A firm has a $200,000 line of credit with a 5% compensating balance requirement.

Question

A firm has a $200,000 line of credit with a 5% compensating balance requirement. The quoted rate on the line is prime +5%, and the prime rate is currently 3.5%.

What is the effective annual rate (EAR)?

Note: You don't need to know how much the firm borrows, the EAR will be the same for all borrowings $200,000 or less. However for convenience in calculations, you may assume that the firm borrows $100,000.

Express your answer as a percentage, for example 3.18% should be entered as 3.18 without the percentage sign.

Explanation / Answer

Total amount borrowed = 100000/95% = $   1,05,263 Interest for the year = 105263*(5%+3.5%) = $         8,947 EAR = 8947/100000 = 8.95%

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