Question

On December 31, 2019, Main Inc. borrowed $3,000,000 at 12% payable annually to finance the construction of a new building. In 2020, the company made the following expenditures related to this building: March 1, $360,000; June 1, $600,000; July 1, $1,500,000; December 1, $1,500,000. The building was completed in February 2021. Additional information is provided as follows.
1. Other debt outstanding
10-year, 13% bond, December 31, 2013, interest payable annually $4,000,000
6-year, 10% note, dated December 31, 2017, interest payable annually $1,600,000
2. March 1, 2020, expenditure included land costs of $150,000
3. Interest revenue earned in 2020 $49,000

Determine the amount of interest to be capitalized in 2020 in relation to the construction of the building.
Prepare the journal entry to record the capitalization of interest and the recognition of interest expense, if any, at December 31, 2020.

Answer 1

Answer:

IAS 23 Borrowing Costs Adresses that an entity can capitalize borrowing costs from commencement date if it satisfies the following conditions:

(a) it is incurring expenditures for the asset;

(b) the company has incurred borrowing costs; and

(c) Activities are undertaken to prepare the asset for ready to use or sale.

The organization has met the condition one on March 1, 2019, which is borrowing $3000,000 for financing the construction of new building. The borrowing cost is:

Borrowing cost= $3000,000*10%= $300,000

Total cost incurred on the construction = $3,960,000

This means the remaining ($960,000) was financed from the retained earnings because we can see there is interest income in the year 2020 of 49000. So the only cost that can be capitalized is $360,000.

Journal Entry of Capitalizing borrowing Expenses:

Dr     Building   300,000

Cr                  Interest Payable   300,000

Remainder borrowing costs:

• 4 Million

Dr     Interest Expense (4m*13%)  520,000

Cr                  Interest Payable               520,000

• 1.6 Million

Dr     Interest Expense (1.6m*10%)  160,000

Cr                  Interest Payable               160,000

• Interest Income

Dr     Interest Income   49,000

Cr                  Interest Receivable         49,000

Answer 2

Answer:

The Portion of the interest expense that Hurston Inc. will capitalizenin 2020 is $ 183,000

Journal entry

Dr. Building183,000

Dr. Interest Expense 857,000

Cr. Cash1,040,000

Explanation:

Expenditures, 2020 Average Investment

March 1 360,000 10/12 300,000

June 1600,000 7/12 350,000

July 1 1,500,000 6/12 750,000

Dec1 1,500,000 1/12 125,000

Total 1,525,000

Loans

Issued: Actual Int Cost

12% to finance

construction3,000,000 12/31/2019 360,000

13%Bond 4,000,000 Years ago 520,000

10%Bond 1,600,000 Years ago 160,000 Total 1,040,000

Average Inv Avoidable Int Cost

1,525,000 12% 183,000

Total 183,000

The Portion of the interest expense that Hurston Inc. will capitalizenin 2020 is $ 183,000

Journal entry

Dr. Building183,000

Dr. Interest Expense 857,000

Cr. Cash 1,040,000

Interest on land expenditure during construction is capitalized to the building cost which simply means the interest on land expenditure is not capitalized on land but the building.