Interest on capital refers to the cost of borrowing funds to finance a business’s operations or investments. It represents the interest charged on loans or other forms of debt that a business has taken on, and it is recorded as an expense in the company’s income statement.
For example, a company borrows ₹ 100,000 from a bank at an annual interest rate of 10%. The company would record the interest expense as follows:
- Interest expense = Principal x Interest rate
- Interest expense = ₹ 100,000 x 10% = ₹ 10,000
This means that the company would record an expense of ₹ 10,000 in the first year as interest on capital, and the same amount for each year until the loan is paid off.
It’s important to note that the interest expense will vary based on the amount borrowed, the interest rate and the repayment schedule of the loan. Additionally, interest expenses can change depending on the type of loan or financing a company is using. As companies grow, they often use multiple forms of financing, such as equity, debt, and leasing, and they have to account for the different expenses and costs associated with each form of financing.
Interest on capital is an important element to take in consideration when assessing a company’s performance and its capacity to generate profits and pay off its debt.
