Question

Calculate the effective interest cost on a $1,000 line of credit with a 6% stated interest rate and a 8% compensating balance.

____

6.00%

6.25%

6.52%

8.00%

Answer 1

Amount deposited as compensating balance = 1000 * 8% = $ 80

Effective borrowing amount = $ 1000 - $ 80 =$ 920

Interest Expense = $ 1000 * 6% = $ 60

Effective Interest Rate = Interest Expense / Effective borrowing amount

                                    = 60 / 920 * 100

                                     = 6.52%