Question

A firm has the line of credit (LOC) with an interest rate of 4.5% and a commitment fee of 0.25% based on the unused portion of the line.    The total funds available on the credit line equal $1,000,000.    The firm expects average daily borrowings of $700,000.

1. Calculate the interest cost
2. Calculate the commitment fee.
3. What’s the effective cost of this LOC?

Answer 1

	Interest Rate = 4.5%
	Commitment fee = 0.25% of unused portion
	Line of Credit = $ 1,000,000
	Average Daily Borrowings = $ 700,000
A	Interest Cost = Average Daily Borrowings * Interest Rate
	Interest Cost = $ 700,000 * 4.5%
	Interest Cost = $ 31,500
B	Commitment Fee = Unused Portion * Commitment Fee
	Commitment Fee = ( $ 1,000,000 - $ 700,000) * 0.25%
	Commitment Fee = $ 300,000 * 0.25%
	Commitment Fee = $ 750
C	Effective Cost of this LOC = Total Cost/Average Daily Borrowings
	Effective Cost of this LOC = ( $ 31,500 + $ 750) / $ 700,000
	Effective Cost of this LOC = 4.61%