On January1st,2014,ABC Inc.(the lessor)agrees to lease a piece of specialized piece of machinery to DEF Inc.(the lessee)for 5 years.ABC Inc.is a financial intermediary specializing in leasing arrangements such as the one described below.Details are as follows: Fair value of machinery at inception of the lease: $100,000. Lease term: 5 years (no bargain renewal terms). Executory costs of $10,000 are reimbursed by the lessee. 5 Annual lease payments of $23,000 each are made on January 1^st of each year starting on January 1^st,2014. Bargain purchase option at end of lease: $5,000.It is estimated that the equipment will have a fair value of $10,000 at the end of the lease. Economic life of the asset is 10 years,after which the equipment will be worthless.Straight-line depreciation applies. ABC's implicit interest rate with respect to this lease is 10%.This is rate is known by DEF Inc. DEF Inc's incremental borrowing rate is 9%. Assuming that this qualifies as a finance lease,at what amount would DEF Inc.capitalize the leased machinery at the inception of the lease as per IFRS (rounded)?

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Quizplus · Accepted Answer

The lease liability is calculated as the present value of lease payments and the present value of the bargain purchase option. The present value of the lease payments ($23,000 for 5 years) and the bargain purchase option ($5,000) discounted at the implicit rate of 10% results in approximately $99,012.