Chapter 7

Leases (Part 1)

PROBLEM 1: TRUE OR FALSE

1. FALSE
2. TRUE
3. FALSE
4. TRUE
5. TRUE
6. TRUE
7. FALSE
8. FALSE
9. FALSE (₱10,000 x PV of an annuity due of ₱1 @10%, n=4)
10. FALSE [(₱10,000 x PV of an annuity due of ₱1 @10%, n=4) – 10,000]
or
₱10,000 x PV of an ordinary annuity of ₱1 @10%, n=3

PROBLEM 2: FOR CLASSROOM DISCUSSION

1. Solution:
The contract is a lease.
a. Identified asset – the car is implicitly specified at the time that the asset
is made available for use by the customer.

* Substitution right – Supplier Y’s substitution rights is not substantive

because it is not available to him throughout the period of use.

b. Right to obtain economic benefits from use – Customer X has the

exclusive use of the car throughout the duration of the contract.

c. Right to direct the use – Customer X has the right to direct how and for
what purpose the asset is used throughout the period of use

2. Solution:
The contract is not (does not contain) a lease because there is no identified
asset.

* Substitution right – Supplier Y’s substitution rights is substantive.

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3. Solutions:

Requirement (a): Journal entries

PV of
Lease payments PV factors @10%, n=4 MLP
PV of an annuity due of 3.48685 348,68
Annual rent 100,000 ₱1 2 5
0.68301
Purch. Opt. 50,000 PV of ₱1 3 34,151
382,83
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Jan. 1, Right-of-use asset 382,83

20x1 Lease liability 6 282,836
Cash 100,000

Amortization table:
Payment Interest Present
Date Amortization
s expense value
Jan. 1, 20x1 382,836
Jan. 1, 20x1 100,000 - 100,000 282,836
Jan. 1, 20x2 100,000 28,284 71,716 211,120
Jan. 1, 20x3 100,000 21,112 78,888 132,232
Jan. 1, 20x4 100,000 13,223 86,777 45,455
Jan. 1, 20x5 50,000 4,545 45,455 0

Dec Interest expense 28,284

. 31, 28,284
Lease liability
20x
1
Dec Depreciation expense 71,567
. 31, [(382,836 – 25K) ÷ 5 yrs.] 71,567
20x
1
Right of use asset
Jan. Lease liability 100,00
1, Cash 0 100,00
20x
2
0

Subsequent entries follow the same pattern.

Requirement (b): Carrying amounts

Right-of-use asset
382,836 – 71,567 = 311,269

2
Lease liability
211,120 + 100,000 = 311,120

4. Solution:
20x1 (12K x 9/12) 9,000
20x2 12,000
20x3 12,000
20x4 12,000
Total 45,000
Divide by: Lease term 4
Annual lease expense 11,250

Jan. 1,
20x1
No entry
Dec. 31, Rent expense 11,250
20x1 Cash 9,000
Rent payable 2,250
Dec. 31, Rent expense 11,250
20x2 Rent payable 750
Cash 12,000
Dec. 31, Rent expense 11,250
20x3 Rent payable 750
Cash 12,000
Dec. 31, Rent expense 11,250
20x4 Rent payable 750
Cash 12,000

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PROBLEM 3: EXERCISES
1. Solutions:

Requirement (a):
Rental payments excluding maintenance costs (80,000 – 6,000) 74,000
Multiply by: PV of an ordinary annuity of P1 @14%, n=10 5.216116
Present value of minimum lease payments 385,993

Jan. Right of use asset 385,99

1, Lease liability 3 385,99
20x 3
1

Amortization table:
Int. Amortizatio Present
Date Payments expense n value
1/1/x1 385,993
12/31/x1 74,000 54,039 19,961 366,032
12/31/x2 74,000 51,244 22,756 343,277

Dec Lease liability 19,961

. 31, Interest expense 54,039
20x Cash 74,000
1
Dec Repairs and maintenance expense 6,000
. 31, Cash 6,000
20x
1
Dec Depreciation expense (385,993 ÷ 10) 38,599
. 31, Right of use asset 38,599
20x
1
Dec Lease liability 22,756
. 31, Interest expense 51,244
20x Cash 74,000
2
Dec Repairs and maintenance expense 6,000
. 31, Cash 6,000
20x
2
Dec Depreciation expense (385,993 ÷ 10) 38,599
. 31, Right of use asset 38,599
20x
2

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Requirement (b):
Current = 22,756
Noncurrent = 343,277

2. Solutions:

Requirement (a):

Payment Int. Amortizatio Present

Date
s expense n value
1/1/x1 664,326
1/1/x1 200,000 - 200,000 464,326
1/1/x2 200,000 65,006 134,994 329,332
1/1/x3 200,000 46,106 153,894 175,439
1/1/x4 200,000 24,561 175,439 -

Requirement (b):
Jan. Right of use asset (664,326 + 50,000) 714,32
1, Lease liability 6 464,32
20x Cash (200,000 + 50,000) 6
1 250,00
0
Dec Interest expense 65,006
. 31, Lease liability 65,006
20x
1
Dec Depreciation expense (714,326 ÷ 4) 178,58
. 31, Right of use asset 2 178,58
20x 2
1
Jan. Lease liability 200,00
1, Cash 0 200,00
20x 0
2

Requirement (c):
Right-of-use asset = (714,326 – 178,582) = 535,745
Lease liability = (329,332 + 200,000) = 529,332

3. Solutions:

Requirement (a):

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 Payment Int. Amortizatio Present
Date
s expense n value
1/1/x1 1,491,861
12/31/x1 300,000 134,267 165,733 1,326,128
12/31/x2 300,000 119,352 180,648 1,145,480
12/31/x3 300,000 103,093 196,907 948,573
12/31/x4 300,000 85,372 214,628 733,945
12/31/x5 800,000 66,055 733,945 0

Requirement (b):

Jan. Right of use asset 1,491,86

1, Lease liability 1 1,491,86
20x 1
1
Dec Interest expense 134,267
. 31, Lease liability 165,733
20x Cash 300,000
1
Dec Depreciation expense (1,491,861 ÷ 8) 186,483
. 31, Right of use asset 186,483
20x
1

4. Solutions:

Requirement (a):
Int. Present
Date Payments Amortization
expense value
1/1/x1 2,028,593
1/1/x1 400,000 - 400,000 1,628,593
1/1/x2 400,000 130,287 269,713 1,358,880
1/1/x3 400,000 108,710 291,290 1,067,590
1/1/x4 400,000 85,407 314,593 752,998
1/1/x5 400,000 60,240 339,760 413,237
1/1/x6 400,000 33,059 366,941 46,296
1/1/x7 50,000 3,704 46,296 0

Requirement (b):
Jan. Right of use asset 2,028,59
1, Lease liability 3 1,628,59
20x Cash 3
1 400,000
Dec Interest expense 130,287
. 31, Lease liability 130,287
20x

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 1
Dec Depreciation expense (2,028,593 ÷ 6) 338,099
. 31, Right of use asset 338,099
20x
1
Jan. Lease liability 400,000
1, Cash 400,000
20x
2

5. Solutions:

Total rentals P 700,000

First six-month rent-free (100,000 x 6/12) ( 100,000)
Adjusted total rentals 600,000
Divide by: Lease term 3
Annual rent expense P200,000

The entries are:

Books of lessee – DEMENTED Co.
Jan. 1, 20x1
No entry
Dec. 31, 20x1
Rent expense 200,000
Cash 100,000
Rent payable 100,000
Dec. 31, 20x2
Rent expense 200,000
Rent payable 40,000
Cash 240,000

Dec. 31, 20x3

Rent expense 200,000
Rent payable 60,000
Cash 260,000

Dec. 31, 20x3

Rent expense 100,000
[10% x (3M – 2M)]
Rent payable 100,000
to record contingent rent
payable

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PROBLEM 4: CLASSROOM ACTIVITY
1. Solution:
The contract contains a lease. The contract specifies an executive jet. The
aviation company’s right to substitute another aircraft is not substantive
because it would be uneconomic to exercise this right. The customer decides
how and for what purpose the jet is used which provides it with the right to
control the use of the jet.

2. Solution:

Year Payments PV of 1 @6% PV factors PV

20x1 200,000 n=1 0.9433962 188,679
20x2 240,000 n=2 0.8899964 213,599
20x3 280,000 n=3 0.8396193 235,093
637,372

Int. Present
Date Payments Amortization
expense value
1/1/x1 637,372
12/31/x1 200,000 38,242 161,758 475,614
12/31/x2 240,000 28,537 211,463 264,151
12/31/x3 280,000 15,849 264,151 -

Jan. Right of use asset 637,37

1, Lease liability 2 637,37
20x 2
1
Dec Interest expense 38,242
. 31, Lease liability 161,75
20x Cash 8 200,00
1 0
Dec Depreciation expense (637,372 ÷ 3) 212,45
. 31, Right of use asset 7 212,45
20x 7
1
Dec Interest expense 28,537
. 31, Lease liability 211,46
20x Cash 3 240,00
2 0
Dec Depreciation expense (637,372 ÷ 3) 212,45
. 31, Right of use asset 7 212,45
20x 7
2
Dec Interest expense 15,849
. 31, Lease liability 264,15
20x Cash 1 280,00
3 0

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Dec Depreciation expense (637,372 ÷ 3) 212,45
. 31, Right of use asset 7 212,45
20x 7
3

3. Solutions:

Requirement (a):

Payment
Year s

20x1 200,000

20x2 240,000

20x3 280,000

Total 720,000

Divide by: 3

Annual lease expense 240,000

Jan. No entry
1,
20x
1
Dec Rent expense 240,00
. 31, Cash 0 200,00
20x Rent payable 0
1 40,000
Dec Rent expense 240,00
. 31, Cash 0 240,00
20x 0
2
Dec Rent expense 240,00
. 31, Rent payable 0
20x Cash 40,000 280,00
3 0

Requirement (b):

Recognition
General recognition exemption
Depreciatio
Year Interest n Total Rent expense

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 250,70
20x1 38,242 212,457 0 240,000
240,99
20x2 28,537 212,457 4 240,000
228,30
20x3 15,849 212,457 6 240,000
720,00
Totals 82,628 637,372 0 720,000

PROBLEM 5: MULTIPLE CHOICE - THEORY

1. B 6. A
2. D 7. B
3. C 8. C
4. D 9. D
5. B 10. D

PROBLEM 6: MULTIPLE CHOICE - COMPUTATIONAL

1. B
Solution:
Annual rent 100,000
PV of ordinary annuity of 1 @10%, n=10 6.15
PV of minimum lease payments 615,000

2. B (100,000 x PV of ordinary annuity of 1 @10%, n=10) = 614,500

3. A
Solution:
Total consideration 52,000
Less: Payment for non-lease component (2,000)
Lease payments 50,000
Multiply by: PV of annuity due @9%, n=9 6.5348
Total 326,740
First payment due in advance (50,000)
Lease liability – Dec. 31, 20x1 276,740

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 *Answer choice is rounded-off

4. C
Solution:
Cash flows PV factors PV
Annual 10,00 PV annuity due @12%,
rent 0 n=10 6.3282 63,282
10,00
PO 0 PV of 1 @12%, n=10 0.3220 3,220
66,502
5. A
Solution:
Cash flows PV factors PV
PV annuity due @9%,
Annual rent 13,000 n=5 4.2397 55,116
Guaranteed
RV 10,000 PV of 1 @9%, n=5 0.6499 6,499
Total 61,615
First payment due immediately (13,000)
Lease liability – initial
recognition 48,615

6. A (100,000 x PV ord. annuity @10%, n=5) = 379,000 (rounded-off)

(379,000 x 10%) = 37,900

7. B
Solution:
Payment Amortizatio
Date s Int. expense n Present value
1/1/x7 112,500
12/31/x7 10,000 9,000 1,000 111,500

8. B (10,000 x PV ordinary annuity @10%, n=10) = 61,446. The residual

value is ignored because it is unguaranteed, (i.e., guaranteed by a third
party unrelated to the lessee rather than by the lessee or a party related
to the lessee)

9. B
Solution:
Payment Amortizatio
Date s Int. expense n Present value
12/31/x8 135,000
12/31/x8 20,000 - 20,000 115,000
12/31/x9 20,000 11,500 8,500

10. B (108,000 ÷ 12) = 9,000

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