Question

Manufacturers Southern leased high-tech electronic equipment from International Machines on January 1, 2018. International Machines manufactured the equipment at a cost of $86,000. Manufacturers Southern's fiscal year ends December 31. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Related Information:
Lease term	2 years (8 quarterly periods)
Quarterly rental payments	$15,000 at the beginning of each period
Economic life of asset	2 years
Fair value of asset	$113,973
Implicit interest rate	6%

Required:
1. Show how International Machines determined the $15,000 quarterly lease payments.
2. Prepare appropriate entries for International Machines to record the lease at its beginning, January 1, 2018, and the second lease payment on April 1, 2018.

Answer 1

Solution

International Machines

1. Determination of quarterly lease payments:

Lease term, n = 2 x 4 quarters = 8 periods

Fair value of asset = $113,973

Equipment cost = $86,000

Implicit interest rate, i = 6%, quarterly rate = 6%/4 = 1.5%

Present value of annuity at period start at 1.5%, 8 periods = 7.5982

Hence, quarterly payments is determined as follows,

$113,973/7.5982 = $15,000 per quarter

1. Entries to record lease at the beginning, Jan 1, 2018 and second lease payment, April 1, 2018:

Date	Account Titles and Explanation	Ref	Debit	Credit
1-Jan-18	Lease Receivable		$113,973
	Cost of Goods Sold		$86,000
	Inventory of Equipment			$86,000
	Sales Revenue			$113,973
	Cash		$15,000
	Lease Receivable			$15,000
1-Apr-18	Cash		$15,000
	Lease Revenue			$1,485
	Lease Receivable			$13,515

Calculation of lease revenue as on April 1, 2018 –

Lease revenue =

= (113,973 – 15,000) x 1.5% = $1,485

Lease receivable = 15,000 – 1,485 = $13,515