Affordable Leasing Company leases a machine for its own use for four years with annual coupon payments of $10,000. At the end of the lease, the lessor regains possession of the asset, which will be sold for scrap value. The lessor’s implicit rate on the lease is 7%, and Affordable Leasing’s incremental borrowing rate is 6%. Assume the lease payments are made at the end of the year. Affordable Leasing depreciates all assets on a straight-line (SL) basis. Question 1 This lease should be classified as: A) An Operating Lease B) A Capital Lease C) Can either be classified as an Operating or Financing Lease Question 2 What is the Present Value of the minimum lease payments? A) $33,872.11 B) $34,651.00 C) $34,257.99 Question 3 Annual Depreciation amount is: A) $8,663 B) $8,468 C) $8,565 Question 4 What’s the book value of this machine in the 2nd year? A) $16,936 B) $17,326 C) $17,128 Question 5 Principal Payment in the 1st year is: A) $7,629 B) $7,574 C) $7,602
- B 2) B 3) A 4) B , this q must have worded like" book value at the end of 2 nd year" , rather than book value of this machine in the 2nd year) 5) None of the above (10000 - 2079= 7921). This one iam pretty sure on my calculation. pl. post what theanswer is and how it has been arrived. thx
B B A B B (if we use 7%; however, we should use 6% i think)…
B B A B B I think we should use the 7% it is the rate applied by the lessor ,for the PV we used 6% as it is required by the US-GAAP to use the minimum of the two reach as a conservative means of computing the present value of the payements
Well i started to doupt …i think we should use 6%
B B A C None =7,921
B A B A A
Correct Answers: B B A B B
Damn, Q2-5 are linked so one wring means all wrong. At least I got the pattern right.
^ Yeah, they are linked! We miss one, you miss it all! lol!
Can some body please explain, how to solve the Q5. thanks
Explanation for Q5. PV of future lease payments (using 6% to Discount) = $34,651.00 Lease Payments = $10,000 First Year Interest Payment @ implicit rate on the lease of 7% of PV = $2,425.57 Principal Payment = $7,574.43 Correct Answer - B
Damil i was convinced with this explanation till i found a question in the passmaster in which they used the lower of the two rates to calc both the PV of the Future payments as well as the interest expense … i think we need to confirm this point …
To calculate the PV of future lease payments, you use the lower of the lessor’s implicit rate and the lessee’s incremental borrowing rate. This gets you the most conservative figure. The interest revenue equals the implicit interest rate times the net lease receivable at the beginning of the period. This gets you your actual interest payments. Please show an example where the lessee made interest payments based on their own incremental borrowing rate (however low or high it is) when the agreement it had with the lessor required a higher interest payment.
Choice “c” is correct. The capital lease’s depreciation expense is calculated over five years on a straight-line basis and appears pre-EBIT. The capital lease’s interest expense is calculated on the initial year’s opening lease liability of $820,000 using the lowest financing rate available (7.0%). New Lease Co. Income Statement Fiscal 20X2 Sales Revenue $980,000 Cost of Goods Sold 350,000 Sales & General 170,000 Depreciation Expense* 164,000 EBIT (Operating Income) 296,000 Interest** 57,400 Pretax Income 238,600 Tax @ 30% 71,580 Net Income 167,020 *Depreciation Expense = $820,000 / 5 Years = $164,000 **Year 1 Interest Expense = $820,000 x 7.0% = $57,400
Sorry i wasnt able to provide the question ,any way it is no 90 in the passmaster under SS 09 . Stalla through the whole set of question stress that we use the lowest of the two rates to calculate the IE and the initial balance
B B A B B