The Rugged Corporation has just signed a 240-month lease on an asset with a 25-y

Question

The Rugged Corporation has just signed a 240-month lease on an asset with a 25-year life. The minimum lease payments are $1,900 per month ($22,800 per year) and are to be discounted back to the present at a 12 percent annual discount rate. The estimated fair value of the property is $195,000. Use Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. Assume the lease is set up as an annual lease.

Calculate the lease period as a percentage to the estimated life of the leased property. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Calculate the present value of lease payments as a percentage to the fair value of the property. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Calculate the lease period as a percentage to the estimated life of the leased property. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Explanation / Answer

a. Lease Period = 240 months i.e. 20 years

Life of asset = 25 years

% of lease life = Lease period/full life of asset * 100

= 20/25*100

= 80%

b. P.V of lease payments = Lease payment per year * Annual discounting factor of 12% for 20 years

= 22800 * 1/(1.12)20

= 22800*7.47

= $170316

p.v o lease % = p.v. of lease payments/fair value of assets*100

=170316/195000*100

= 87.34%

C. As the lease peroid covers the 80% of the life of asset and lease payments covers 87% of the value of asset. So the lease will be treated as capital lease

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