Question

On January 1, 2016, Dreamworld Co. began construction of a new warehouse. The building was finished and ready for use on September 30, 2017. Expenditures on the project were as follows:

January 1, 2016 $300,000

September 1, 2016 $450,000

December 31, 2016 $450,000

March 31, 2017 $450,000

September 30, 2017 $300,000

Dreamworld had $5,000,000 in 12% bonds outstanding through both years.

Dreamworld's capitalized interest in 2016 was:

	a.	$72,000
	b.	$63,000
	c.	$54,000
	d.	$36,000

Answer 1

Step-1: Determine the average accumulated expenditures during the year.

Here, we will time weight the expenditures, which means, we will multiply the expenditure incurred with the months left in the year after it incurred and divide it by the total number of months in a year.

In year 2016, expenditures incurred are as follows:

January 1,2016- 300000*(12/12)= $300,000

September 1,2016- 450,000*(4/12)= $150,000

Total average accumulated expenditure= 300,000+150,000= $450,000

Step-2: Calculate the amount of interest to capitalize

• Multiply the interest rate by average accumulated expenditures.
• Interest calculated is limited to interest incurred.

Interest on accumulated expenditures= 12% of 450,000 i.e. $54,000

Interest incurred = 12% of 500,000= $60,000(on bonds)

As Interest on accumulated expenditures is within the limit of interest incurred, therefore, Capitalised interest rate will be $54,000 during the year 2016.

The correct option will be C i.e. $54,000