For each of the three independent situations below determine the amount of the a

Question

For each of the three independent situations below determine the amount of the annual lease payments. Each describes a finance lease in which annual lease payments are payable at the beginning of each year. Each lease agreement contains an option that permits the lessee to acquire the leased asset at an option price that is sufficiently lower than the expected fair value that the exercise of the option appears reasonably certain. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Determine the annual lease payments for each situation

Situation 1 2 3 Lease term (years) 5 5 4 Lessor's rate of return 12 % 9 % 7 % Fair value of leased asset $ 66,000 $ 423,000 $ 188,000 Lessor's cost of leased asset $ 53,000 $ 423,000 $ 148,000 Purchase option: Exercise price $ 13,000 $ 53,000 $ 25,000 Exercisable at end of year: 5 5 3 Reasonably certain? yes no yes

Explanation / Answer

Formula: Annual lease payments = Amount to be recovered through periodic lease payments / PV factor of annuity due at given interest rate

Amount to be recovered through periodic lease payments = Fair value of leased asset – Present value of purchase option

Situation 1:

Fair value of leased asset = $66,000
Present value of purchase option = $13,000 x PV factor of a future amount
=> $13,000 x 0.5674 = $7,376.20

Amount to be recovered through periodic lease payments = $66,000 - $7,376.20 = $58,623.80

Annual lease payments = $58,623.80/4.03735 = $14,520.37

Situation 2:

Fair value of leased asset = $423,000
Present value of purchase option = $53,000 x PV factor of a future amount
=> $53,000 x 0.6499 = $34,444.70

Amount to be recovered through periodic lease payments = $423,000 - $34,444.70 = $388,555.30

Annual lease payments = $388,555.30/4.239719877 = $91,646.46

Situation 3:

Fair value of leased asset = $188,000
Present value of purchase option = $25,000 x PV factor of a future amount
=> $25,000 x 0.8163 = $20,407.50

Amount to be recovered through periodic lease payments = $188,000 - $20,407.50 = $167,592.50

Annual lease payments = $167,592.50/2.808018168 = $59,683.55

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