Question

1. On January 1, 2020 we a sign lease agreement. It calls for annual rental payments of $1,137 at the beginning of each year of the 3-year lease beginning on 1/1/20. The equipment has an economic useful life of 7 years; a fair value of $7,000; a book value of $5,000. The lessor expects a residual value of $4,500 at the end of the lease term. We have an incremental borrowing rate of 8%. There is no bargain purchase option. Ownership of the lease does not transfer at the end of the lease term. This is an operating lease.

Required: Prepare the amortization table and the journal entries for this lease.

Answer 1

1) AMORTIZATION TABLE FOR OPERATING LEASE

FAIR VALUE OF EQUIPMENT =    7000

LESS:- PRESENT VALUE OF RESIDUAL VALUE = 2623.5

(4500*0.583)

AMOUNT TO BE RECOVERED BY LESSOR THROUGH LEASE PAYMENT= 4376.5

THREE BEGINNING OF YEAR LEASE PAYMENT TO EARN 8% INTEREST =1700

(4376/2.575 PV)

DATE	CASH (A)	INTEREST(B)		AMORTISATION (A-B)	LIABILITY BALANCE
2020 JAN 1					4376
JAN1	1700	350 (4376*8%)		1350	3026
2021 JAN1	1700	242 (3026*8%)		850	1457
2022	1700	116		1457	0

JOURNAL ENTRIES FOR OPERATING LEASE

DATE	PARTICULARS	L.F	DEBIT	CREDIT
2020 JAN 1	LEASE EXPENSE A/C    DR    TO CASH(1700 - 350)    TO LEASE LIABILITY A/C (BEING LEASE EXPENSE PAID)		1700	1350 350
2021 JAN1	LEASE LIABILITY A/C    DR    TO CASH    TO INTEREST EXPENSE A/C (BEING INTEREST EXPENSE)		1700	850 242
2022	LEASE LIABILITY A/C DR TO CASH A/C    TO INTEREST EXPENSE A/C (BEING INTEREST EXPENSE PAID)		1700	1457 116