Sage Company borrowed $3,000,000 on March 1 on a 5-year, 12% note to help finance construction of the building. In addition, the company had outstanding all year a 10%, 5-year, $6,000,000 note payable and an 11%, 4-year, $10,500,000 note payable. Compute avoidable interest for Sage Company. Use the weighted-average interest rate for interest capitalization purposes.

Question:

Riverbed Company is constructing a building. Construction began on February 1 and was completed on December 31. Expenditures were $5,400,000 on March 1, $3,600,000 on June 1, and $9,000,000 on December 31. Riverbed Company borrowed $3,000,000 on March 1 on a 5-year, 12% note to help finance construction of the building. In addition, the company had outstanding all year a 10%, 5-year, $6,000,000 note payable and an 11%, 4-year, $10,500,000 note payable. Compute avoidable interest for Riverbed Company. Use the weighted-average interest rate for interest capitalization purposes.

The total avoidable interest is $743,040.00

Explanation:

Here we have        

Date         Expenditure              Period         Portion

Mar-01     $5,400,000.00         10/12    $4,500,000.00

Jun-01     $3,600,000                7/12             $2,100,000

Dec-31    $9,000,000                0/12            $0

Total                                                               $6,600,000.00

The weighted average expenditure is  $6,600,000.00

The weighted average rate using the notes payable loan is found by the following calculation

Type of loanAmount             Interest rateInterest incurred

Loan               $6,000,000             10%            $600,000.0

Loan               $10,500,000            11%             $1,155,000.00

Total              $16,500,000                                $1,755,000.0

Weighted average rate = Total interest incurred / Total loans

Weighted average = 1755000/16500000 = 0.10636 = 10.64%

The general interest is found by subtracting the specific loan from the weighted average expenditure

General = Weighted average expenditure - Specific loan

General =  $6,600,000.00 - $3,000,000 = $3,600,000.00

The avoidable interest is found  by summing the specific interest to the weighted average interest as follows

Type of loan    Amount            Interest rateInterest incurred

Specific            $3,000,000  12%  $360,000.00

General            $3,600,000  10.64%$383,040.0000

Total                                                               $743,040.00

The total avoidable interest = $743,040.00

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