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Thanks for answering the previous question Mike. 🙂 I have another question..
Borrowing costs are to be capitalized based on the effective rate of interest… but also the capitalized interest amount should not exceed the actual interest expense incurred.
Effective rate of interest ( charged to P&L ) on borrowed debt will always be more than the actual interest paid. If i were to capitalize the interest based on Eff rate then wouldnt it be like i am capitalizing more than what i actually incurred?
If the discount rate is way higher than the interest rate (say discount rate is 15% and coupon rate is 6% for every 100, Maybe because one part of my funding (equity or debt ) is more riskier than the other which further results is WACC being higher) then the amount capitalized will be 9 dollars more than actual incurred for every 100 dollar loan borrowed. This wouldn’t give a fair picture would it, because the rates will vary based on borrowings and borrowings vary based on the plan chosen. Comparability loses it picture in these cases.
You state “Borrowing costs are to be capitalized based on the effective rate of interest”
This is not true! Borrowing costs MAY INCLUDE
– interest expense calculated by the effective interest method under IAS 39
– finance charges in respect of finance leases recognised in accordance with IAS 17 Leases, and
– exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costsBut borrowing costs are primarily calculated as (where funds are borrowed specifically) the actual costs incurred less any income earned on the temporary investment of such borrowings
OK?
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