On December 31, Year One, a company leases equipment for 8 years, its entire lif

Question

On December 31, Year One, a company leases equipment for 8 years, its entire life. Payments are $10,000 per year on December 31 with the first one made immediately. The present value of these payments at the lessee's incremental borrowing rate of 10 percent per year is assumed to be $58,000. On the December 31, Year One balance sheet, what should this lessee report as its current liability for this lease?

a.$0

b.$5,200

c.$6,000

d.$10,000

On January 1, Year One, a company leases equipment for 8 years although the equipment has a life of 10 years. At the end of that time, title to this property will be conveyed to the lessee. Payments are $10,000 per year on January 1 with the first one made immediately. The present value of these payments at the lessee's incremental borrowing rate of 10 percent per year is assumed to be $58,000. What amount of depreciation expense should the lessee recognize for Year One?

a.$0

b.$5,800

c.$6,000

d.$7,250

Explanation / Answer

1. As $10,000 paid immediately , the lease liability is reduced to $48,000. Interest rate is 10%. So for the next installment due of $10,000 , interest will be $48000*10%=$4800 and balance amount $5200 will be current lease liability. So option is b. $5200.

2. As the title of the equipment will certainly pass on to the lessee, the useful life of the asset will be 10 years.

Cost of asset is $58000. So the yearly depreciation for year one will be $58000/10=$5800

So correct ortion is b. $5800

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