Definition of Bonds Payable
Bonds payable are a form of long term debt usually issued by corporations, hospitals, and governments. The issuer of bonds makes a formal promise/agreement to pay interest usually every six months (semiannually) and to pay the principal or maturity amount at a specified date some years in the future. The agreement containing the details of the bonds payable is known as the bond indenture.
U. S. corporations issue bonds instead of common stock for the following reasons:
- Debt is less costly than common stock
- The interest on bonds is deductible for income tax purposes
- Bondholders are not owners and therefore the ownership interest of the existing stockholders will not be diluted
Example of Bonds Payable
Usually public utilities issue bonds to help finance a new electric power plant, hospitals issue bonds for new buildings, and governments issue bonds to finance projects, operating deficits, or to redeem older bonds that are maturing.
For example, a profitable public utility might finance half of the cost of a new electricity generating power plant by issuing 30-year bonds. If the current market interest rate for the bonds is 4%, the cost after the income tax savings may be only 3%.