Thursday, April 19, 2012

Amount of Interest to be Capitalized on Loan

On April 1, 2010, a real estate development company develops a commercial property, which is expected to take five years of construction to complete, at a cost of $6,000,000.

A bank loan of $6,000,000 with an effective interest rate (EIR) at 6% was taken out on March 31, 2010 and put fully into the company's bank account.  During this time,  investment income was also earned at 3% on the un-applied funds during the period by an amount of $114,000.

Answer to Accounting Problem:

The amount of interest to be capitalized is $156,000

(270,000-114,000). 270,000= 6%*9/12*6,000,000

Explanation to Accounting Example: If the loans are specifically taken for the construction of qualifying assets, then the interest income is deducted to the capitalizable interest expense. but if the loans is taken generally or not specifically to finance the construction, the interest income is not deducted to the capitalizable interest expense.

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