What is Capitalized Interest?
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Capitalized interest is the cost of borrowing to acquire or construct a long-term asset. Unlike an interest expense incurred for any other purpose, capitalized interest is not expensed immediately on the income statement of a company's financial statements. Instead, firms capitalize it, meaning the interest paid increases the cost basis of the related long-term asset on the balance sheet. Capitalized interest shows up in installments on a company's income statement through periodic depreciation expense recorded on the associated long-term asset over its useful life.
Definition
Capitalized interest refers to the cost of borrowing funds to acquire or construct long-term assets. Unlike interest expenses incurred for other purposes, capitalized interest is not immediately expensed on a company's income statement. Instead, it is capitalized, meaning the interest paid increases the cost basis of the related long-term asset. Capitalized interest is reflected on the company's income statement through periodic depreciation expenses, which are recorded based on the expected useful life of the related long-term asset.
Origin
The concept of capitalized interest originated with the development of accounting standards, particularly in the mid-20th century. As companies increased their investments in long-term assets, organizations like the International Accounting Standards Committee (IASC) and the Financial Accounting Standards Board (FASB) began establishing guidelines to more accurately reflect a company's financial position.
Categories and Features
Capitalized interest is primarily applied to self-constructed assets and purchased assets. For self-constructed assets, capitalized interest often involves a longer construction period, potentially leading to a larger amount of capitalized interest. For purchased assets, the capitalized interest is usually less since the asset is put to use immediately after purchase. The main feature of capitalized interest is that it converts interest expenses into asset costs, thereby deferring the recognition of expenses.
Case Studies
Case 1: Apple Inc. utilized capitalized interest during the construction of its new headquarters,
