Federated Fabrications leased a tooling machine on January 1, 2018, for a three-

Question

Federated Fabrications leased a tooling machine on January 1, 2018, for a three-year period ending December 31, 2020. The lease agreement specified annual payments of $31,000 beginning with the first payment at the beginning of the lease, and each December 31 through 2019. The company had the option to purchase the machine on December 30, 2020, for $40,000 when its fair value was expected to be $55,000 a sufficient difference that exercise seems reasonably certain. The machine's estimated useful life was six years with no salvage value. Federated was aware that the lessor’s implicit rate of return was 11%. (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.)

Required:
1. Calculate the amount Federated should record as a right-of-use asset and lease liability for this finance lease.
2. Prepare an amortization schedule that describes the pattern of interest expense for Federated over the lease term.
3. Prepare the appropriate entries for Federated from the beginning of the lease through the end of the lease term.

Explanation / Answer

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1. Right of Use of asset and Lease Liability Year PV at 11% Payment Present Value 0 1 31000                 31,000 1 0.900900901 31000                 27,928 2 0.811622433 31000                 25,160 3 0.731191381 40000                 29,248 Present Value of Lease             1,13,336 Right of Use of asset and Lease Liability $ 113336 2. Amortization Schedule Payment Interest Lease Balance 0 113336 0 31000 31000 82336 1 31000 9057 21943 60393 2 31000 6643 24357 36036 3 40000 3964 36036 0 3. Journal Entries Date Account Debit Credit January 1 2018 Lease Equipment 113336 Lease Liability 113336 January 1 2018 Lease Liability 31000 Cash 31000 December 31 2018 Depreciation Expense (113336/6) 18889 Accumulated Depreciation 18889 December 31 2018 Interest Expense 9057 Lease Liability 21943 Cash 31000 December 31 2019 Depreciation Expense (113336/6) 18889 Accumulated Depreciation 18889 December 31 2019 Interest Expense 6643 Lease Liability 24357 Cash 31000 December 31 2020 Depreciation Expense (113336/6) 18889 Accumulated Depreciation 18889 December 31 2020 Interest Expense 3964 Lease Liability 36036 Cash 40000

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