Defining Unamortized Bond Discount
An unamortized bond discount represents the difference between the par value of a bond—its value at maturity—and the proceeds from its sale, minus the portion that has already been amortized (gradually written off) on the profit and loss statement.
Key Takeaways
- An unamortized bond discount is the difference between the face value of a bond and the amount investors actually pay for it, as obtained by the issuer.
- The bond issuer gradually writes off a bond discount over the bond’s remaining term as an interest expense. The portion that hasn’t yet been amortized is known as the unamortized bond discount.
- The unamortized bond premium applies when the bond sells for more than its face value, in contrast to a bond discount.
The Mechanics of Unamortized Bond Discount
A bond discount arises when there is a difference between the bond’s market price and its par value. Organizations might choose to either expense the entire bond discount immediately or treat it as an asset to be amortized over time. The remaining unimamortized amount is known as the unamortized bond discount.
Discounts to par value are often a product of the bond having a lower interest rate compared to the market rate at issuance. If a bond’s coupon is below current market rates on the sale date, it is sold at a discount from its face value to attract buyers.
Bond prices and interest rates have an inverse relationship. As market rates change post-issuance, bonds may trade at either a premium or a discount relative to the par value. For bond discounts, increased interest rates since the bond’s issuance typically drive the prices down. Since the bond’s coupon rate is now lower than prevailing market rates, sellers adjust the bond’s price downward to make it attractive to buyers, resulting in a discounted sale.
Accounting for Unamortized Bond Discount
Bond issuers can choose to write off the entire discount amount immediately if it doesn’t significantly impact the financial statements. If written off entirely, there will be no unamortized bond discount. Generally, if the discount amount is notable, it is amortized incrementally over the bond’s life, spanning several years. During this period, an unamortized bond discount exists unless the bonds are retired.
A bond’s unamortized discount to par could result in:
- A recognized capital loss if the bond is sold before maturity.
- A decrease in the unamortized discount as the bond’s market price appreciates towards its par value as maturity nears.
Exploring Unamortized Bond Premium
The inverse of an unamortized bond discount is an unamortized bond premium. A bond premium occurs when a bond sells at a price higher than its face value. The unamortized bond premium is the difference between the face value and the higher sale amount, adjusted for portion already amortized as interest expense. Over time, the bond issuer amortizes this premium, incrementally recording it as an expense.
Related Terms: par value, bond premium, interest expense, coupon rate, market price.
