Question

On December 31, 2019, Larkspur Corporation signed a 5-year, non-cancelable lease for a machine. The terms of the lease called for Larkspur to make annual payments of $8,560 at the beginning of each year, starting December 31, 2019. The machine has an estimated useful life of 6 years and a $4,800 unguaranteed residual value. The machine reverts back to the lessor at the end of the lease term. Larkspur uses the straight-line method of depreciation for all of its plant assets. Larkspur’s incremental borrowing rate is 3%, and the lessor’s implicit rate is unknown.

A. Compute the present value of the lease payments. (For calculation purposes, use 5 decimal places as displayed in the factor table provided and round final answer to 0 decimal places e.g. 5,275.)

Present value of the lease payments

$ enter the Present value of the lease payments in dollars

B. Prepare all necessary journal entries for Larkspur for this lease through December 31, 2020.

Answer 1

1.)	Present value
	Date	Lease payment $	PV Factor @3%	Present Value in $
	December 31,2019	8,560	1	8,560
	December 31,2020	8,560	0.97087	8,311
	December 31,2021	8,560	0.94260	8,069
	December 31,2022	8,560	0.91514	7,834
	December 31,2023	8,560	0.88849	7,605
	Total	42,800		40,378
	Present value of lease payment is $40,378.
	This is a capital lease to Larkspur since the lease term (5 years) is greater than 75% of the economic life (6 years) of the leased asset. The lease term is 83.33 % (5 /6) of the asset’s economic life.
2.)	Journal Entries-Larkspur
	Date	Particulars	Debit $	Credit $
	December 31,2019	Right of use asset	40,378
		Lease Liability		40,378
	December 31,2019	Lease Liability	8,560
		Cash		8,560
	December 31,2020	Lease Liability	7,605
		Interest Expense	955
		( 40,378 - 8,560 ) x 3%
		Cash		8,560
	December 31,2020	Amotization Expense	8,076
		Right of use asset		8,076
		(40,378 / 5 )