Question

Brooklyn Inc. offers boat tours down the Hudson River. The company has signed a lease for a tour boat with an expected lifespan of seven years, no estimated salvage value, and a fair market value of $225,000. The terms of the lease are as follows:
·       The lease term begins on January 1, 2018, and runs for 5 years.
·       The lease requires payments of $53,000 at the beginning of each year.
·       The lease payment includes $3,000 for maintenance and insurance costs.
·       At the end of the lease term, Brooklyn will be keep/own the tour boat.
·       The lessor’s implied interest rate is 6%, and Brooklyn uses straight-line depreciation for similar equipment. Brooklyn Inc. follows ASPE. Brooklyn’s year-end is December 31.
REQUIRED:
a.      Perform all three tests to determine the nature of this lease, and indicate whether the lease is to be considered a capital or operating lease.
b.     Prepare a lease amortization schedule. (1 Mark)
c.      Prepare all the journal entries on Brooklyn’s books that relate to the lease for the following dates:
	·       January 1, 2018
	December 31, 2018

Answer 1

	Lessee Accounting:Brooklyn Inc
a	This is a Finance Lease because: 1)The present value of the lease payment is more than the fair value of the asset, 2)Lease term is 5 year which covers major portion of asset life of 7 years. 3)At the end of lease term , Brooklyn will keep the asset.
b	The leasee should use a single accounting model for all type of lease.. Therefore, the leasee shall record the lease liability & right in use asset in the given case.
	The leasee shall record the lease liability right in use asset at the Present value of Lease payment as calculated below.
	Year	Payments (Cash flows)	Present Value Facr @6%p.a.	Discounted Cash flows/ Present value
	1	$                                                    53,000.00	1	$                               53,000
	2	$                                                    53,000.00	0.94340	$                               50,000
	3	$                                                    53,000.00	0.89000	$                               47,170
	4	$                                                    53,000.00	0.83962	$                               44,500
	5	$                                                    53,000.00	0.79209	$                               41,981
	Total	$                                                        265,000		236,651
	Lease Amortisation Schedule:
Year	Opening lease liability	Lease Payments	Interest Expense @ 6% per annum	Closing lease liability
	a	b	c=(a-b)*6%	d=a+c-b
1	$                                236,651	$                                                          53,000	$                     11,019	$                             194,670
2	$                                194,670	$                                                          53,000	$                       8,500	$                             150,170
3	$                                150,170	$                                                          53,000	$                       5,830	$                             103,000
4	$                                103,000	$                                                          53,000	$                       3,000	$                               53,000
5	$                                  53,000	$                                                          53,000	$                             (0)	$                                        (0)
	Note: As the lease payment is To record made at the beginning of the month, interest will be calculated on Opening lease liability less lease payment .
	Right in use asset Schedule: (Amortisation=$236,651/5 year= $47,330)
	Year	Opening	Depreciation	Closing
	1	$                                                        236,651	$                     47,330	$                             189,320
	2	$                                                        189,320	$                     47,330	$                             141,990
	3	$                                                        141,990	$                     47,330	$                               94,660
	4	$                                                          94,660	$                     47,330	$                               47,330
	5	$                                                          47,330	$                     47,330	$                                         -
c		In the books of Leasee
		Journal Entries
	Year	Particulars	Debit	Credit
	01-01-18	Right of Use Asset	$                  236,651
		Lease liabilty		$                             236,651
		(To record initially recognise the lease-related asset and liability .)
	01-01-18	Lease liabilty	$                     53,000
		Cash		$                               53,000
		(To record lease payment)
	31-12-18	Interest expense	$                     11,019
		Lease liabilty		$                               11,019
		(To record interest expense)
		($236,651-$53,000)*6%
	31-12-18	Depreciation	$                     47,330
		Right of Use Asset		$                               47,330
		( To record depreciation expense on the ROU asset)
		($236,651/5 year)
Note	Maintenance & Insurance cost do not involve the transfer of goods or servioces, if these are fixed in the contract, they should be included in the overall contract consideration and to be allocated as lease & non-lease component. Accordinlgy, In the given case lease payment includes maintenance, insurance & taxes and therefore these are not be excluded .