Question

Ron’s Data Corp.? (RDC) entered into a contract that provides RDC with the? right-of-use of a vehicle for one year at which time the asset is returned to the lessor. The fair value of the car is? $40,000. Terms of the contract require RDC to make payments of? $1,000 per month with the first payment due on March? 31, 2018, the commencement date of the lease. RDC knows that the implicit rate in the lease is? 0.5% per month. Assume that RDC elects to expense leases of a? short-term nature. Determine the cost of the? right-of-use asset at the commencement date of the lease

Answer 1

Monthly payment = $1,000

Lease period = 12 months.

Implicit rate of interest = 0.5% per month.

To calculate the cost of lease at the commencement date of the lease i.e 03/31/2018, all we have to do is to calculate the present value (as on 03/31/2018) of monthly lease payment using monthly implicit rate of interest.

Present value (PV) of annuity = P [(1-(1+r)^-n) / r]

Where p = Monthly payments = $1,000

r = Implicit rate of interest = 0.5% per month

n = Number of installments = 11 (in months)

*Note - The reason why we are adding "1^st installment" in the above formula is that PDC is paying the first installment on the day of the commencement of the lease i.e 03/31/2018. We don't have to bring that first installment amount to the present value since that amount itself represents present value.

Therefore pv of annuity = 1000 + 1000[(1-0.67)¹¹) / 0.5]

= $2975

Cost of leased payments as on the day commencement of lease = $2975