Question

FRM Ltd acquired an item of equipment and enters into a non-cancellable lease agreement with FEN Equipment Ltd on 1 January 2015. The lease consists of the following:

•  Date of inception: 1/1/15

•  Duration of lease: 4 years

•  Life of leased asset: 5 years

•  Lease payments (annual):$550 000 (annual) which includes $80 000 for Maintenance and insurance costs per annum.

•  Guaranteed residual value (Added to final payment): $190 000

•  Interest rate: 7%

Formula for PV of $1 in n periods =1/(1+k)n
Formula for present value of annuity of $1 per period for n periods = where, k is the discount rate expressed in decimal

Required:

a) Determine the present value of minimum lease rental payment.
b) Prepare the journal entries for FRM Ltd (the Lessee) using the Net Method for the following;

1. Transfer of control

2. Payment of annual payments for 2015 and 2016.

Answer 1

		Calculation of Present Value of Minimum Lease Payments	(Amounts in $)
	Year	Lease Payments	Maintenance	Gauranteed Residual Value	Net Lease Payments	Discounting Factor @7%	Present Value
	1	550,000	80,000	-	470,000	0.9346	439,262
	2	550,000	80,000	-	470,000	0.8735	410,545
	3	550,000	80,000	-	470,000	0.8164	383,708
	4	550,000	80,000	190,000	660,000	0.7630	503,580
	Present Value of Minimum Lease Payments	1,737,095
		Amortisation Schedule for Lease Payments			(Amounts in $)
	Year	Gross Lease Payments	Maintenance	Gauranteed Residual Value	Net Lease Payments	Interest	Principal	Balance Outstanding
	0	-	-	-	-	-	-	1,737,095
	1	550,000	80,000	-	470,000	121,597	348,403	1,388,692
	2	550,000	80,000	-	470,000	97,208	372,792	1,015,900
	3	550,000	80,000	-	470,000	71,113	398,887	617,013
	4	550,000	80,000	190,000	660,000	43,191	616,809	204

		Journal Entries in the books of FRN Ltd. for Lease Accounting
	Date	Description	L. F.	Debit ($)	Credit ($)
	01/01/2015	Leased Assets A/c                                           Dr.		1,737,095
		To FEN Equipment Ltd A/c			1,737,095
		(Leased asssets for 4 years)
	01/01/2016	FEN Equipment Ltd A/c                                 Dr.		348,403
		Maintenance Expenses A/c                        Dr.		80,000
		Interest on Lease Payments A/c               Dr.		121,597
		To Bank A/c			550,000
		(First year Lease payment is made)
	01/01/2017	FEN Equipment Ltd A/c                                 Dr.		372,792
		Maintenance Expenses A/c                        Dr.		80,000
		Interest on Lease Payments A/c               Dr.		97,208
		To Bank A/c			550,000
		(Second year Lease payment is made)