Question

Early in 2019, Tanya Corporation engaged a contractor Chavis, Inc. to design and construct Tanya's manufacturing facility. Construction begun on June 1 and completed on December 31, 2019. Tanya made the following expenditures during 2019: Date Payment Jun 1, 2019 $ 3,000,000 Oct 31, 2019 5,400,000 Tanya borrowed $2,000,000 on January 1, 2019, to specifically finance the construction. The loan has a stated interest rate of 8% and a 10-year maturity. In addition, Tanya had the following debt outstanding during 2019: 1. 12%, ten-year bonds issued at par on December 31, 2015, with interest payable annually on December 31 $ 4,000,000 2. 9%, 3-year note payable, dated January 1, 2019, with interest payable annually on January 1 2,000,000

Required:

(a) Compute the weighted-average accumulated expenditures qualifying for capitalization of interest cost during 2019 (show computations).

(b) Compute the weighted-average interest rate for the general borrowings (show computations).

(c) Compute the avoidable interest during 2019 (show computations).

(d) Compute the actual interest cost during 2019 (show computations).

(e) Indicate the amount of interest cost to be capitalized during 2019. (1 mark)

Answer 1

Answer-a:
Payment date	Expenditures	Capitlization period	Weight	Weighted expenditures
Jun.01 2019	$       3,000,000	7 months	0.58	$        1,750,000
Oct.31 2019	$       5,400,000	2 months	0.17	$           900,000
Weighted-Average Accumulated Expenditures	$       2,650,000
Out of this 2,650,000, $2,000,000 is financed by specific loans.
The rest i.e. $650,000 is financed out of general loans.
The interest rate on specific loan is 8% while the weighted interest rate on the general loans is calculated below.
Answer-b:
Loan	Principal	Rate	Annual Interest
12% Bonds payable	$       4,000,000	12%	$                480,000
9% Notes payable	$       2,000,000	9%	$                180,000
	$       6,000,000		$                660,000
Weighted-Average Interest Rate = $660,000 / $6,000,000 = 11%
Answer-c:
Funding	Amount	Rate	Avoidable Interest
Specific Loan	$       2,000,000	8%	$                160,000
General Loan	$          650,000	11%	$                  71,500
			$                231,500
Answer-d:
Loan	Amount	Rate	Actual Interest
Construction loan	$       2,000,000	8%	$                160,000
12% Bonds payable	$       4,000,000	12%	$                480,000
9% Notes payable	$       2,000,000	9%	$                180,000
			$                820,000
Answer-e:
Interest cost to be capitalized is lower of actual interest or avoidable interest.
Hence, capitalized interest cost = $231,500