Exercise 10-10 The following three situations involve the capitalization of inte
ID: 2520326 • Letter: E
Question
Exercise 10-10
The following three situations involve the capitalization of interest.
Situation I
On January 1, 2017, Martinez, Inc. signed a fixed-price contract to have Builder Associates construct a major plant facility at a cost of $4,400,000. It was estimated that it would take 3 years to complete the project. Also on January 1, 2017, to finance the construction cost, Martinez borrowed $4,400,000 payable in 10 annual installments of $440,000, plus interest at the rate of 10%. During 2017, Martinez made deposit and progress payments totaling $1,650,000 under the contract; the weighted-average amount of accumulated expenditures was $880,000 for the year. The excess borrowed funds were invested in short-term securities, from which Martinez realized investment income of $251,900.
(a) What amount should Martinez report as capitalized interest at December 31, 2017?
Capitalized Interest $______________
Situation II
During 2017, Sandhill Corporation constructed and manufactured certain assets and incurred the following interest costs in connection with those activities.
Interest Costs Incurred
All of these assets required an extended period of time for completion.
(B) Assuming the effect of interest capitalization is material, what is the total amount of interest costs to be capitalized?
The total amount of interest costs to be capitalized $________________
Situation III
Teal, Inc. has a fiscal year ending April 30. On May 1, 2017, Teal borrowed $10,424,000 at 11% to finance construction of its own building. Repayments of the loan are to commence the month following completion of the building. During the year ended April 30, 2018, expenditures for the partially completed structure totaled $7,296,800. These expenditures were incurred evenly throughout the year. Interest earned on the unexpended portion of the loan amounted to $677,560 for the year.
(C) How much should be shown as capitalized interest on Teal’s financial statements at April 30, 2018?
Interest Costs Incurred
Warehouse constructed for Sandhill’s own use $30,840 Special-order machine for sale to unrelated customer, produced accordingto customer’s specifications 8,650 Inventories routinely manufactured, produced on a repetitive basis 7,360
Explanation / Answer
Situation 1 .
Interest for year 1 i.e upto december 31 2017
880,000*10% = 88000
Interest earned through investments = 251900
= 88000-251900 = -163900
No interest will be capitalised
Situation 2
a) warehouse manufactured for owner's own house is not a qualifying asset as it is not intented for sale by business entity
b) Special-order machine for sale to unrelated customer, produced according
to customer’s specifications is a qualifying asset hence its interest will be capitalised
c) Inventories routinely manufactured, produced on a repetitive basis is not a qualifying asset hence interest will not be capitalised
The total amount of interest costs to be capitalized $__8650______________
Situation 3
Interest cost for the year = 7296800 * 11% = 802648
Interest earned from interim investments = 677560
Interest to be capitalised = 802648-677560 = 125088
c) Inventories routinely manufactured, produced on a repetitive basis is not a qualifying asset hence interest will not be capitalised
The total amount of interest costs to be capitalized $__8650______________
Situation 3
Interest cost for the year = 7296800 * 11% = 802648
Interest earned from interim investments = 677560
Interest to be capitalised = 802648-677560 = 125088
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