On December 30, Year 3, Ames Co. leased equipment under a finance lease for 10 years. It contracted to pay $40,000 annual rent on December 31, Year 3, and on December 31 of each of the next 9 years. The lease liability was recorded at $270,000 on December 30, Year 3, before the first payment. The equipment's useful life is 12 years, and the interest rate implicit in the lease is 10%. In recording the December 31, Year 4, payment, by what amount should Ames reduce the lease liability?

Question

Kathy Jacobs

Business

6 November, 07:22

On December 30, Year 3, Ames Co. leased equipment under a finance lease for 10 years. It contracted to pay $40,000 annual rent on December 31, Year 3, and on December 31 of each of the next 9 years. The lease liability was recorded at $270,000 on December 30, Year 3, before the first payment. The equipment's useful life is 12 years, and the interest rate implicit in the lease is 10%. In recording the December 31, Year 4, payment, by what amount should Ames reduce the lease liability?

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Answers (1)

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Juliana · Answer 1

Ames should reduce the lease liability by $17,000

Explanation:

There are two components of lease payment:

Interest expense Amount paid against lease obligation.

Annual Lease = $40,000

Carrying amount at the beginning of the period = ($270,000 - $40,000) = $230,000

Interest is calculated by multiplying the carrying amount with annual interest rate.

Interest expense = $230,000 x 10% = $23,000

Reduction in liability is the net of Lease payment and Interest expense for the period.

Reduction in lease liability = $40,000 - $23,000 = $17,000