The Sports Store has a $100,000 line of credit with City Bank. The loan agreemen

Question

The Sports Store has a $100,000 line of credit with City Bank. The loan agreement requires that 2 percent of the unused portion of the credit line be deposited in a non-interest-bearing account as a compensating balance. The interest rate on the borrowed funds is 1.75 percent per quarter. The Sport Store's short-term investments are paying 1.5 percent per quarter. What is the effective annual interest rate on the line of credit if The Sports Store borrows the entire $100,000 for one year? Assume any funds borrowed or invested use compound interest.

Explanation / Answer

AS AMOUNT IS FULLY USED FOR 1 YEAR, THE RATE OF INTEREST APPLICABLE IS 1.75% PER QUARTER

EFFETIVE ANNUAL INTEREST RATE = (1+0.0175)4 - 1 = 0.071859 = 7.19%

ANSWER : 7.19%

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