Question

Each of the independent situations below describes a lease requiring annual lease payments of $10,000. For each situation, determine the appropriate lease classification by the lessee and indicate why.
Lease term = 4
Asset useful life = 6
Asset's FV = $44,000
Bargain Purchase = No
Annual Lease Payment = Begining
Lessor's implicit rate = 5%
Lessee's incremental borrow rate = 5%

Lease term = 4
Asset useful life = 5
Asset's FV = $43,000
Bargain Purchase = Yes
Annual Lease Payment = End
Lessor's implicit rate = 6%
Lessee's incremental borrow rate = 5%

Answer 1

Answer:

Does the agreement specify that ownership of the asset transfers to the lessee? NO

Does the agreement contain a bargain purchase option? NO

Is the lease termequal to75% or more of the expected NOeconomic life of the asset? NO (4 < (.75 X 6))

Is the present value of the minimum lease payments equalto or greater than 90% of the fair value of the asset? NO

10,000 X 3.72325

=  (37233 < (.9 X 44,000))

Annuity  due : n=4, i=5%.

Does the agreement specify that ownership of the asset transfers to the lessee? NO

Does the agreement contain a bargain purchase option? YES  

Is the lease termequal to75% or more of the expected NOeconomic life of the asset? Yes (4 > .75X5)

Is the present value of the minimum lease payments equalto or greater than 90% of the fair value of the asset? NO

35,456 < (.9 X 43,000)

10,000 X 3.54595

Ordinary annuity

n=4, i = 5%.