Question

Buffalo Company is constructing a building. Construction began on February 1 and was completed on December 31. Expenditures were $5,040,000 on March 1, $3,360,000 on June 1, and $8,400,000 on December 31.

Buffalo Company borrowed $2,800,000 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 8%, 5-year, $5,600,000 note payable and an 11%, 4-year, $9,800,000 note payable. Compute avoidable interest for Buffalo Company. Use the weighted-average interest rate for interest capitalization purposes. (Round "Weighted-average interest rate" to 4 decimal places, e.g. 0.2152 and final answer to 0 decimal places, e.g. 5,275.)

Answer 1

Answer -

Step - (1) - Calculation of Weighted Average Expenditure -

Date	Expenditure ($)	Period used	Calculation	Amount ($)
March 1	5040000	10 / 12	$5040000 * 10/12	4200000
June 1	3360000	7 / 12	$3360000 * 7/12	1960000
December 31	8400000	0 / 12	$8400000 * 0/12	0
Total Weighted Average Expenditure			$4200000 + $1960000	6160000

.

Step - (2) - Calculation of Weighted Average Interest Rate -

Type of loan	Loan Amount ($)	Interest rate	Interest Amount ($)
Other loans	5600000	8%	448000 [$5600000 * 8%]
Other loans	9800000	11%	1078000 [$9800000 * 11%]
Total	15400000	-	1526000

Weighted Average Interest Rate = Total Interest on Loans / Total Loan Amount

= $1526000 / $15400000

= 9.9091%

.

Step - (3) - Calculation of Avoidable Interest for Buffalo Company -

	Type of loan	Loan Amount ($)	Interest rate	Interest Amount ($)
I.	Specific Loan	2800000 [Given in question]	12% [Given in question]	336000 [$2800000 * 12%]
II.	Other loans	3360000 [6160000 - 2800000]	9.9091% [Calculated in step - (2)]	332946 [$3360000 * 9.9091%]
Total Avoidable Interest [I +II]				668946