Question

At January 1, 2021, Oslo, Inc. leased mining equipment from Stockholm Leasing Inc under a nine-year lease agreement. The lease agreement specifies annual payments of $79,000 beginning January 1, 2021, the beginning of the lease, and at each December 31 thereafter through 2028. The equipment was acquired recently by Stockholm Leasing at a cost of $565,500 (its fair value) and was expected to have a useful life of 12 years with no salvage value at the end of its life. (Because the lease term is only 9 years, the asset does have an expected residual value at the end of the lease term of $34,300.) Stockholm Leasing seeks a 11% return on its lease investments. By this arrangement, the lease is deemed to be a finance lease

1. What will be the effect of the lease on Oslo's earnings for the first year?

2.  What will be the balances in the balance sheet accounts related to the lease at the end of the first year for Oslo

Answer 1

1. Effect of Lease on Oslo's earnings for the first year will be reduced by $ 79000, although tax advantage of lease payment is also recreived, thus earnings will be decreased by net of lease payment in first year.

2. Lease liability at the beginning of the year will be:

Year Lease payment Present value factor of 11% Amount

2021 $ 79000 1 $ 79000

2022 $ 79000 .900 $ 71100

2023 $ 79000 .8116 $ 64118

2024 $ 79000 .731 $ 57749

2025 $ 79000 .658 $ 51982

2026 $ 79000 .593 $ 46847

2027 $ 79000 .534 $ 42186

2028 $ 79000 .481 $ 37800

2029 $ 79000 .390 $ 30883

Total $ 71100    $ 481865

ON 1ST Jan '21

ROU Assest a/c dr. $ 481865

To lease liability a/c cr. $ 481865

At the end of 1st year Balances in Balance sheet would be

Lease liabilty would be: $ 481865- $ 79000 = $ 402865

+ interest liability 11% of $ 402865 = 44315

Total lease liability at end of year = $ 447180

ROU Assest :( $ 481865 - $ 34300)/9*8 $ 397835