Reference no: EM131209931

On 30 June 2006, Salohcin Ltd entered into a non­ cancellable lease with Ffoeg Ltd, for a period of 4 years. The lessor is a Manufacturer/Dealer of the leased equipment.

The leased asset is a specific item of industrial machinery (Portable Enamel Drying Room) with a fair value of $349,160. The equipment has a carrying value on the books of the lessor of $280,000. The equipment is expected to have an economic life of 5 years with an expected salvage value at the end of Year 5 of $50,000.

The estimated residual value at the end of the lease term is $80,000 and the terms of the lease require that the lessee guarantees $60,000 of the residual value. The lessee is required to make 4 annual payments of $120,000, due on 30 June, each year. Included in the annual lease payments is $20,000 representing payment to the lessor for expected executory costs relating to insurance and maintenance of the equipment. At the end of the lease term the asset reverts to the lessor. The lessor incurs $15,000 in initial direct costs.

The implicit interest rate in the lease is 20%. The present value of an annuity due for 4 periods at 20% is 3.106.The present value of an amount for 4 periods at 20% is .482.

REQUIRED:

a) Explain why the lease agreement in this case would be treated as a finance lease from the perspective of the lessee; Your answer should reflect the relevant requirements in AASB117 -Leases

b) Calculate the present value of the lease receivable at the inception of the lease

c) Complete the Schedule of Lease Receipts for the lessor. Your answer should provide proof that the interest rate implicit in the lease is in fact 20%.

d) Prepare the necessary journal entries for 2006, 2007, and 2010 for the lessor assuming that the lessee is not required to make the guaranteed residual payment and that the asset is returned to the lessor.

e) Prepare the portion of the balance sheet for 2006 and 2007 for the lessor relating to the asset associated with the lease