FAR 12.03 - LEASE PAYMENT EXAMPLE Flashcards
FAR 12.03 - LEASE PAYMENT EXAMPLE
What are the components of the lease receivable for a lessor involved in a direct-financing lease?
The minimum lease payments plus any executory costs.
The minimum lease payments less residual value.
The minimum lease payments plus residual value.
The minimum lease payments less initial direct costs.
The minimum lease payments plus residual value.
EXPLANATION:
When calculating the lease receivable for a direct-financing lease, the lessor will include the minimum lease payment and the asset’s residual value.
FAR 12.03 - LEASE PAYMENT EXAMPLE
On December 31, 20X4, Red co. leased a machine from Green co. for a seven-year period.
Equal annual payments under the lease are $112,500, including $7,500 annual executory costs, and are due on December 31 of each year.
The first payment was made on December 31, 20X4, and the second payment was made on December 31, 20X5. The seven lease payments are discounted at 9% over the lease term.
The present value of minimum lease payments at the inception of the lease and before the first annual payment was $576,500. The lease is appropriately accounted for as a capital lease by Red Co.
In its December 31, 20X5 balance sheet, Red Co. should report a lease liability of:
$405,325
$408,935
$525,000
$576,500
$408,935
EXPLANATION:
The equal annual payments of $112,500 include executory costs of $7,500 per year, which are recognized as expense in the period incurred, resulting in net lease payments of $105,000 per year ($112,500 – $7,500), which are applied to interest
expense and the lease obligation using the interest method. The initial lease obligation is $576,500.
Since the first payment of $105,000 is made at the inception, before any interest has accrued, it is applied entirely to the obligation, reducing it to $471,500.
The second payment will first be applied to interest with the remainder reducing the obligation. Interest is $471,500 x 9% or $42,435.
The principle reduction is the difference of $62,565 ($105,000 – 42,435), reducing the obligation to $408,935 ($471,500 – 62,565).
