Your firm has a line of credit with your local bank for $50,000.The loan agreement calls for interest of 9% with a 5% compensating balance requirement that is based on the total amount borrowed.What is the effective interest rate if you need $42,750 for one year to cover your operating expenses?

Question

Quizplus · Accepted Answer

The effective interest rate accounts for the compensating balance requirement. You need to borrow $45,000 to net $42,750 after the 5% compensating balance. The interest on $45,000 at 9% is $4,050. The effective interest rate is $4,050 divided by the usable funds ($42,750), which equals approximately 9.47%.

Your Firm Has a Line of Credit with Your Local