Question

P21-2 (L02,4) (Lessee Entries and Balance Sheet Presentation, Finance Lease) On January 1, 2017, Cage Company con- tracts to lease equipment for 5 years, agreeing to make a payment of $120,987 at the beginning of each year, starting January 1, 2017. The leased equipment is to be capitalized at $550,000. The asset is to be amortized on a double-declining-balance basis, and the obligation is to be reduced on an effective-interest basis. Cage's incremental borrowing rate is 6%, and the implicit rate in the lease is 5%, which is known by Cage Title to the equipment transfers to Cage at the end of the lease. The asset has an estimated useful life of 5 years and no residual value. Instructions (a) Explain the probable relationship of the $550,000 amount to the lease arrangement.

Answer 1

The Leased Equipment is to be capitalized at $550,000

This means there is a right to use the Asset and it will be capitalized in the books of Cage Company for $ 550,000

The entry will be on January 1st, 2017

Right of Use Asset Dr $550,000

To Lease Liability Cr $550,000

(Being the asset taken on lease recorded)

Depreciation at 40% on DDB basis also will be computed on above value of $ 550,000

Lease Amortisation Table Year Balance beginning of the year Lease payments Interest Expense @ 5% Closing balance At end of the year $429,013 $329,477 $224,963 $115,225 2017* 2018 2019 2020 $550,000 $429,013 $329,477 $224,963 $115,225 Reduction of Interest from Lease payment $120,987 $99,536 $104,513 $109,739 $115,225 $120,987 $120,987 $120,987 $120,987 $120,987 $21,451 $16,474 $11,248 $5,761 2021 *No Interest since lease payment is due beginning of the year