On January 1, 2021, the Mason Manufacturing Company began construction of a building to be used as its office headquarters. The building was completed on September 30, 2022. Expenditures on the project were as follows:

January 1, 2021 $ 1,940,000
March 1, 2021 1,680,000
June 30, 2021 1,880,000
October 1, 2021 1,680,000
January 31, 2022 432,000
April 30, 2022 765,000
August 31, 2022 1,062,000

On January 1, 2021, the company obtained a $4,800,000 construction loan with a 14% interest rate. The loan was outstanding all of 2021 and 2022. The company’s other interest-bearing debt included two long-term notes of $3,000,000 and $7,000,000 with interest rates of 6% and 10%, respectively. Both notes were outstanding during all of 2021 and 2022. Interest is paid annually on all debt. The company’s fiscal year-end is December 31.

Required:
1. Calculate the amount of interest that Mason should capitalize in 2021 and 2022 using the specific interest method.
2. What is the total cost of the building?
3. Calculate the amount of interest expense that will appear in the 2021 and 2022 income statements.

You will find the procedures, formulas or necessary explanations in the archive attached below. If you have any question ask and I will aclare your doubts kindly.

Answer Link

anthougo anthougo · Answer 2 · 2022-05-02T12:28:11+02:00

1. The amount of interest that Mason should capitalize in 2021 and 2022 using the specific interest method is $1,552,000 and $1,259,000, respectively.

2. The total cost of the building is $12,250,000.

3. The amount of interest that will appear in the 2021 and 2022 income statements is $0, respectively.

How is the specific interest method different from the weighted average method?

The difference is that the specific interest method capitalizes the interest on each individual loan and the weighted average method combines all the debt and averages the interest payments on each loan to determine a weighted average interest rate.

Data and Calculations:

Specific Loans:

January 1, 2021 Construction Loan = $4,800,000

Interest rate of construciton loan = 14%

Interest for the construction loan = $672,000 ($4,800,000 x 14%)

Interests on the Long-term Notes Payable:

$3,000,000 at 6% = $180,000 ($3,000,000 x 6%)

$7,000,000 at 10% = $700,000 ($7,000,000 x 10%)

Total interest expense for 2021 = $1,552,000 ($672,000 + $180,000 + $700,000)

Interests on the Long-term Notes Payable:

$3,000,000 at 6% = $120,000 ($3,000,000 x 6% x 8/12)

$7,000,000 at 10% = $467,000 ($7,000,000 x 10% x 8/12)

Total interest expense for 2022 = $1,259,000 ($672,000 + $120,000 + $467,000)

Total Costs of Building:

January 1, 2021 $ 1,940,000

March 1, 2021 1,680,000

June 30, 2021 1,880,000

October 1, 2021 1,680,000

Total interest expense for 2021 $1,552,000

January 31, 2022 432,000

April 30, 2022 765,000

August 31, 2022 1,062,000

Total interest expense for 2022 $1,259,000

Total cost of building = $12,250,000

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