Two Methods of Amortization of a Discount or Premium Are

question 7

Essay

Two methods of amortization of a discount or premium are used by businesses. These two methods are the effective interest method and the straight-line method.
Required:
a. Explain how premiums and discounts are amortized using the straight-line and effective interest methods.
a. The straight-line method assumes that interest expense will be constant each period. Premium/discount amortization under this method is accomplished by dividing the premium or discount by the number of interest payment periods. The resulting amount is added to/deducted from interest expense in equal amounts each period. Interest expense is the interest paid plus or minus the discount or
b. State which of the two methods is preferred and explain why.
c. Explain why many companies are able to use the method that is not considered GAAP.

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Definitions:

Emerging Society

A society that is in the process of significant social, economic, or political change.

Free Colonial British America

The period in the history of the British colonies in North America characterized by a degree of self-governance and economic freedom from Britain.

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A realm of social life where individuals can come together to freely discuss and identify societal problems, and through that discussion influence political action.

Eighteenth Century

The period from 1701 to 1800 in the Gregorian calendar, marking a phase in global history encompassing significant events such as the Enlightenment and the American Revolutionary War.