Question

On June 30, 2021, Georgia-Atlantic, Inc. leased warehouse equipment from IC Leasing Corporation. The lease agreement calls for Georgia-Atlantic to make semiannual lease payments of $562,907 over a three-year lease term, payable each June 30 and December 31, with the first payment at June 30, 2021. Georgia-Atlantic's incremental borrowing rate is 10%, the same rate IC uses to calculate lease payment amounts. Amortization is recorded on a straight-line basis at the end of each fiscal year. The fair value of the equipment is $3 million. (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.)

Required: 1. Determine the present value of the lease payments at June 30, 2021 that Georgia-Atlantic uses to record the right-of-use asset and lease liability. 2. What pretax amounts related to the lease would Georgia-Atlantic report in its balance sheet at December 31, 2021? 3. What pretax amounts related to the lease would Georgia-Atlantic report in its income statement for the year ended December 31, 2021?

Answer 1

Part 1

Present value

$3000000

Present value of lease payments = $562907 × 5.32948 = $3000000 (rounded)

Present value of an annuity due of $1: n = 6, i = 5% is 5.32948

Part 2

	Pre-tax amounts
Liability	$1996041
Asset	$2500000

Liability at December 31, 2021
Initial balance, June 30, 2021	3000000
June 30, 2021 reduction	(562907)
Dec. 31, 2021 reduction (562907-((3000000-562907)*5%))	(441052)
December 31, 2021 net liability	$1996041

Asset at December 31, 2021
Initial balance, June 30, 2021	3000000
Accumulated depreciation at Dec. 31, 2021 (3000000/3*1/2)	(500000)
December 31, 2021	$2500000

Part 3

Pretax amount

$621855

June 30, 2021 interest expense	0
Dec. 31, 2021 interest expense ((3000000-562907)*5%)	121855
Interest expense for 2021	121855
Depreciation expense for 2021	500000
Total expenses	$621855