Question

E10.7B (L0 2) (Capitalization of Interest) Bagwell Furniture Company started construction of a combination office and warehouse building for its own use at an estimated cost of $2,500,000 on January 1, 2020. Bagwell expected to complete the building by December 31, 2020. Bagwell has the following debt obligations outstanding during the construction period.

Construction loan—15% interest, payable semiannually, issued
December 31, 2019 Short-term loan—10% interest, payable monthly, and principal payable	$1,000,000
at maturity on May 30, 2021 Long-term loan—11% interest, payable on January 1 of each	700,000
year. Principal payable on January 1, 2024	500,000

Instructions

(Carry all computations to two decimal places.)

1. A ssume that Bagwell completed the office and warehouse building on December 31, 2020, as planned, at a total cost of $2,600,000, and the weighted average of accumulated expenditures was $1,800,000. Compute the avoidable interest on this project. (Round interest rates to two decimal places.)
2. Compute the depreciation expense for the year ended December 31, 2021. Bagwell elected to depreciate the building on a straight-line basis and determined that the asset has a useful life of 30 years and a salvage value of $150,000.

Answer 1

Part 1

Average Accumulated capital Expenditure			$        1,800,000
	Weighted average rate for other debt
	Amount of debt	Multiply: Rate	Interest
Short-term loan	$            700,000	10.00%	$              70,000
Long-term loan	$            500,000	11.00%	$              55,000
Total	$        1,200,000		$            125,000
Weighted average rate for other debt (Total interest/Total other debts ) (rounded to two Decimal place.)	$            125,000	$        1,200,000	10.42%
	Average Accumulated capital Expenditure	Rate	Avoidable interest
For construction loan	$        1,000,000	15.00%	$            150,000
Other debt (1800000-1000000)	$            800,000	10.42%	$              83,360
Total	$        1,800,000		$            233,360
Avoidable interest			$            233,360

Part 2

Actual interest incurred during year 2020
Debt type	Amount of debt	Rate	Actual interest
Short-term loan	$            700,000	10%	$              70,000
Long-term loan	$            500,000	11%	$              55,000
For construction loan	$        1,000,000	15%	$            150,000
Actual interest incurred during year 2020			$            275,000
Avoidable Interest			$            233,360
Actual interest incurred during year 2020			$            275,000
Interest cost to be capitalized (Whichever is lower)			$            233,360
Total cost			$        2,600,000
Add: Interest cost to be capitalized			$            233,360
Total Cost of Assets			$        2,833,360
Less: Salvage Value			$            150,000
Depreciable Cost			$        2,683,360
Divided by: Useful life			30
Depreciation Expense			$              89,445