Clarion Realty Clarion Realty has decided to construct its own office building.The construction will be partially financed through a construction loan and any remainder will be financed from internally generated funds.The internal accountants have collected the following information concerning the construction.
$\begin{array}{llll}& \text { Average Balance } & \text { Construction } & \text { Other } \
\text { Year } & \text { Construction Account } & \text { Debt } @ 6 \% & \text { Debt@ } 10 \%\
1 & \$ 2,000,000 & \$ 1,000,000 & \$ 500,000 \
2 & \$ 4,000,000 & \$ 1,000,000 & \$ 250,000 \
3 & \$ 3,000.000 & \$ 800.000 & \$ 200.000
\end{array}$ The amount, if any, of capitalized interest cost for Year 1 is
A)$0
B)$50,000
C)$60,000
D)$110,000
E)$170,000

Question

Quizplus · Accepted Answer

The capitalized interest cost is calculated on the average balance of the construction account using the weighted average interest rate of the debt. For Year 1, the weighted average interest rate is calculated as follows: $(1,000,000 \times 6\% + 500,000 \times 10\%) / 1,500,000 = 7.33\%$. The capitalized interest is then $2,000,000 \times 7.33\% = 146,600$. However, since the construction loan is $1,000,000 at 6%, the interest on this is $60,000, and the remaining $1,000,000 is financed internally, so the capitalized interest is $110,000.

Clarion Realty Clarion Realty Has Decided to Construct Its Own