Question

On January 1, 2018, the Mason Manufacturing Company began construction of a building to be used as its office headquarters. The building was completed on September 30, 2019.

Expenditures on the project were as follows:

January 1, 2018	$	1,070,000
March 1, 2018		840,000
June 30, 2018		380,000
October 1, 2018		710,000
January 31, 2019		1,170,000
April 30, 2019		1,485,000
August 31, 2019		2,700,000

On January 1, 2018, the company obtained a $3 million construction loan with a 14% interest rate. The loan was outstanding all of 2018 and 2019. The company’s other interest-bearing debt included two long-term notes of $6,000,000 and $8,000,000 with interest rates of 8% and 10%, respectively. Both notes were outstanding during all of 2018 and 2019. Interest is paid annually on all debt. The company’s fiscal year-end is December 31. Assume the $3 million loan is not specifically tied to construction of the building.

Required:
1. Calculate the amount of interest that Mason should capitalize in 2018 and 2019 using the weighted-average method.
2. What is the total cost of the building?
3. Calculate the amount of interest expense that will appear in the 2018 and 2019 income statements.

Answer 1

Solution 1:

Weighted average interest rate of all debt
Debt	Amount	Interest rate	Interest amount
Loan	$30,00,000	14%	$4,20,000
8% Note	$60,00,000	8%	$4,80,000
10% Note	$80,00,000	10%	$8,00,000
Totals	$1,70,00,000		$17,00,000
Weighted average rate (total interets/ total debt)		10.00%

Year 2021: Weighted-Average accumulated expenditure and interest capitalized
Date	Amount	Capitalization period	Weighted Average Accumulated Expenditures
01 January 2021	$10,70,000	12/12	$10,70,000
01 March 2021	$8,40,000	10/12	$7,00,000
30 June 2021	$3,80,000	6/12	$1,90,000
01 October 2021	$7,10,000	3/12	$1,77,500
Total	$30,00,000		$21,37,500
*Interest rate			10.00%
Interest capitalized in 2021			$2,13,750
Year 2022: Weighted-Average accumulated expenditure
Date	Amount	Capitalization period	Weighted Average Accumulated Expenditures
01 January 2022	$32,13,750	9/9	$32,13,750
31 January 2022	$11,70,000	8/9	$10,40,000
30 April 2022	$14,85,000	5/9	$8,25,000
31 August 2022	$27,00,000	1/9	$3,00,000
Total	$85,68,750		$53,78,750
*Interest rate			10.00%
Interest capitalized in 2022			$4,03,406

Solution 2:
Computation of Cost of Building
Total expenditure before capitalization(8568750-213750)	$83,55,000
Add: Interest capitalized in 2021	$2,13,750
Add: Interest capitalized in 2021	$4,03,406
Total cost of Building	$89,72,156
Solution 3:
Computation of Interest expense
Debt	Amount	Interest rate	Interest amount
Loan	$30,00,000	14%	$4,20,000
8% Note	$60,00,000	8%	$4,80,000
10% Note	$80,00,000	10%	$8,00,000
Total interest incurred			$17,00,000
	2021	2022
Total inerest incurred	$17,00,000	$17,00,000
Less: Interest Capitalized	$2,13,750	$4,03,406
Interest Expense	$14,86,250	$12,96,594