Question

Assume that on December 31, 2018, SYT signs a 10-year, non-cancelable lease agreement to lease a storage building from a Lessor. The following information pertains to this lease agreement.

1. The agreement requires equal rental payments of €71,830 beginning on December 31, 2018.

2. The fair value of the building on December 31, 2018, is €525,176.

3. The building has an estimated economic life of 12 years, a guaranteed residual value of €10,000, and an expected residual value of €7,000. SYT depreciates similar buildings using the straight-line method.

4. The lease is non-renewable. At the termination of the lease, the building reverts to the lessor.

5. SYT's incremental borrowing rate is 8% per year. The lessor's implicit rate is not known by SYT.

Required:

a. What is the present value of the lease payments to determine the lease liability?

b. Prepare the lease amortization schedule for the first three years.

c. Prepare the journal entries on the lessee's books to reflect the signing of the lease agreement and to record the payments and expenses related to this lease for the years 2018, 2019, and 2020. SYT's fiscal year-end is December 31.

d. Return to the original facts in the problem. Now suppose that, at the end of the lease term, SYT took good care of the asset and lessor agrees that the fair value of the asset is actually €10,000. Record the entry for SYT at the end of the lease to return control of the storage building to lessor (assuming the accrual of interest on the lease liability has already been made).

e. From the lessor point of view; what is the type of lease contract? And why?

Answer 1

LEASE DATE	31-12-2018
ANNUAL RENTAL PAYMENTS	$                     71,830.00	BEGININIG PERIOD
FAIR VALUE OF BUILDING	$                 5,25,176.00
GUARENTEED RESIDUAL VALUE	$                     10,000.00
EXPECTED RESIDUAL VALUE	$                       7,000.00
IMPLICITEE RATE	8%
LEASE TERM	10
ESTIMATED LIFE OF ASSET	12
DEPRECIATION	51193.35	(521933.54-10000)/10
PV OF LEASE PAYMENT	$                 5,21,933.54	PV(0.08,10,71830,,1)+PV(0.08,10,,(10000-7000))
YEAR	DATE	ANNUAL PAYMENT	INTEREST @ 8%	REDUCTION IN LEASE LIABILITY	LEASE LIABILITY
0	31.12.2018	$                                -	$                        -	$                                  -	$     5,21,933.54
1	31.12.2018	$                71,830.00	$                        -	$                   71,830.00	$     4,50,103.54
2	31.12.2019	$                71,830.00	$         36,008.28	$                   35,821.72	$     4,14,281.82
3	31.12.2020	$                71,830.00	$         33,142.55	$                   38,687.45	$     3,75,594.37
4	31.12.2021	$                71,830.00	$         30,047.55	$                   41,782.45	$     3,33,811.92
5	31.12.2022	$                71,830.00	$         26,704.95	$                   45,125.05	$     2,88,686.87
6	31.12.2023	$                71,830.00	$         23,094.95	$                   48,735.05	$     2,39,951.82
7	31.12.2024	$                71,830.00	$         19,196.15	$                   52,633.85	$     1,87,317.97
8	31.12.2025	$                71,830.00	$         14,985.44	$                   56,844.56	$     1,30,473.40
9	31.12.2026	$                71,830.00	$         10,437.87	$                   61,392.13	$         69,081.28
10	31.12.2027	$                71,830.00	$           9,259.47	$                   66,303.50	$           2,777.78
END OF THE YEAR				$                     2,777.78	$                        -
	TOTALS	$             7,18,300.00	$     2,02,877.21	$               5,21,933.54
JOURNAL ENTRIES IN THE BOOKS OF SYT SIGNS
DATE	ACCOUNTS	DEBIT	CREDIT
31.12.2018	RIGHT TO USE ASSET	$             5,21,933.54
	LEASE LIABILITY		$     5,21,933.54
31.12.2018	LEASE LAIBILITY	$                71,830.00
	CASH		$         71,830.00
31.12.2019	LEASE LIABILITY	$                35,821.72
	INTEREST EXPENSES	$                36,008.28
	CASH		$         71,830.00
31.12.2019	DEPRECIATION	$                51,193.35
	RIGHT TO USE ASSET		$         51,193.54
31.12.2020	LEASE LIABILITY	$                71,830.00
	CASH		$         71,830.00
31.12.2020	LEASE LIABLITY	$                38,687.45
	INTEREST EXPENSES	$                33,142.55
	CASH		$         71,830.00
31.12.2020	DEPRECIATION	$                51,193.35
	RIGHT TO USE ASSET		$         51,193.35