ryi ng a!" 'ou nt ()d by periodic
co st gra du all y inc rea se eriodic aroam \;t ion of pre miu m.
orti
or gra du all y red uce d ~Y P
'

88 1
 . t metho d - Discou nt
Effective interes .
• an investor acqwre d P 1,000,000 face amount
OnJanu aryl,20 l 7, 11. The bonds mature on December
bonds dated January 1, 20
31 2018. •
' . the bonds is 2 years and 8% interes t is payable
The_life ofll June so and Decen1ber 31.
semiannua Y. on
e bonds is P964,540, a price which will yield a
The cos t of th
10% effective rate per year.

Schedule of amort ization

Interest Interes t Discou nt Carrying
Date received •
income amortiz ation amount
Jan. 1,2017 964,540
Jun.30, 2017 40,000 48,227 8,227 972,767
Dec. 31, 2017 40,000 48,638 8,638 981,405
Jun.30, 2018 ,40,000 49,070 9,070 _ 990,475
Dec. 31, 2018 40,000 49,525 9,525 1,000,00 0

Interes t receive d
Face amount of Pl,000,0 00 times s·emian nual nomina l rate of
4% or P40,000. • •
Interes t income
Carrying amount times semiann ual effective rate.
':fhus, _the period January 1 to June 30, 2017, the intere~t
mcome 1s P964,540 times 5% or P48,227.

Discoun t amortiz ation

Interest income minus interest received.
~~us , °n JPuSne 30, 2017, the amortiz ation is P48,227 minus
0,000 or ,227. •
Carryin g amoun t
Precedin g carMrin
"J .LiJ.g amount plus the discoun t amortization.
Thus, on June 30 2017 th0
PS,227 or P972, 6
7 7. ' carrying amount is P964,54 0 plus

882
 Jotlrnal en t~ ie s
ea m ou nt
>ecembe:r 2017.
Jg.n. 1 In ve stm en t in bond
pa ya bl e Ca sh 8
96 4,5 40
Acquisition of th b
e ands. 96 4,5 40
• yi el d a Jun. 30 Ca sh
In ter es t income
40 ,00 0
Semiannual •
interest received. 40 ,00 0
Jun. 30 In ve stm en t in bonds
ar ry in g In ter es t income . . 8,2 27
un ou nt Amortization ~f discou·:1t for 6 mo 8,2 27
. nths..
)6 4,5 40 Dec. 31 Cash
t72 , 76 7 40 ,00 0
l81 ,40 5
In ter es t income
40 ,00 0
90 ,4 75
1
31 In ve stm en t in bonds
00 ,0 00 8,6 38
In ter es t income .
• Amortization of discount for 8,6 38
th e las t 6 months.
·at e of Note th at th e amo~tization is
done on ev er y in te re st da te
rather th an at th e en d of th e
report ing period.
,,
2018
Jun. 30 Cash· 40,000
:e re st In ter es t income 40,000

30 In ve stm en t in bond8
9,070 -
9,070 )(
' In ter es t income
40,000
Dec. 31 Cash - 40,000
In ter es t income
i.n us • 9,525
• bo
31 In ve stm en t 1Il nds 9,525
In ter es t income
1,000,000
1,000,0QO
31 Cash
o.. 1nvestn1e~t bo nd
. sf face ainount
lll.

Fu ll collectiono
)}U S

88 8
 Effective inter~st method - Premium
7 an investor acquired Pl,000,000 face amount
OnJanuary 1, 201 ' d ' D
bonds dated January 1, 2017. The bon s Il)ature on ecember
31, 20~9.
The bonds. m_ature in 3 years and bear 12% interest payable
annually every De~ember 31.

I The cost of bonds is Pl,049, 7 40, a price _which will yield an

effective interest of lOo/o.

ScheduJe of amortization
Interest Interest Premium Carrying
Date received •
income amo·rtization amount
Jan. 1,2017 .1,049, 740
Dec. 31, 2017 120,009 104,974 15,026 1,034,714
..
Dec. 31,2018 120,000 103,47~ 16,529 1,018,185
Dec. 31, 2019 120,000 101_,815 18,185 1,000,000

Interest received
Face amount of Pl,000,000 times a1mu·al· nominal rate of 12%
or P120,000. • •

Interest income
'
Carrying amount times annual effective rate.
Thus, for 2017, the interest-income is Pl 049 740 times 10% or
P104974
' . ·' ' •

Premium amortization
Interest received minus interest income~
i~~~'ooono D_ecempber 31, 2017, the premium amortization is
, mmus 104,974 or P15,026.
I Carrying amount

• . . . . J... amoun t mmus

Preceding caM-Ving • .
premium .
amortjzation.
T~us, opn D~ce~ber 31, 2017, the carrying.amount is Pl 049 740
nnnus 15,026 or Pl,034, 714. • • ' '

884 •
'
 Jotlrnal ent rie s
amo unt
~cember· 2017
'

J9Jl-
1 Inve stm ent in ho
Cash nds
~ay able l,049 ,740
.
pee. 31 Cash 1,04 9,74 0
lhte rest
· come 120, 000
ield an
• 0
1

120, 000
31 Inte rest income
Inve stme nt in bonds 15,026
15?026
201 8
Lrry ing
mo unt . Dec. 31 Cas h
120,000
49,7 40 Inte rest income
120, 000
34,7 14
18,1 85 31 Inte rest inco me 16,5 29
00,0 00 Inv estm ent in bonds _16,529

201 9
\
!

,f 12% Dec. 31 Cas h 120, 000

Inte rest income 120, 000
' • '
31 Inte rest inco me 18,1 85
Inv estm ent in bonds 18,1 85 •
ri
' i
31 _:. Cas h . : . 1,00 0,00 0 -~ •.,•
1,00 0,00 0
Inv estm ent. in bonds
0% or '
)1
\ -- . j
' I

·'

•
on 1s
•

I •
. \

\
I•
\
\
l.

},.740
88D,
 Ef fe ct iv e in te re st m et ho
d - Se ri al bo nds
Fa ce am ou nt of bo nd s ,,
4, 00 0, 00 0
AGquisition co st
4,1 71 ,81 0
Pr em iu m on th e bo nd s
An nu ali os ta1 1m en ton De • 17 1,8 10
ce mb er 3l , 20 17
an d ev ery De ce mb er 31 th
er ea fte r 1,0 00 ,00 0
· Da te of iss ue De
No mi na l in ter es t ra te pa ya Ja nu ar y 1, 2017
ble an nu al ly
_ ev ery De ce mb er 31
Effective in ter es t ra te 10%
8%
Sc he du le of am or ti za ti I

on
Da te In ter est In ter est Pr em ium Pr inc ipa l
20
rec eiv ed inc om e Ca rry ing
am or tiz ati on pa ym en t an;iount De
1/1 /20 17
12 /31 /20 17 40 0,0 00 -
33 3,7 45 4,1 71 ,81 0
12 /31 /20 18 66 ,25 5 1,0 00 ,00 0
30 0,0 00 24 8,4 44 3,1 05 ,55 5
12 /31 /20 19 51 ,55 6 1,0 00 ,00 0
20 0,0 00 164,,320 2,0 53 ,99 9
· 12 /31 /20 20 35 ,68 0. 1,0 00 ,00 0
10 0,0 00 81 ,68 1 1,0 18 ,31 9
18 ,31 9 1,0 00 ,00 0
' ,.
In te re st re ce iv ed eq ua
·nominal ra te . ls ou ts ta nd in g face am ou
• nt tim es 20 j
I
• •
Thus, on December 31, 20 De
P400,000, an d on Decembe17, P4,000,000 tim es · 10% equals
equals P300,000, an d so on r 31, 2018, P3 ,0 00 ,0 00 tim es 10%
. •
In te re st in co m e eq ua ls
ra te . ca rr yi ng a~ ou nt tim es
..

effective .
Th us, for 2017, P 4, 171,810 20 2
on. tim es 8% eq ua ls P3 33 , 745
•• , an d so
• ·
Pr em iu m am or ti za ti on D ec .
in te re st income. eq ua ls in te re st re ce iv ed
m in us
Thus; on.De~ember
P66,255, an d ~o on.31', 2017, P400,000 m in us P333, 745 equals
I

C ~r ri ng am ou nt eq ua ls
prmc1pa). pa ym en t an d 'm pr ec e4 i~ g ca rr yi ng am
in us pr em iu m am or tiz atou nt minus
io n.
T~us, on ~e ce m be r 31, 20
mm~s P66,255 eq ua ls P3 , 17, P4 ,l 71,810 m in us Pl ,0 00 ,0 00
105,555.

88 6
 Journal entrie s
4,000, 000
4,171, 810 .l
') 2017
171,81 0 •'
,:

I Jan. 1 Investm ent in bonds

Cash 4,171,8 10
an 1,000, 000 J 4,171,8 10
Uary l, 2017 ...1 Dec.31 . Cash
1,400,0 00
10% lI Investm ent in bonds
Interes t inconie
1,000,0 00
400,000
8% ! 31 Interes t income 66,255
1I
Investm ent in bonds • 66,255
1
pal
.1
I 2018
Carryin g
,nt an;iount Dec.31 Cash 1,300,0 00
4,171,8 10 Invest ment in bonds 1,000,0 00
t00 3,105,5 55 I. Intere st income 300,000
11
t00 2,053,9 99 i
100 1,018,3 19 31 .Intere st income I 51,556
100 Invest ment in bonds 51,556

2019
nount times
Dec.31 ·Cash 1,200,0 00
Invest ment in bonds 1,000,0 00
10% equals Intere st income 200,000
) times 10%
31 Intere st income I 35,680
Invest ment in bonds 35,680
es effective
2020
1,100,0 00
, 745, and so Dec.31 Cash 1,000,0 00
Invest ment in bonds 100,000
Intere st income
. d Jllinus Intere st income
18,319
1ve 31 18,319
Investm ent. in boll d8

,745 eQusJS • '

r ·11t1S
ount JJll
itiofl• ooo
p1.ooo, 887
.,
 Bo nd inv es tm en t - FV OC I
PFRS 9, par agr aph 4.1.~A, pro vid es tha
t a fin anc ial asset
sha ll be me asu red at fai r value_ thro':"f!h
oth er comprehensive
income if bot h of the following con dit ion
s are me t:
.
a. Th e bu sin ess . mo del is ach iev ed
~o th by . c?l lec tin g
con tra ctu al cas h flows an d by sel lin
g th e fin an cia l
ass et.

b. Th e co ntr act ua l cas h· flo ws are

so lel t pa ym en ts of
pri nci pal and int ere st on the pri nci pal
. ' ou tst and. ing .
Note tha t the bus ine ss model inc lud es.
sel lin g th e fin an cia l
ass et in add itio n to· collecting con tra ctu
al cas h flows.
In thi s case, int ere st income is rec ogn ize
d usi ng the effective
int ere st me tho d as in a~ ort ize d cos t _m
easurement_.
On derecognition; t~e cum ula tiv e g~ in
or -loss rec~gnized in
oth er comprehensive income sha ll be rec
loss.
las sif ied to pro fit or

QQ O
 llJtlstration
-
. asset On Janua ry 1, 2017, an e .
ensiv e aJllOunt of P5,00 0,ooo for pntity Purchase •
cost p160,000. The bUsiness 4, 760,0oo incl~ ~onds with face
olJ)S and to sell the fin '11;0 del is to colle ting transaction
fl ecembe r 31, 2019 and ancial asset Th c contractual cash
icting f1 with a 12% effect iv~~ 110d% intere~t an:;allonds mDature on
ncia l J.a.e • Yon ecember
financial asset - EVOCI •
Cash , 4,760,000
Lts of 4 760
Note that unlike tradin g ho d .
,.
r
is includ ed in the cost of
value throu gh OCI.
fi
in~es tment, transac tion cost
nancia1 asset measu red at fair
• ,000

ncial
Journ al entry to recor d the an.nua l. t
1n erest receiv
. ed
,ctive Cash (10% x 5,'000,000)
500,000
Interes t income
500,000
f

PFRS 9, parag rap;h 4.l.2A,: mand ates that interes t income

~din •for bond i~ves tment measu red- at' fair value throug h other
rit or compr ehensi ve incom e must be calculated. using the effective
i.µterest llletho d and included in profit or loss.
' .
Accordingly, th.is would requir e ·~orti zation of any discount
or p·remium on the bo~d·i nvestm ent.
F ' 5,000,000
ace amoun t •- 4,760,000
Acquisition cost
-'
1

240,000 -
Discount )rt

• , . on D~cem ber 31, 2017

Arno~ tizatio n of disco unt •
71,200
Financial asset- FVOCI • . 71,200
Interest income Carryi ng
Discou nt
· Date • ~ttterest Intere st amorti zation .amoun t
inco'xne 4,760,000
. receiv e~
4,831,200
. 1/1/20!7 71,200 4,910,944
571,2;0 79,744
12/31/2017 5!000 579,7 4 89,056 5,000,000
12/31/2018 5 o:qQO 589,0, .6
12/31/2019 5 0;600
 -
Exp lana tion
. d equa ls face amo unt of P5,000,000 times
Inte res~ relce~:eof 10% or P500 ,000 . ,
the nom1na ra
. me equals carr ying amo unt time s the effective
Inte rest 1nco
rate.
•
Th us, on December 31,' 2017 P4, 760,
. 000 time s 12% equals
P571 ,200 and so on. •
Disc oun t amo rtiz atio n. equa ls inte rest inco_me minu
s
inter est rec~ived. • • •
'
Thus, for 2017, P571,200 minu s P500 ,000 equa ls P71,200 and
so on. .2
Carryi:Qg amo unt equa ls prec edin g carr ying amo_unt
plus
discount amo rtiza tion. , •
Thus, ·on December· 31, 2017, P4, 760, 000 plus P71, 200 equals
•_P4,8 31,20 0 and so on..

On December ·31, 2017 ; the bond inve stme nt is mea sure d at

fair valu e thro ugh othe r com preh ensi ve inco me.

The bonds are quo ted at 102 on Dec emb er 31, 2017.

Mark et value Dece mbe r 31, 2017. (5,000,000 x i02%)

5,100,000
Carrying amo unt- Dece mber 31 2017
' • • 4,831,200
Unrealized gain - OCI
\ 268,SOQ_
Finan cial asse t- FVOCI
Unrealized gain -OC I 268,800
268,800
S~se quen tly, the entit y mus t reco rd discount amortization
~h 7~ 74~ fo~ 20l8 and P89,056 for 2019 in accordance with
e _e e~t1ve mter est table of amo rtiza tion rega rdle ss of the
change 1n mar ket value. ,
Th 1• •
co:r o:':u t~:: t~rr ying amo unt shou ld then be adjusted td
2019. WI e mar ket value on December 31, 2018 an

890
 CoJt tinu ation of the ill
- Ustr at·•on
The Jllarket valu e of the b
and the bond s are sold on ~nds on Decemb
Ve
interest. une 30, 2019
·
a:~{~'plus
2018 is 105
accrued
Journal entr ies for 2018
.
Lls
.;

1. To reco rd the inter est r •

· · . ece1ved:
lS Cash
Inter est income 500,000
(l~% X 5,000,000) 500,000
td
2. To reco rd the .disco unt a mort·1zatio
• n:
1S Financial asse t- FVOCI • 79,744
Inter est income I /
79,744
I • '

Ls 3. .To reco rd the chan ge in mark et value:

J

_,,..
Finan cial as~e t- FVOCI 70,256
Lt Unre alize d gain - OCI >
70,256

Mark et value -Dec emb er 31, 2018 (5,000,000 x 105) 5,250,000

InVestment b~n ce - December 31, 2018 5,179,744
!I
(5,100.000 + 79,744)
I

Increase in unre8µZed gain

• 70,256 I-
,.

t
'

Ano ther com puta t~on

5,250,000
018
Mark et value -Dec eIJ1b er
Carry ing amou nt per tab~e - ecelll
31
ber 31, 2018 •J
4,910,944
•

(see previ
. ous computatio.~) I) ceJJther Sl, 2018 339,056
268,800
Cum ulati ve unreaUzed gaU1 ~ 2~17 •
Unre alize d gain - December 3 ' •
70,256
9
Incre ase in unrea lized gain

891
 ntries for 2019 Fair.~
JournaI e
d"scount amortizati on from January 1 t 9;
To record t h e 1 o PFB,S •ti
1. June 30, 2019: recoglll
44,528 ea.sureCJ
Ill • ]
Financial asset - FVOCI fi11anc1a I
Interest income . Jilea.sure
(89,056 X 1/2) •• 44,528

. In other
_ · To record the sale of the bonds on June 30, 201~: without~
2
Cash . . 5,750,000 or loss e
339,056
business
Unrealized gain- OCI •
Financial asset_:_ FVOCI , 5,294,528
544,528 Under • t
Gain on sale of financial asset
250,090 recognize
Interest income incurred
Sale price (5,000,000 x 110) 5,500,000
339,056 Moreove
Unrealized gain- OCI
interest~
Total . ' .
5,839,056
.
Investment balance per book _,June 30, 2019. Illustr
(5,250,000 + 44,528) • 5,294,528
544,528
On Janu
Gain on sale of fmancial asset amount
of PlOO,O
Another computat ion
The sta~
Sale price . • . 5,500,000 Decembe·
_ Carrying amount per table -June 30, 2019
(4,910,944 + 44,52~.) . .. • 4,955,472 On DecJ
P5,6OO,O0
Gain on sale. of fmancial asset 544,528
-
Sale price . • 5,500,000 Journal
Interest accrued from January I to June 30 2019 1. Finan
'
' ' • (5,000,000 X 10% X 1/2) ' 250,o@
l Co~
I

I
Total cash received 5,750,002. Ca
'
• • • • I 2. Cash
Note h £or d ebt. investmen t measured at fair va ue
th that In
gaI~~~
1
°ther <:0 mprehens ive income, the cuxnulat~ve
3 ..
income _oss prlevi?~sly recognized 1in other comprehensive
--
Finan1
• ,~ l { {he
.
inv.estment . to pro,,,t or loss on disposa o
. ossified·
. is rec Q~

892
 •

Fa it va lu e op tio n
ry 1 to
pFRS 9;_ pa ra gr ap h 4. l
cognition ma y irr ev 5 o· , iro Vi de s th
reegsured at £a ir valuecathly de
l11 . 1 a t sig na t an entity at ini t' 1
fi118nc1a ss e sa tis fie s rou
th
gh
Pro
e a fina •
fit 1 ncial asset ia
44 ,52 8 Jllellsure.Dlent. e am ort izi ~ oss even if the as
cost or FVOCI
In oth er wo rd s, inv es tm t .
. withou t rev(l)C t· en s din b •
a 10n as me as on ds can be
or loss ev en if th e hondsure d ••
at fair value thro~~~natfi.d
}4,528
business mo de l. . ar e held for collectionp;~ !
t4, 52 8 Under. th e .fa ir ·va
.o,ooo recognized in pr ofi tlue option, all c .
or loss Ac •di hanges m . •
inc urr ed is an ou tri gh t fai r value are
e~pen::~ ngly, any transaction cos
00 t
1
, 00.
9,0 56 Mo
. reover., th e in te re st ·inc om e 1·s based
interest ra te ra th er t4a n the effect ·. on the nom1n
• al
9,0 56 ive•inter est rate.

4,5 28 Ill us tr at io n
On Ja nu ar y 1, 2_017,· an entity
amount of P5 ,00 0,0 00 for ]?5,'400,0pu00rchased bonds with face
4,5 28
plus b~oker commission
of Pl0 0,0 00 .
\
-
Th~ sta te d i~ te re st ra te 'is 8%
-

),000 pa ya ble an nu all y every

De cem be r 31 W ith an· effective rat
e of 6%.
,,4 72 0 20 17 , th~ -bo'nds ha d a fai r va lue
n De ce mb er 31 , of
l,528 P5,600,000.

t,000 Journal en tr ies fo r 2017

'
· 5~400,000
~OOQ I. Fin an cia l ass et - FVPL 100,000
Commission expense 5,500,000
10
, 00-
--
-,ai Cash 400,000
2- Ca sh ·(8% x 5,000,000) '400,000
ue
~t~ \10 Int ere st incoille 200,000 '
200,000
ris i\1 ° 3. Fin an cia l ass et -
,f (h e Fv P~ fair value
-- . Qa in from change inO ooO)
• (5,600,000 - 5,40 ' •
89 3 _ .