Lessee Ltd. took a machine on lease from Lessor Ltd., the fair value being - 7,00,000. The economic life of machine as well as the lease term is 3…
CA Intermediate · Advanced Accounting · MTP · May 2024
Lessee Ltd. took a machine on lease from Lessor Ltd., the fair value being - 7,00,000. The economic life of machine as well as the lease term is 3 years. At the end of each year Lessee Ltd. pays - 3,00,000. The Lessee has guaranteed a residual value of 22,000 on expiry of the lease to the Lessor. However, Lessor Ltd., estimates that the residual value of the machinery will be only - 15,000. The implicit rate of return is 15% p.a. and present value factors at 15% are 0.869, 0.756 and 0.657 at the end of first, second and third years respectively. Calculate the value of machinery to be considered by Lessee Ltd. and the finance charges in each year.
Suggested Answer and Working Notes:
As per AS 19 "Leases", the lessee should recognize the lease as an asset and a liability at the inception of a finance lease. Such recognition should be at an amount equal to the fair value of the leased asset at the inception of lease. However, if the fair value of the leased asset exceeds the present value of minimum lease payment from the standpoint of the lessee, the amount recorded as an asset and liability should be the present value of minimum lease payments from the standpoint of the lessee. Computation of Value of machinery: Present value of minimum lease payment = 6,99,054 (See working note below) Fair value of leased asset = 7,00,000 Therefore, the recognition will be at the lower of the two i.e.6,99,054 Working Note - Present value of minimum lease payments: Annual lease rental × PVIF+ Present value of guaranteed residual value = 3,00,000 × (0.869 + 0.756 + 0.657) +22,000 × 0.657 = 6,84,600 +14,454 = 6,99,054 Computation of finance charges: Year Finance charge Payment Reduction in outstanding liability Outstanding liability 1 st Year beginning -- -- -- 6,99,054 End of 1st year 1,04,858 3,00,000 1,95,142 5,03,912 End of 2nd year 75,587 3,00,000 2,24,413 2,79,499 End of 3rd year 41,925 3,00,000 2,58,075 21,424
Topics: As 28
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