Question

On June 30, 2018, Georgia-Atlantic, Inc., leased warehouse equipment from IC Leasing Corporation. The lease agreement calls for Georgia-Atlantic to make semiannual lease payments of $736,771 over a four-year lease term, payable each June 30 and December 31, with the first payment at June 30, 2018. Georgia-Atlantic’s incremental borrowing rate is 10%, the same rate IC used to calculate lease payment amounts. IC purchased the warehouse from Builders, Inc.. at a cost of $5.0 million.

Required:
1. What pretax amounts related to the lease would IC report in its balance sheet at December 31, 2018?
2. What pretax amounts related to the lease would IC report in its income statement for the year ended December 31, 2018?

Answer 1

Solution 1:

Semiannual lease payment = $736,771

Total semiannual payments = 4*2 = 8

Incremental borrowing rate = 10%, 5% semiannual

Present value of minimum lease payments = Semi Annual lease payments * Cumulative PV Factor of annuity due for 8 periods at 5%

= $736,771 * 6.786373 = $5,000,003

Semiannual payment on 30.06.2018 = $736,771

Amount receivable on 30.06.2018 = ($5,000,003 - $736,771) = $4,263,232

Interest revenue for 31.12.2018 = $4,263,232 * 5% = $213,162

Semiannual lease payment on 31.12.2018 = $736,771

Pre tax amount of net receivables IC report in its balance sheet at December 31, 2018 = $4,263,232 + $213,162 - $736,771 = $3,739,623

Solution 2:

Pre tax amount of interest revenue IC report in its income statement for year ended Dec 31, 2018 = $4,263,232 * 5% = $213,162