On January 1, 2010, Rong Company signed a contract to have Rozy Associates construct a manufacturing facility at a cost of $14, 000, 000.It was estimated that it would take three years to complete the project.Also on January 1, 2010, to finance the construction cost, Rong borrowed $14, 000, 000 payable in seven annual installments of $2, 000, 000 plus interest at the rate of 9%.During 2010, Rong made progress payments totaling $5, 000, 000 under the contract, and the average amount of accumulated expenditures was $3, 000, 000 for the year.The excess borrowed funds were invested in short-term securities, from which Rong realized investment income of $330, 000.What amount should Rong report as capitalized interest at December 31, 2010?

A) $ 0
B) $ 270, 000
C) $ 510, 000
D) $1, 260, 000

Question

Hnuna Hualngo · Accepted Answer

Final Answer : B, Explanation :  Rong should capitalize the lesser of actual interest or avoidable interest. Avoidable interest is the amount of interest costs that could have been avoided if the funds had not been borrowed. In this case, avoidable interest is $3,000,000 x 9% = $270,000. The actual interest paid in 2010 is $2,000,000 x 9% = $180,000. Therefore, Rong should capitalize $180,000 as interest cost for the year. The investment income earned on the excess borrowed funds is irrelevant in calculating capitalized interest.

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