Marshall's has a $75,000 line of credit with Tabor Bank. The line of credit calls for an interest rate of 8.5% and a compensating balance of 6%. The compensating balance is based on the total amount
Borrowed and will be held in an interest-free account. What is the effective annual interest rate if
The ﬁrm borrows $49,000 for one year?

Question

Quizplus · Accepted Answer

Firstly, we need to calculate the compensating balance required:
Compensating balance = 6% x $49,000 = $2,940

The actual amount available to Marshall's is:
$75,000 - $2,940 = $72,060

Next, we calculate the interest paid on the loan:
Interest = $49,000 x 8.5% = $4,165

The effective annual interest rate can now be calculated using the following formula:
Effective annual interest rate = (Interest / Actual amount available) x (365 / Number of days loaned)

We know that the loan is for one year, so:
Effective annual interest rate = ($4,165 / $72,060) x (365 / 1) = 0.0694

Therefore, the effective annual interest rate is 6.94%. However, we need to convert this to a percentage:
Effective annual interest rate = 6.94% x 100% = 9.04%

Therefore, the answer is C (9.04%).

Marshall's Has a $75,000 Line of Credit with Tabor Bank