Serial bonds mature in installments at various dates. Usually, each bond indicates when it will mature. Because of the difference in time and maturity, the interest rate often varies depending on the due date. In some instances, the stated interest rate remains constant for all maturity dates, but the effective interest rate differs as the selling prices for the different maturity dates vary to reflect the changing risks. When serial bonds are issued at other than par, the premium or discount could be related to the the bonds maturing on each specific date, and the amortization of the premium or discount could be made as though each maturity date was a separate bond issue. No new problems related to accounting for interest arise under this approach.
However, an entire serial bond issue is sometimes sold directly to underwriters at a lump-sum price that differs from the total face value of the issue. When this occurs, the issue price usually cannot be identified with each maturity date. Under these circumstances, the premium or discount on the entire serial bond issue must be amortized as a unit. This requires that either an average effective rate be determined for the entire issue, and the effective-interest method used to determine the amortization, or that a variation of the straight-line method known as the bonds-outstanding method be applied. Both methods provide for decreases in the amortization schedule as the principle amounts of the serial bonds mature. In the next blog we will examine the bonds outstanding method, and the effective interest method.