1) When a company constructs its own plant, it must decide whether the interest cost on...

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Question:

1) " When a company constructs its own plant, it must decide whether the interest cost on funds borrowed to finance construction should be capitalized and then amortized over the life of the asset. According to GAAP, the interest cost should be capitalized because interest capitalization is consistent with the concept that the cost of acquiring an asset includes all costs necessary to make the asset ready for its intended use. When a plant is being constructed there is no revenue that is being generated therefore a company should capitalize on interest cost. When construction is finished, the asset will be classified as ready to be used for its intended purpose and can earn revenue. Therefore to ensure that the costs can be matched to the revenues which the new asset will help generate is the justification for capitalizing such interest. "

You are absolutely correct in that 'According to GAAP, the interest cost should be capitalized because interest capitalization is consistent with the concept that the cost of acquiring an asset includes all costs necessary to make the asset ready for its intended use" To add, companies capitalize the lower of the actual or avoidable interest . QUESTION: What is meant by avoidable interest and how do we calculate it?

2) " If a company constructs its own plant, GAAP requires to only capitalize interest costs incurred during the construction period. Interest capitalization follows the concept that the cost of acquiring an asset includes all costs in making an asset ready to be used. The reason for this approach is that the asset is not generating revenues during the construction of the plant.

Assets that can be capitalized for the company's own use are buildings, plants, and machinery. Also, assets that can be capitalized for sale are boats and real state buildings. All these assets qualify for interest qualification because they require a period of time to get ready for their intended use.

To determine the interest that might be capitalized: Multiply the interest rate by the weighted-average amount of accumulated expenditures for the account for the assets during the period."

You mentioned that "to determine the interest that might be capitalized: Multiply the interest rate by the weighted-average amount of accumulated expenditures for the account for the assets during the period" However the calculation of interest to be capitalized involves a bit more than what you mentioned. You have to calculate the actual interest expense of the company and compare that with the avoidable interest and capitalize the lower of the two.

QUESTION:

How do you determine the amount of interest to be capitalized.