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Cullumber, Inc. leased equipment from Tower Company under a 4-year lease requiring equal annual payments of...

Cullumber, Inc. leased equipment from Tower Company under a 4-year lease requiring equal annual payments of $354152, with the first payment due at lease inception. The lease does not transfer ownership, nor is there a bargain purchase option. The equipment has a 4 year useful life and no salvage value. Cullumber, Inc.’s incremental borrowing rate is 11% and the rate implicit in the lease (which is known by Cullumber, Inc.) is 9%. Assuming that this lease is properly classified as a capital lease, what is the amount of principal reduction recorded when the second lease payment is made in Year 2?

PV Annuity Due

PV Ordinary Annuity
9%, 4 periods

3.53129

3.23972
11%, 4 periods

3.44371

3.10245
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Answer #1
Answer $273,471
Working
Year Lease Payment Effective Int. Decrease in bal. Outstanding balance
$1,250,613
1 $354,152 $354,152 $896,461
2 $354,152 $80,681 $273,471 $622,990
3 $354,152 $56,069 $298,083 $324,908
4 $354,152 $29,245 $324,907 $0
($354,152 x PVAD of 4, 9%)
($354,152 x 3.53129)
             1,250,613
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