Avocet Co funds its construction projects from general borrowings, which were unchanged throughout the year: a $4,000,000 loan at 6% and a $6,000,000 loan at 9%. During the year it spent $3,000,000 on a qualifying asset on 1 January and a further $2,000,000 on 1 July. Construction continued all year. What borrowing cost should be capitalised?

Correct answer: C) $312,000

Explanation

Capitalisation rate = weighted average cost of general borrowings = ($4,000,000 x 6% + $6,000,000 x 9%) / $10,000,000 = $780,000 / $10,000,000 = 7.8%. Capitalised = $3,000,000 x 7.8% + $2,000,000 x 7.8% x 6/12 = $234,000 + $78,000 = $312,000. Using the simple average of 7.5%, or ignoring when the second payment was made, gives the wrong answer.