Question

On January 1, 2018, Morris Production leased a machine from Werner Leasing under a finance lease. Lease payments are made annually. Title does not transfer to the lessee and there is no purchase option or guarantee of a residual value by Morris. Portions of the Werner Leasing's lease amortization schedule appear below: Jan. 1 Payments Effective Interest Decrease Outstanding in Balance Balance 374,596 2018 40,000 40,000 334,596 2018 40,000 33,460 6,540 328,056 2019 40,000 32,806 7,194 320,861 2020 40,000 32,086 7,914 312,947 2021 40,000 31,295 8,705 304,242 2022 40,000 30,424 9,576 294,666 2023 40,000 29,467 10,533 284,133 – –– – – – –– – – – –– – – 2035 40,000 9,948 30,052 69,422 2036 40,000 6,942 33,058 36,364 2037 40,000 3,636 36,364 0 Required: 1. What is Morris's lease liability at the beginning of the lease (after the first payment)? 2. What amount would Majestic record as a right-of-use asset? 3. What is the lease term in years? 4. What is the effective annual interest rate? 5. What is the total amount of lease payments? 6. What is the total effective interest expense recorded over the term of the lease?

Answer 1

1. What is Morris's lease liability at the beginning of the lease (after the first payment)?
Lease liability at the beginning of the lease (after the first payment ) = Initial balance - First Payment
Lease liability at the beginning of the lease (after the first payment ) = 374,596 - 40,000	$ 3,34,596.00
2. What amount would Majestic record as a right-of-use asset?
Leased Assets = initial lease balance =	$ 3,74,596.00
3. What is the lease term in years?
Lease term in years	20	years
4. What is the effective annual interest rate?
Efective annual interest rate = 33,460/334596	10.00%
5. What is the total amount of lease payments?
Total amount of lease payments = 20 x 40000	$ 8,00,000.00
6. What is the total effective interest expense recorded over the term of the lease?
Total effective interest expense over the term of the lease = 800000-374596	$ 4,25,404.00