Stella ltd manufactures specialized equipment for both sale and lease. On 1 July 2022，Stella Ltd leased one of these equipment to Fred Dan， incurring $1200 in costs. Freddy incurred $650 in costs. Equipment be leased cost Stella $55072 to manufacture. The equipment economic life 6years, after a residual $ 950. Length 5 year,

 

Commencement date 1 July 2022

Annual lease payment, payable 30 June each year commencing $15000, 30 June 2023

Residual value at the end of the lease term, fully guaranteed by Freddy Ltd $8000, Interest rate implicit in the lease 8%.

 

All insurance and maintenance costs are paid [ and incurred] by Stella Ltd and $ 2000 per year and will be reimbursed by Freddy Ltd by being included in the annual lease payment of $15,000. The equipment will be depreciated on a straight-line basis. It is expected that Freddy Ltd will purchase the equipment from Stella at the end of the lease.

[The bargain purchase price is equal to the guaranteed residual value of $8000, instead of returning the equipment to Stella, Freddy will likely pay $8000 to keep it].

 

Required

1. Prepare the journal entries to account for the lease in the books of Freddy Ltd for 1 July 2022 and the year ended 30 June 2023 [provides the computation details of the present value of future annual lease payments and depreciation expense.
2. Prepare the journal entries to account for the lease in the books of Stella Ltd for 1 July 2022 and the year ended 30 June 2023.

Answer rating: 100% (QA)

solution Journal entries in the books of Freddy Ltd 1 Recording Lease Date Account Debit Credit 172022 ROU Asset 58007 Lease Liability 57357 Cash 650 Equipment taken on lease from Stella ltd recognized including initial direct costs 2 Interest expenses Date Account Debit Credit 3062023 Interest expenses 4589 Lease Liability 4589 Interest on Lease liability for the year ended 30623 8 recognized 3 Payment to Stella Date Account Debit Credit 3062023 Lease liability 13000 Insurance expenses 2000 Cash 15000 Payment to Stella Ltd including reimbursement of insurance expense 4 Depreciation of ROU asset Date Account Debit Credit 3062023 Depreciation expenses 9510 Accumulated Depreciation 9510 Depreciation for the year ended 3062023 recognized Working 1 Freddy Ltd should record the leased asset at Present value of lease payments Annual lease payment 15000 2000 13000 reimbursement of insurance maintenance expenses is not part of lease payment Guaranteed residual value 8000 Lease term 5 years Rate of interest implicit in the lease 9 PV of lease payments PVAF 8 5 years 13000 PVF 8 5 years 8000 Where PVAF 85 present value of annuity of 1 at 8 and for 5 years 3993 from the present value tables PVF 8 5 Present value of 1 at 8 for 5 years 0681 PV of lease payments 3993 13000 0681 8000 51909 5448 57357 2 Initial direct expenses incurred by the lessee should be capitalized 3 Interest on lease liability for the year ended 3062023 Lease liability as on 172023 rate of interest 57357 8 4589 4 Annual depreciation Lease term 5 years Economic Life 6 years Residual value after 6 years 950 As at the end of the lease term Freddy Ltd is likely to use bargain purchase option the leased asset should be depreciated over its economic life Annual depreciation Cost Residual value Life 58007 950 6 95095 rounded off to 9510 2 Journal Entries in the books of Stella Ltd 1 Recording the lease Date Account Debit Credit 172022 Lease receivables 57357 Equipment 55072 Profit on sale 2285 Lease receivable at net investment in lease profit on sale recognized 2 Initial direct cost Date Account Debit Credit 172022 Initial direct expanses 1200 Lease Liability 1200 Initial direct expenses in respect of lease recognized 3 Finance income Date Account Debit Credit 3062023 Lease receivables 4589 Finance income 4589 Finance income for the year ended 3062023 recognized 4 Insurance maintenance cost paid on behalf of Freddy Ltd Date Account Debit Credit 3062023 Freddy Ltd 2000 Cash 2000 Insurance maintenance cost paid on behalf of Freddy ltd 5 Payment received from Freddy Ltd Date Account Debit Credit 3062023 Cash 15000 Lease Receivables 13000 Freddy Ltd 2000 Payment received from Freddy Ltd Working 1 The lease is a finance lease as there is a bargain purchase option it is likely to be exercised by the lessee 2 At the inception the lessor should recognize ... View the full answer