Capitalised interest on a development loan: tracking it against the forecast

A $2.4 million build, drawn in six equal claims at 9% a year and repaid when the last sale settles three months after completion, capitalises $119,718 of interest if every claim is paid on the 1st of the month. Paid on the 15th, it capitalises $111,084. Paid on the 28th, $103,067.

A feasibility using the common rule of thumb, that half the loan is outstanding on average, allowed $108,000 in all three cases. The rule of thumb cannot see when money goes out or how long it stays out, and those two things decide the figure. That is why capitalised interest has to be tracked month by month.

Why capitalised interest drifts from the forecast

Three differences separate the feasibility from the loan statement. None of them is a mistake in the lender's calculation.

1. Interest on interest. Interest is added to the balance, usually monthly, and next month's interest is charged on the larger balance. An average balance multiplied by a rate leaves that out.
2. When the money goes out. A contract that draws heavily early, or claims paid early in each month, keeps more of the loan outstanding for longer.
3. The months after completion. The balance is at its peak and still growing until settlements repay it.

Set up the tracking sheet

Use one row per month, with columns that match the lender's statement, so the two can be compared line by line:

• opening balance
• each draw, with the date it was paid
• interest charged, exactly as the statement shows it
• fees added to the loan
• closing balance
• forecast closing balance, from the feasibility
• the difference between the last two

Read the difference column every month. A difference that grows each month is a trend, and it will not correct itself before practical completion.

The example, month by month

The same $2.4 million at 9% a year, starting in January. Interest is charged daily on the balance and added to the loan on the 1st of each month, and $400,000 is drawn on the 1st of each of the first six months:

• Month 1: $400,000 drawn, $3,057.53 interest, balance $403,057.53
• Month 2: $400,000 drawn, $5,544.40 interest, balance $808,601.93
• Month 3: $400,000 drawn, $9,238.35 interest, balance $1,217,840.29
• Month 4: $400,000 drawn, $11,967.59 interest, balance $1,629,807.87
• Month 5: $400,000 drawn, $15,515.52 interest, balance $2,045,323.39
• Month 6: $400,000 drawn, $18,088.69 interest, balance $2,463,412.08
• Month 7: nothing drawn, $18,829.92 interest, balance $2,482,242.00
• Month 8: nothing drawn, $18,973.85 interest, balance $2,501,215.85
• Month 9: nothing drawn, $18,502.14 interest, balance $2,519,717.99

Month 2 is February, which is why its interest looks low. From month 7 nothing is drawn, yet each month still adds more than $18,000, charged on a balance that now includes its own interest. The three months after completion cost $56,306, close to the $63,412 of the whole six month build.

Where the numbers drift

Each case below uses the same loan, rate and daily calculation, with claims paid on the 1st and three months of settlements, unless it says otherwise.

A front loaded contract

Draw the same $2.4 million as $800,000, $800,000, $400,000, $200,000, $100,000 and $100,000. Total interest rises from $119,718 to $142,152, with nothing else changed.

A build that runs two months over

Spread the draws across eight months at $300,000 each. Total interest reaches $138,937.

Sales that settle late

Keep the six month build and let settlements take five months instead of three. Total interest reaches $157,760, more than either of the cases above, because every extra month is charged on the peak balance.

Contingency paying the interest

When interest runs over, covering it from contingency is the easy fix. The project then has one buffer where the feasibility assumed two, and the next cost overrun has nothing behind it.

When the difference keeps growing

Re-forecast the remaining months from the actual balance and the dates claims are really being paid, not the original draw schedule. Compare that total with what is left in the facility's interest allowance.

If it will run short, talk to the lender while the allowance still has money in it. A variation requested early is a conversation about the project. The same request after a drawdown has been refused is a conversation about whether the project can finish.