BORROWING COST

PROB
PROBLEM
LEM 53-1 (IFRS)
On January 1, 2015, Hamlet Company borrowed P6,000,000 at
an annual interest rate of 10% to finance specifically the cost of
building an electricity generating plant. Construction
commenced on January 1, 2015 with a cost P6,000,000. Not
all the cash borrowed was used immediately, so interest
income of P80,000 was generated by temporarily investing
some of the borrowed funds prior to use. The project was
completed on November 30, 2015.
What is the carrying amount of the plant on November 30,
2015?
a. 6,000,000
b. 6.470,000
c. 6.520,000
d. 6,550,000

Answer-b.6.470,000
Construction cost 6,000,000
Interest (6,000,000 x 10% x 11/12 550,000
Interest income (80,000)
Total cost of plant 6,470,
6,470,000
000

PAS 33, paragraph 12, provides that if the funds are borrowed
specifically for the purpose of acquiring a qualifying asset, the
amount of capitalizable borrowing cost is the actual borrowing
cost incurred during the period less any investment income
from temporary investment of these borrowings.
PROB
PROBLEM
LEM 53-2 (IFRS)
ABC Company had the following general borrowings during
2015 which were used to finance the construction of a new
building:
Principal Borrowing Cost
10% bank loan 2,800,000 280,000
10% short-term note 1,600,000 160,000
12% long-term loan 2,000,000 240,000
6,400,000 680,000

The construction began on January 1, 2015 and the building

was completed on December 31, 2015.

In the first phase of the construction, there were idle funds

which the entity invested and earned interest income of
P100,000.

Expenditures on the building were made as follows:

January 1 400,000
March 31 1,000,000
June 30 1,200,000
September 30 1,000,000
December 31 400,000

1. What interest rate should be used to calculate capitalized

borrowing cost?
a. 10.625%
b. 10.00%
c. 12.00%
d. 10.67%
2. What is the amount of capitalized borrowing cost?
a. 212,500
b. 112,500
c. 425,000
d. 150,000

Answer to no.1- a.10.625%

Answer to no.2-a.212,500
Date (a) (b) (a x b)
Expenditure Fractional mos. Amount
January 1 400,000 12/12 400,000
March 31 1,000,000 9/12 750,000
June 30 1,200,000 6/12 600,000
Sept 30 1,000,000 3/12 250,000
Dec 31 400,000 0/12 0
Total 4,000,000 2,000,000

Average expenditures 2,000,000

Capitalization rate (680,000/6,400,000) 10.625%
Capitalized borrowin cost 212,500

PAS 23, paragraph 14, provides that if the funds are borrowed
generally and used for acquiring a qualifying asset, the amount
of capitalizable borrowing cost is equal to the average carrying
amount of the asset during the period multiplied by a
capitalization rate or average interest rate.
However, the capitalized borrowing cost shall not exceed the
actual interest incurred.
The computed amount of 212,500 is the capitalizable
borrowing cost because it is less than the actual borrowing cost
of P680,000. The difference between P680,000 and P212,500
or P467,500 is charged to interest expense.
The capitalization rate or average interest rate is equal to the
total annual borrowing cost divided by the total general
borrowings outstanding during the period.
No specific guidance is provided for general borr
borrowing
owing with
respect to its investment income.
Accordingly, any investment income from general borrowing is
not deducted from capitalized borrowing cost.
Thus, the investment income of P100,000 is ignored because
the construction is financed by general borrowings.

PROBLEM 53- 53-33 (AICPA Adapted)

On January 1, 2015, Cruise Company borrowed P30,000,000
evidenced by a 3-year 10% note payable and began
construction of a cruise ship. Annual payments of principal and
interest in the amount P13,000,000 are due every December
31. The entity used all proceeds as down payment for
construction.
What amount should be reported as interest expense related to
the note in the income statement for 2016?
a. 3,000,000
b. 2,000,000
c. 1,000,000
d. 0

Answer- d. 0

An interest incurred during the construction period on specific

borrowing should be capitalized as cost of the asset.
PROB
PROBLEM
LEM 53-4 (AICPA Adapted)
Sun Company was constructing an asset that qualified for
interest capitalization. The entity had outstanding notes payable
during the entire year of construction comprising P6,000,000
8% interest and P9,000,000 9% interest. None of the
borrowings were specified for the construction of the qualified
asset.
What interest rate should be used to calculate capitalized
interest on the construction?
a. 9.00%
b. 8.50%
c. 8.00%
d. 8.60%

Answer: d.8.60%

Principal Interest
8% note payable 6,000,000 x 8% 6,000,000 480,000
9% note payable 9,000,000 x 9% 9,000,000 810,000
Total 15,000,000 1,210,000

Average interest rate (1,210,000/15,000,000) 8.60%

PROB
PROBLEM
LEM 53-5 (AICPA Adapted)
Clay Company started construction of a new office building on
January 1, 2015, and moved into the finished building on July 1,
2016. Of the P25,000,000 total cost, P20,000,000 was
incurred in 2015 evenly throughout the year. The incremental
borrowing rate was 12% throughout 2015 and the total amount
of interest incurred was P1,020,000.
What amount should be reported as capitalized interest on
December 31, 2015?
a. P1,020,000
b. P1,200,000
c. P1,500,000
d. P2,400,000

Answer- a. P1,020,000

In computing the average expenditure, the amount of

P20,000,000 is simply divided by 2 or P10,000,000 because
the expenditures are incurred evenly in 2015. The interest on
average expenditures in P10,000,000 multiplied by 12% or
P1,200,000. The capitalized borrowing cost is limited to the
actual borrowing cost incurred of P1,020,000 because this is
lower than the computed amount of P1,200,000.

PROB
PROBLEM
LEM 53-6 (IFRS)
On January 1. 2015, Cagayan Company took out a loan of
P24,000,000 in order to finance specifically the renovation of a
building. The renovation work started on the same date. The
loan carried annual interest at 10%. Work on the building was
substantially completed on October 1, 2015. The loan was
repaid on December 31, 2015 and P200,000 investment
income was earned in the period to October 31 on the
proceeds of the loan not yet used for renovation.
What is the amount of borrowing cost to be included in the cost
of the building?
a. 2,400,000
b. 2,200,000
c. 2,000,000
d. 1,800,000
Answer: d. 1,800,000

Interest incurred (24,000,000 x 10% x 10/12) 2,000,000

Interest income (200,000)
Capitalizable borrowing cost 1,800,000

PROB LEM 53-7 (PHILCP

PROBLEM A Adapted)
(PHILCPA
Marian Company borrowed P20,000,000 at 10% partly for
general purposes and partly to finance the construction of a
building on January 1, 2015. The loan shall be repaid
commencing the month following completion of the building.
Expenditures incurred evenly during the year for the completed
building totaled P12,000,000 on December 31, 2015. The entity
earned interest of P200,000 for the year on the unexpended
portion of the loan.
What amount of interest is capitalized on December 31, 2015?
a. 1,200,000
b. 1,000,000
c. 600,000
d. 400,000

Answer- C. 600,000

The average expenditures amount to P12,000,000 divided by 2

or P6,000,000. The interest is P6,000,000 times 10% or
P600,000.
The investment income of P200,000 is ignored because the
construction is financed by general borrowing.
PROB
PROBLEM
LEM 53-8 (IAA)
Moses Company borrowed P4,000,000 on a 10% note payable
to finance a new warehouse which the entity is constructing for
own use. The only other debt of the entity is P6,000,000, 12%
mortgage payable on an office building. At the end of the
current year, average accumulated expenditures on the new
warehouse totaled P4,750,000.
What amount should be capitalized as interest for the current
year?
a. 400,000
b. 475,000
c. 490,000
d. 522,500

Answer- C. 490,000

Specific borrowing (4,000,000 x 10%) 400,000

General borrowing (750,000 x 12%) 90,000
Capitalized interest 490,00
490,0000

Average expeditures applicable to

general borrowing(4,750,000 less
4,000,000 specific) 750,000

PROB
PROBLEM
LEM 53-9 (IAA)
The third year of a construction project of Jilliane Company
began with a P3,000,000 balance in construction in progress.
Included in that figure is P600,000 of interest capitalized in the
first two years.
Construction expenditures during the third year were
P8,000,000 which were incurred evenly throughout the entire
year.
The entity had P30,000,000 in interest-bearing debt
outstanding in the third year at an interest rate of 9%.

1. What amount of interest for the third year is capitalized?

a. 360,000
b. 630,000
c. 936,000
d. 990,000

2. What amount should be reported as interest expense for the

third year?
a. 2,700,000
b. 2,070,000
c. 1,980,000
d. 1,350,000

Answer to no.1-B.630,000
Construction in progress-beginning of 3rd year 3,000,000
Average expenditures during the 3rd year
(8,000,000/2) 4,000,000
Total 7,000,000
Capitalized interest (7,000,000 x 9%) 630,00
630,0000

Answer to.no.2-B.2,070,000
Interest incurred in the 3rd year (30,000,000 x 2,700,000
9%)
Capitalized interest (630,000)
Interest expense for 3rd year 2,070,
2,070,000
000
PROB
PROBLEM
LEM 53-10 (IAA)
Jam Company started construction on a building at the
beginning of the current year and completed construction at
the year end.
The entity had only two interest notes outstanding during the
year end and both of these notes were outstanding for all 12
months of the year.
The ff. information is available:
Average accumulated expenditures 2,500,000
Ending balance in construction in progress 3,600,000
before capitalization of interest
6% note incurred specifically for the project 1,500,000
9% long term note 5,000,000

What is the cost of the building?

a. 3,780,000
b. 2,680,000
c. 3,750,000
d. 3,825,000

Answer: A. 3,780,000

Average expenditures 2,500,000

Specific borrowing (1,500,000)
General borrowing 1,000,000

Construction in progress-actual expenditure 3,600,000

Capitalizable interests:
Specific borrowing (1,500,000 x 6%) 90,000
General borrowing (1,000,000 x 9%) 90,000
Total cost of building 3,780,00
3,780,0000
PROB
PROBLEM
LEM 53-11 (IAA)
During 2015, Joshua Company constructing asset costing
P5,000,000. The weighted average expenditures totaled
P3,000,000. To help pay for construction, P2,200,000 was
borrowed at 10% on January 1, 2015, and funds not needed for
construction were temporarily invested in short-term securities
yielding P45,000 in interest revenue.
Other than the construction funds borrowed, the only other
debt outstanding during the year was P2,500,000, 10 year, 9%
note payable dated January 1, 2014.

1. What amount of interest should be capitalized during 2015?

a. 300,000
b. 150,000
c. 247,000
d. 472,000

2. What amount should be reported as interest expense for

2015?
a. 225,000
b. 178,000
c. 153,000
d. 0
Answer to no.1- C. 247,000
Average expenditures 3,000,000
Specific borrowing (2,200,000)
General borrowing 800,000

Specific borrowing (2,200,000 x 10%) 220,000

Interest revenue (45,000)
General borrowing (800,000 x 9%) 72,000
Capitalized interest 247,000
Answer to no.2-C.153,000
Interest on general borrowing (2,500,000 x9%) 225,000
Capitalizable interest on general borrowing (72,000)
Interest exp
expense
ense for 2015 153,000

PROB
PROBLEM
LEM 53-12 (AICPA Adapted)
During 2015, Elysee Company constructed a new facility at a
cost of P30,000,000. The expenditures for the building, which
was finished late in 2015, were incurred evenly during the year.
The entity had the ff. loans outstanding on December 31, 2015:
 10% note to finance specifically the construction, dated
January 1, 2015, P10,000,000. This note is unpaid on
December 31, 2015. Investments were made on the
proceeds from this loan and income P100,000 were
realized on 2015.
 12% 20-year bonds issued at face amount on April 30,
2014, P30,000,000.
 8% 5-year note payable, dated March 1, 2014,
P10,000,000.

What amount of interest is capitalized as cost of the new

building?
a. 1,550,000
b. 1,450,000
c. 1,400,000
d. 1.500,000

Answer- B. 1,450,000
Average expenditures (30,000,000/2) 15,000,000
Applicable to specific borrowing (10,000,000)
Total general borrowing 5,000,000

Principal Interest
12% 20-year bonds payable 30,000,000 3,600,000
8% 5-year notes payable 10,000,000 800,000
Total general borrowing 40,000
40,000,000
,000 4,400,
4,400,000
000

Average capitalization rate 11%

(4,400,000/40,000,000)

Interest on specific borrowing(10,000,000x10%) 1,000,000

Interest income related to specific borrowing (100,000)
Interest on general borrowing (5,000,000x11%) 550,000
Total capitalizable interest 1,450,000

PROB
PROBLEM
LEM 53-13 (IAA)
During 2015, Israel Company constructed asset costing
P4,215,000. The weighted average expenditure during 2015
amounted to P3,900,000.

The entity borrowed P2,000,000 at 7.5% on January 1, 2015.

Funds not needed for construction were temporarily invested in
short-term securities and earned P59,000 in interest revenue.

In addition to the construction loan, the entity had two other

notes outstanding during the year, a P1,500,000 10-year, 10%
note payable dated October 1, 2013, and a P1,000,000, 8%, 5-
year note payable dated November 2, 2014.
What amount of interest should be capitalized during 2015?
a. 324,800
b. 297,500
c. 273,000
d. 265,800

Answer: d. 265,800
Average expenditures 3,900,000
Specific borrowing (2,000,000)
General borrowing 1,900,000

Principal Interest
10-year, 10% notes payable 1,500,000 150,000
5-year, 8 % notes payable 1,000,000 80,000
Total general borrowing 2,500,
2,500,000
000 230,00
230,0000

Average interest rate(230,000/2,500,000) 9.2%

Specific borrowing (2,000,000 x7.5%) 150,000

Interest revenue related to specific borrowing (59,000)
General borrowing (1,900,000 x 9.2%) 174,800
Capitalizable interest 265,800

PROB
PROBLEM
LEM 53-14 (IFRS)
Congo Company commenced construction of a new plant on
February 1, 2015. The cost of P18,000,000 was paid in full to
the contractor on February 1, 2015 and was funded from
existing general borrowings. The construction was completed
on September 30, 2015.
The borrowings during 2015 comprised the following:
Bank A- 6% 8,000,000
Bank B- 6.6% 10,000,000
Bank C- 7% 30,000,000

What is the amount of borrowing cost that should be

capitalized in relation to the plant?
a. 1,215,000
b. 810,000
c. 911,250
d. 0

Answer: b. 810,000

Annual interest
Bank A 8,000,000 x 6% 480,000
Bank B 10,000,000 x 6.6% 660,000
Bank C 30,000,000 x 7% 2,100,000
Total 48,000,
48,000,000
000 3,240,
3,240,000
000

Average inter
interest
est rate (3,240,
(3,240,000/48,
000/48,
000/48,000,00
000,00
000,000)
0) 6.75%
Capitalized borrowing cost
(18,000,000 x 6.75% x 8/12) 810,000

The construction period is 8 months from February 1, 2015 to

September 30, 2015.

Total annual interest 3,240,000

Capitalizable borrowing cost (810,000)
Interest exp
expense
ense for 2015 2,430,
2,430,000
000
PROB
PROBLEM
LEM 53-15 (IFRS)
Ultimate Company, a socially responsible multinational entity,
decided to construct a tunnel that will link two sides of the
village that were separated by a natural disaster years ago.
Realizing its role as a good corporate citizen, the entity has
been on this village a couple of years exploring oil and gas in
the nearby offshore area. The tunnel would take two years to
build and the total capital outlay needed for the construction
would not be less than P20,000,000. To allow itself a margin of
safety, the entity borrowed P25,000,000 from three sources
and used the extra P5,000,000 for working capital purposes.
Financing was arranged as follows:

Bank term loan-7% 5,000,000

Institutional borrowing-8% 10,000,000
Corporate bonds-9% 10,000,000

In the first phase of the construction of the tunnel, there were

idle funds of P10,000,000 which the entity invested for the
period of six months. Income from the investment was
P500,000.

What amount of borrowing cost should be capitalized as cost

of the asset upon completion?