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	$	1,090,000
March 1, 2018		780,000
June 30, 2018		980,000
October 1, 2018		780,000
January 31, 2019		297,000
April 30, 2019		630,000
August 31, 2019		927,000

On January 1, 2018, the company obtained a $3,300,000 construction loan with a 16% interest rate. The loan was outstanding all of 2018 and 2019. The company’s other interest-bearing debt included two long-term notes of $2,000,000 and $8,000,000 with interest rates of 10% and 12%, 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.

Required:
1. Calculate the amount of interest that Mason should capitalize in 2018 and 2019 using the specific interest 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

Expenditures for 2018:	Amount	Time period	Average accumulated expenditures
January 1, 2018	1090000	12/12	1090000
March 1, 2018	780000	10/12	650000
June 30, 2018	980000	6/12	490000
October 1, 2018	780000	3/12	195000
Total	3630000		2425000
Interest capitalized = 2425000*16%= $388000
Expenditures for 2017:	Amount	Time period	Average accumulated expenditures
January 1, 2017	4018000	9/9	4018000
January 31, 2017	297000	8/9	264000
April 30, 2017	630000	5/9	350000
August 31, 2017	927000	1/9	103000
Total	5872000		4735000
Weighted average interest rate:
	Amount	Interest
10% note	2000000	200000
12% note	8000000	960000
Total	10000000	1160000
Weighted average interest rate = 1160000/10000000= 11.60%
Interest capitalized:
3300000*16%/12*9=	396000
1435000*11.6%/12*9=	124845
Total	520845
1
	2018	2019
Interest capitalized	388000	520845
2
Total cost of building = 5872000+520845= $6392845
3
Interest expense:
2018	1300000	=(3300000*16%)-388000+1160000
2019	1167155	=(3300000*16%)-520845+1160000