Question

1.Below is the information relative to an exchange of assets by Stanton Company. The exchange lacks commercial substance.

	Old Equipment
	Book Value	Fair Value	Cash Paid to the Other Company
Case I	$225,000	$245,000	$45,000
Case II	$150,000	$135,000	$21,000

For each of the two cases, answer the following questions: How much should the company record for the new equipment? How much gain or loss should the firm recognize? Indicate whether it is a gain or loss. If no gain or loss is recognized, state “0.”

Case I: Record equipment at __________; Record a gain (loss) of __________;

Case II: Record equipment at __________; Record a gain (loss) of __________;

2. Arlington Company is constructing a building. Construction began on January 1 and was completed on December 31 of 2016. Total costs/expenditures were $4,800,000 on March 1, $3,000,000 on June 1, and $6,000,000 on December 31. Arlington Company borrowed $2,400,000 on January 1 on a 5-year, 12% note to specifically help finance construction of the building. In addition, the company had outstanding all year a 10%, 3-year, $4,800,000 note payable and an 11%, 4-year, $9,000,000 note payable.

1. What are the average accumulated expenditures?

2. What is the weighted-average interest rate for general loans used for interest capitalization purposes?

3. What is the avoidable interest and actual interest respectively for Arlington Company?

4. What amount of interest should be charged to expense?

5. What should be the total original cost that is capitalized for the building (including all cost and capitalized interest)?

5. Below is the information relative to an exchange of assets by Stanton Company. The exchange lacks commercial substance.

	Old Equipment
	Book Value	Fair Value	Cash Paid to the Other Company
Case I	$225,000	$245,000	$45,000
Case II	$150,000	$135,000	$21,000

For each of the two cases, answer the following questions: How much should the company record for the new equipment? How much gain or loss should the firm recognize? Indicate whether it is a gain or loss. If no gain or loss is recognized, state “0.”

Case I: Record equipment at __________; Record a gain (loss) of __________;

Case II: Record equipment at __________; Record a gain (loss) of __________;

6. Arlington Company is constructing a building. Construction began on January 1 and was completed on December 31 of 2016. Total costs/expenditures were $4,800,000 on March 1, $3,000,000 on June 1, and $6,000,000 on December 31. Arlington Company borrowed $2,400,000 on January 1 on a 5-year, 12% note to specifically help finance construction of the building. In addition, the company had outstanding all year a 10%, 3-year, $4,800,000 note payable and an 11%, 4-year, $9,000,000 note payable.

1. What are the average accumulated expenditures?

2. What is the weighted-average interest rate for general loans used for interest capitalization purposes?

3. What is the avoidable interest and actual interest respectively for Arlington Company?

4. What amount of interest should be charged to expense?

5. What should be the total original cost that is capitalized for the building (including all cost and capitalized interest)?

Answer 1

PART – 1) When exchange lacks commercial value then the value of asset i.e. equipment and gain or loss is recorded as follows:

CASE I)

Since the FV (Fair value) is greater than the BV (book value) then gain or profit is not recognized and the asset is recorded as the total of book value of the asset and the cash paid for such asset.

Thus,

Amount recorded as equipment = Book Value + Cash paid

                                                   = $225,000 + $45,000

                                                   = $270,000

Gain = $0

Because gain is not recognized as it is still unrealized and as per conservative approach, only loss is recognized, unrealized gain is not recognized.

CASE II)

Since the Fair value (FV) is lower than the Book value of the asset and thus it incurs loss. So, loss need to be recognized and the asset is recorded as the total of fair value and cash paid for the asset.

Thus,

Amount recorded as equipment = Fair Value + Cash paid

                                                   = $135,000 + $21,000

                                                   = $156,000

Loss = Book value – Fair value

         = $150,000 – $135,000

         = $15,000

PART – 2)

a).

Average accumulated expenditure = Expenditure on March 1 + Expenditure on June 1 + Expenditure on Dec 31

= ($4,800,000*10/12) + ($3,000,000*7/12) + ($6,000,000*0)

= $4,000,000 + $1,750,000 + $0

= $5,750,000

b).

Weighted average interest rate = (Interest on 3 year note payable + Interest on 4 year note payable)/(3 year note payable + 4 year note payable)

= [($4,800,000*10%) + ($9,000,000*11%)]/($4,800,000 + $9,000,000)

= ($480,000 + $990,000)/$13,800,000

= $1,470,000/$13,800,000

= 0.106521739

= 10.65% (approx.)

c)

Avoidable interest = Interest on loan for construction + Interest on other loans

                               = ($2,400,000*12%) + [($5,750,000 – $2,400,000)*10.65%]

                               = $288,000 + ($3,350,000*10.65%)

                               = $288,000 + $356,775

                               = $644,775

Actual interest = Interest on loan for construction + Interest on 3-year notes payable + Interest on 4-year notes payable

= ($2,400,000*12%) + ($4,800,000*10%) + ($9,000,000*11%)

= $288,000 + $480,000 + $990,000

= $1,758,000

d)

Interest charged to expense = Actual interest – Avoidable interest

                                             = $1,758,000 – $644,775

                                             = $1,113,225

e)

Total original cost of building = Expenditure on March 1 + Expenditure on June 1 + Expenditure on Dec 31 + Avoidable interest

= $4,800,000 + $3,000,000 + $6,000,000 + $644,775

= $14,444,775