Stuart Mining is offered a $4,000,000 line of credit for three months at an APR of 6%. The bank requires that the firm keep an amount equal to 10% of the loan principal in an account with the bank as long as the loan remains outstanding. This account pays 2% APR with quarterly compounding. What is the actual three-month interest paid on this loan?
A) 1.6%
B) 6.6%
C) 12.6%
D) 14.6%
E) 60.9%

Question

Quizplus · Accepted Answer

B) Compensating balance = 0.1 × $4,000,000 = $400,000
Actual loan amount = $4,000,000 - $400,000 = $3,600,000
Amount earned on the compensating balance = $400,000 × (1 + 0.02 / 4) = $402,000
Total amount payable = $4,000,000 × (1 + 0.06 / 4) = $4,060,000
Amount owed = $4,060,000 - $402,000 = $3,658,000
Actual interest rate paid = $3,658,000 / $3,600,000 = 1.01611
Expressing as EAR = 6.60%

Stuart Mining Is Offered a $4,000,000 Line of Credit for Three