Loans on which the interest is paid in advance are

29. Loans on which the interest is paid in advance are often called
(a) premium loans.
(b) reduced-principle loans.
(c) called loans.
(d) discount loans.
Answer: D
Level of Difficulty: 1
Learning Goal: 3
Topic: Discount Loans
30. The prime rate of interest fluctuates with
Level of Difficulty: 2
Learning Goal: 3
Topic: Prime Interest Rate
31. A _________ is an agreement between a commercial bank and a business that states the maximum
amount of unsecured short-term borrowing the bank will make available to the firm over a given
period of time, provided sufficient funds are available.
Level of Difficulty: 2
Learning Goal: 3
Topic: Lines of Credit
32. Seasonal build-ups of inventory and receivables are generally financed with
Level of Difficulty: 2
Learning Goal: 3
Topic: Short-term Loans

Chapter 14 Current Liabilities Management 149
33. The effective interest rate is
(a) higher on a loan if interest is paid at maturity.
(b) lower if the loan is a discount loan.
(c) higher if the loan is a discount loan.
(d) not affected by whether the loan is a discount loan or a loan with interest paid at maturity.
Answer: C
Level of Difficulty: 3
Learning Goal: 3
Topic: Effective Interest Rate
34. A bank lends a firm $1,000,000 for one year at 12 percent on a discounted basis and requires
compensating balances of 10 percent of the face value of the loan. The effective annual interest rate
associated with this loan is
Level of Difficulty: 3
Learning Goal: 3
Topic: Effective Interest Rate (Equation 15.4)
35. _________ effectively raises the interest cost to the borrower on a line of credit.
Level of Difficulty: 3
Learning Goal: 3
Topic: Compensating Balances
36. A bank lends a firm $500,000 for one year at 8 percent and requires compensating balances of
10 percent of the face value of the loan. The effective annual interest rate associated with this loan is
Level of Difficulty: 3
Learning Goal: 3
Topic: Compensating Balances and Effective Interest Rates (Equation 15.3)

150 Gitman • Principles of Finance, Brief Fourth Edition