Question

On 1 July 2017, Webster Motors Ltd acquired equipment under a four-year finance lease agreement. The present value of the lease payments is $431,213. It has an estimated useful life of five years and an estimated residual value of $31,213. The implicit rate of interest on the lease was 8% per annum. The lease involved five payments, an initial payment of $100,000 and four annual payments on 30 June each year of $100,000.

Webster Motors Ltd will retain the equipment at the end of the lease.

Required:

1. You are the accountant at Webster Motors Ltd and one of the major shareholders has asked you to clarify the reasons for the way the lease is reported in the Financial Statements. Write a brief comment for the shareholder explaining the treatment of the lease, including the effect of the lease on any related items in the income statement and balance sheet of Webster Motors Ltd.
2. Complete a lease schedule for the four years up to and including 30 June 2021.
3. Record the necessary general journal entries relating to the lease in the year ending 30 June 2019. Narrations are not required.
4. Prepare the Income Statement for the year ended 30 June 2019.
5. Prepare the Balance Sheet extract as at 30 June 2019.

Answer 1

a.)	The lease will be treated as as Capital Lease because the Webster motors ltd (lessee ) will retain the equipment at the end of the lease. The lease liability & right of use assets will be recorded with $ 431,213. Interest expense will be booked on income statement every year as per schedule below in point b.
b.)	Lease Schedule
	Date	Lease Payment $	Interest Expense @8%	Reduction in lease laibility	Lease liability $
	01-07-2017				431,213
	01-07-2017	100,000	-	100,000	331,213
	30-06-2018	100,000	26,497	73,503	257,710
	30-06-2019	100,000	20,617	79,383	178,327
	30-06-2020	100,000	14,266	85,734	92,593
	30-06-2021	100,000	7,407	92,593	0
	Total	500,000	68,787	4,31,213
c.)	Date	Account Titles	Debit $	Credit $
	30-06-2019	Lease Liability	79,383
		Interest Expense	20,617
		Cash		100,000
	30-06-2019	Amortization Expense	107,803
		Right of use assets		107,803
		(431,213 / 4 )
d.)	Income Statement-30 June 2019
		Amount in $
	Interest Expense	20,617
	Amortization Expense	107,803
e.)	Balance Sheet- 30 June 2019
		Amount in $
	Assets
	Right of use assets	215,607
	(431,213 - 107,803 - 107,803 )
	Liabilities
	Lease Liability	178,327