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On January 1, 2020, Zaragoza Towers Corporation signed a 7-year, non-cancelable lease for a machine
On January 1, 2020, Zaragoza Towers Corporation signed a 7-year, non-cancelable lease for a machine. The terms of the lease called for lessee to make annual payments to Zaragoza at the beginning of each year, starting January 1, 2020. The fair value of the machine is €350,000 and the cost is €275,000. The machine has an estimated useful life of 7 years and a €19,000 residual value. Residual value may vary at the end of the lease contract regarding the market conditions. The machine reverts back to Zaragoza at the end of the lease term. Zaragoza wants to earn a 5% rate-of-return from this lease.
Instructions
a. Compute the present value of the lease payments.
b. Prepare the amortization schedule.
c. Prepare all necessary journal entries for Zaragoza for this lease through December 31, 2020
Expert Solution
Answer:
| Fair value of the machine | 350000 |
| Less: PV of residual value(19000/1.05^7) | 13503 |
| PV of amts. To be recovered thro' lease pmts. | 336497 |
| P/A due factor for i=5%, n=7= | 6.07569 |
| so, annuity due pmts.=PV of lease pmts./PAdue fator | |
| 336497/6.07569= | 55384 |
| Lease amortisation schedule | |||||
| Pmt. No. | Annuity | Tow. Int. | Tow. Lease | Lease bal. | |
| 1 | 55384 | 0 | 55384 | 281113 | (336497-55384) |
| 2 | 55384 | 14056 | 41328 | 239785 | |
| 3 | 55384 | 11989 | 43395 | 196390 | |
| 4 | 55384 | 9819 | 45565 | 150825 | |
| 5 | 55384 | 7541 | 47843 | 102983 | |
| 6 | 55384 | 5149 | 50235 | 52748 | |
| 7 | 55384 | 2637 | 52747 | 1 |
| This is classified as a sale-type lease by the lessor(Zaragoza Towers), as two of the five criteria for accounting as capital leases are met , ie |
| the lease term , 7 yrs.is for the full ecnomic life of the asset & |
| PV of amounts to be recovered thro'lease payments, forms a substantial portion of the fair value of the asset, ie. 336497 is. 96.14% of 350000 |
| Collectibility of lease payments is assumed, but |
| residual value is treated as unguaranteed , as the amount mentioned , $19000 is not made certain. |
| so, the journal entries in Lessor's books will be |
| 2020 | |||
| 1-Jan | Lease Receivable | 336497 | |
| Residual asset | 13503 | ||
| Machine | 275000 | ||
| Gain on sale | 75000 | ||
| Cash | 55384 | ||
| Lease Receivable | 55384 | ||
| 31-Dec | Interest receivable | 14056 | |
| Interest Income | 14056 |
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