Question

A company constructs a building for its own use. Construction began on January 1 and ended on December 30. The expenditures for construction were as follows: January 1, $580,000; March 31, $680,000; June 30, $480,000; October 30, $840,000. To help finance construction, the company arranged a 7% construction loan on January 1 for $860,000. The company’s other borrowings, outstanding for the whole year, consisted of a $4 million loan and a $6 million note with interest rates of 8% and 6%, respectively.

Assuming the company uses the specific interest method, calculate the amount of interest capitalized for the year. (Do not round intermediate calculations. Round your percentage answers to 2 decimal places (i.e. 0.1234 should be entered as 12.34%).)

	Date Expenditure Weight Average January 1 × = March 31 × = June 30 × = October 30 × = Accumulated expenditures Average Interest Rate Capitalized Interest Average accumulated expenditures % = % =

Answer 1

All total there are 3 loans taken by the company.

1 loan is specific for the purpose of building construction and other 2 are general borrowings.

Therefore for the purpose of capitalization, a general rate has to be calculate for the 2 general borrowings.

Calculation of General Rate:-

General loan	Interest ($)	Loan ($)
Loan 1 $4,000,000 *8%	320,000	4,000,000
Loan 2 $6,000,000 *6%	360,000	6,000,000
	680,000	10,000,000

General Rate = 680,000/10,000,000 *100 = 6.8%

Calculation of amount to be capitalized :-

Date	Expenditure ($)	Weight	Specific ($)	General ($)
January 1	580,000	Specific : 580,000 * 7%	40,600	0
		General : NIL	0	0
March 31	680,000	Specific : 280,000 * 7% * 9/12	14,700	0
		General : 400,000 * 6.8% * 9/12	0	20,400
June 30	480,000	General : 480,000 * 6.8% * 6/12	0	16,320
October 30	840,000	General : 840,000 * 6.8% * 2/12	0	9,520
Total	2,580,000		55,300	46,240

Interest to be capitalized for the year will be $55,300 + $46,240 = $101,540

Notes:-

1. Firstly, the specific loan is utilized for the purpose of capitalization ($580000 + 280000) after that general loan is utilized.

2. In March the interest is taken for 9 months (from April to December), In June the interest is taken for 6 months (July to December) and last expenditure for 2 months.