A company issues $1,000,000 of convertible bonds at par. The bonds pay 4% interest. Similar non-convertible bonds yield 6%. Under US GAAP, how is the issuance proceeds allocated?

All proceeds are recorded as Liability (Debt).

Proceeds are allocated between Liability and Equity based on relative fair values.

Proceeds are allocated to Liability based on the PV of cash flows at 6%, remainder to Equity.

All proceeds are recorded as Equity.