Enter the weighted-average accumulated expenditures covered by specific borrowing, the interest rate on the specific borrowing, the weighted-average accumulated expenditures in excess of the specific borrowing, and the weighted-average interest rate on other debt to determine the construction-period (avoidable) interest that may be capitalized for a qualifying asset.
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Capitalized Interest Formula
The following formula is used to calculate capitalized interest (avoidable interest) for a qualifying asset during the period.
CI = WAAE * IRB + WAAEe * WAIR
- Where CI is the capitalized (avoidable) interest for the period ($)
- WAAE is the weighted-average accumulated expenditures covered by specific borrowing ($)
- IRB is the interest rate on the specific borrowing (as a decimal, or % ÷ 100)
- WAAEe is the weighted-average accumulated expenditures in excess of the specific borrowing ($)
- WAIR is the weighted-average interest rate on other debt (as a decimal, or % ÷ 100)
Capitalized Interest Definition
What is capitalized interest? Capitalized interest is interest cost that is added to the cost of a qualifying asset (for example, a building under construction) during the period the asset is being prepared for its intended use or sale, rather than being recognized as interest expense in the period. In some lending contexts, “capitalized interest” can also refer to unpaid interest being added to a loan balance, but the formula and calculator on this page are for qualifying-asset (construction-period) capitalization.
Example
How to calculate capitalized interest?
- First, determine the weighted-average accumulated expenditures covered by specific borrowing.
For this example, this is $20,000.00.
- Next, determine the interest rate of the specific borrowing.
For this problem, the specific borrowing interest rate is 5%.
- Next, determine the weighted-average accumulated expenditures in excess of the specific borrowing.
In this case, the excess expenditures are $10,000.00
- Next, determine the weighted-average interest rate on other debt.
The weighted-average interest rate is 4.5%.
- Finally, calculate the capitalized interest.
Using the formula, the capitalized interest is found to be: 20,000 × 0.05 + 10,000 × 0.045 = $1,450.00.
Frequently Asked Questions
The purpose of calculating capitalized interest (avoidable interest) is to estimate the interest cost that may be added to the cost of a qualifying asset during its construction or production period, instead of being recognized as interest expense for that period. This helps determine the asset’s cost basis for financial reporting.
Interest is typically capitalized during the period when (1) expenditures for a qualifying asset are being made, (2) activities necessary to prepare the asset for its intended use or sale are in progress, and (3) interest cost is being incurred. Capitalization generally stops when the asset is substantially complete and ready for its intended use or sale. The exact rules depend on the applicable accounting standards and the specific situation.
Capitalized interest increases the recorded cost of the qualifying asset (instead of being recorded as current-period interest expense). Over time, that higher asset cost is typically recognized through depreciation or amortization (or through cost of sales, depending on the asset), which affects future periods rather than the current period.
Simple vs. compound interest describes how interest is computed (whether interest is earned/charged only on principal, or also on prior interest). Capitalized interest describes an accounting or loan treatment of interest (for example, adding eligible interest cost to the cost of a qualifying asset, or in some loan agreements adding unpaid interest to principal). They are different concepts.
Tax treatment varies by jurisdiction and facts. In many cases, interest that is capitalized into the basis of an asset is not immediately deductible as interest expense; instead, it may be recovered over time through depreciation/amortization (or through cost of goods sold when the asset is sold). Consult a tax professional for guidance specific to your situation.