You’ve worked out a line of credit arrangement that allows you to borrow up to $
ID: 2795650 • Letter: Y
Question
You’ve worked out a line of credit arrangement that allows you to borrow up to $40 million at any time. The interest rate is .615 percent per month. In addition, 5 percent of the amount that you borrow must be deposited in a noninterest-bearing account. Assume that your bank uses compound interest on its line-of-credit loans.
What is the effective annual interest rate on this lending arrangement?
You’ve worked out a line of credit arrangement that allows you to borrow up to $40 million at any time. The interest rate is .615 percent per month. In addition, 5 percent of the amount that you borrow must be deposited in a noninterest-bearing account. Assume that your bank uses compound interest on its line-of-credit loans.
Explanation / Answer
Interest for a Month = 40,000,000 * 0.615%
Interest for a Month = 246,000
Amount for Use = 40,000,000 * (1 - 5%)
Amount for Use = 38,000,000
Interest rate Monthly = 246,000/ 38,000,000
Interest rate Monthly = 0.6473684%
Effectiva Rate = (1 + 0.6473684%)12 - 1
Effective Rate = 8.05%
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