Question

On January 1, 2021, Cafe Med leased restaurant equipment from Crescent corporation under a nine-year lease agreement. the lease agreement specifies annual payments of $25,000 beginning January 1, 2021. the beginning of the lease, and at each December 31 the after through 2028. the equipment was acquired recently by Crescent at a cost $ 171,000 ( its fair value) and was expected to have a useful life of 13 years with no salvage value at the end of its life. ( Because the lease is only 9 years, the asset does have an expected residual value at the end of the lease term of $ 4,666). Crescent seeks an 8% return on its lease investments. By this arrangement. the lease is deemed to be an operating lease.

What is the

Effect on earnings

Lease payable balance (end of year)

Right-of-use asset balance (end of year)

Answer 1

Solution 1:

Right to use assets = Present value of lease payments

= $25,000 * cumulative PV factor for annuity due at 8% for 9 periods

= $25,000 * 6.74664= $168,666

Interest expense for first year = ($168,666 - $25,000) * 9% = $11,493

Amortization for the year = $25,000 - $11493= $13,507

Effect on earnings for first year = Interest expense + Amortization expense = -$11,493- $13,507= ($25,000)

Solution 2:

Lease payable balance (End of year) = beginning balance + Interest expense - Payments

= $168,666 + $11,493- $25,000 - $25,000 = $130,159

Right of use asset balance (end of year) = Begininnig balance - Amortization

= $168,666 - $13,507= $155,159