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, $520,000; March 31, $620,000; June 30, $420,000; October 30, $660,000. To help finance construction, the company arranged a 9% construction loan on January 1 for $740,000. The company’s other borrowings, outstanding for the whole year, consisted of a $3 million loan and a $5 million note with interest rates of 10% and 6%, respectively. Assuming the company uses the specific interest method, calculate the amount of interest capitalized for the year.

Answer 1

To calculate the interest capitalized, we first determine the interest for each expenditure multiplied by the respective period it was outstanding. By adding these amounts, we find the total capitalized interest. The capitalized interest for the year is $117,450.

Step-by-step explanation:

The question pertains to the calculation of interest capitalized during the construction of a building. The company uses the specific interest method to determine the amount of interest to capitalize. We first identify the specific construction loan used for the building, which is at a 9% interest rate. The average accumulated expenditures will be used to calculate the weighted-average accumulated expenditures (WAAE), which is necessary for the interest capitalization calculation. The other loans cannot be used in this calculation because they are not specific to the construction project.

Here is how the WAAE is calculated based on the given expenditures:

1. January 1 - December 30: $520,000
2. March 31 - December 30: $620,000 (9 months)
3. June 30 - December 30: $420,000 (6 months)
4. October 30 - December 30: $660,000 (2 months)

The interest is calculated as follows:

• Interest on $520,000 for 12 months at 9%: $520,000 * 9% = $46,800
• Interest on $620,000 for 9 months at 9%: $620,000 * (9/12) * 9% = $41,850
• Interest on $420,000 for 6 months at 9%: $420,000 * (6/12) * 9% = $18,900
• Interest on $660,000 for 2 months at 9%: $660,000 * (2/12) * 9% = $9,900

Adding these up gives the total capitalized interest for the year as:

$46,800 + $41,850 + $18,900 + $9,900 = $117,450

Therefore, the capitalized interest for the year is $117,450.

Answer 2

$108,975

Explanation:

According to the scenario, computation of the given data are as follow:-

We need to do following calculations

Average Accumulated Expenditures:-

Expenditures for Construction × (Number of Month ÷ Total Month)

1 January $520,000 × (12 ÷ 12) = $520,000

31 March $620,000 × (9 ÷ 12) = $465,000

30 June $420,000 × (6 ÷ 12) = $210,000

30 October $660,000 × (2 ÷ 12) = $110,000

Total Average Accumulated Expenditures = $1,305,000

Now

Weighted Average Interest Rate is

= Total Amount of Loan × Total Value of Interest

= $3,000,000 × 10%

= $300,000

$5,000,000 × 6%

= $300,000

Total Amount of Loan is

= $3,000,000 + $5,000,000

= $8,000,000

Total Value of Interest

= $300,000 + $300,000

= $600,000

Weighted Average Interest Rate is

= Total Value of Interest ÷ Total Amount of Loan

= $600,000 ÷ $8,000,000

= 0.075

= 7.5%

Amount of Interest Capitalization= is

Specific Borrowing Interest = $740,000 × 9% = $66,600

Excess Borrowing = (Total Average Accumulated Expenditures - Specific Borrowing)

= $1,305,000 - $740,000

= $565,000

Interest on Excess Borrowing = Excess Borrowing × Weighted Average Interest Rate

= $565,000 × 7.5%

= $42,375

Capitalized Interest = Excess Interest Borrowing + Specific Borrowing Interest

= $42,375 + $66,600

= $108,975