Question

Each of the three independent situations below describes a finance lease in which annual lease payments are payable at the beginning of each year. The lessee is aware of the lessor’s implicit rate of return. 

 

Required: 

For each situation, determine: a. The amount of the annual lease payments as calculated by the lessor. b. The amount the lessee would record as a right-of-use asset and a lease liability

Answer 1

Lease: Lease is a legal agreement between two parties (lessor and lessee) in which the owner of the asset (lessor) allows another party (lessee) to use the asset in return for making payments.

 

Situation 1:

Requirement (a)

The fair value of the leased asset is $600,000.

Lessor’s rate of return is 11%.

Lease term are 10 years.

 

The annual lease payment is calculated as shown below:

Annual lease payment = fair value of asset/present value of annuity due

                                    = $600,000/6.5370

                                    = $91,785

 

The present value of annuity due for 10 years @ 11% for $1 will be 6.5370.

 

Therefore, the annual lease payment by the lessor is $91,785.

 

Requirement (b)

Calculate the amount of lessee that would be record as a leased asset and lease liability as shown below:

Lease liability = Annual rent payment × Present value of annuity due

                        = $91,785 × 6.5370

                        = $600,000

 

Therefore, the amount of lease liability to be recorded is $600,000.

 

Situation 2:

Requirement (a)

Fair value of the leased asset is $980,000.

Lessor’s rate of return is 9%.

Lease term are 20 years.

 

The annual lease payment will be calculated as under: 

Annual lese payment = Fair value of asset/Present value of annuity due

                                     = $980,000/9.95

                                     = $98,492.46

 

The present value of annuity due for 20 years @ 9% for $1 will be 9.95.

Therefore, the annual lease payment by the lessor is $98,492.46.

 

Requirement (b)

Calculate the amount of lessee that would be record as a leased asset and lease liability as shown below:

Lease liability = Annual rent payment × Present value of annuity due

                        = $98,492.46 × 9.95

                        = $980,000

 

Therefore, the amount of lease liability to be recorded is $980,000.

 

Situation 3:

Requirement (a)

Fair value of the leased asset is $185,000.

Lessor’s rate of return is 12%.

Lease term are 4 years.

 

The annual lease payment will be calculated as under:

Annual lease payment = fair value of asset/present value of annuity due

                                     = $185,000/3.0373

                                     = $60,909

The present value of annuity due for 4 years @ 12% for $1  will be 3.0373.

Therefore, the annual lease payment calculated by the lessor is $60,909.

 

Requirement (b)

The amount the lessee would record as a leased asset and liability is calculated as shown below:

Annual lease payment = annual rent payment × present value of annuity due

                                     = $60,909 × 3.0373

                                     = $185,000

 

Therefore, the amount of lease liability to be recorded is $185,000.

Therefore, the amount of lease liability to be recorded is $185,000.