Cobalt Ltd owns an item of machinery that has a cost of $700,000 and accumulated depreciation of $200,000 as at 1 July 2003. On that date the machine is sold to Blue Ltd for $533,493, and then leased back over 8 years (the remaining life of the machine). The lease is non-cancellable. The lease payments are $100,000 per annum, payable in arrears on 30 June each year. The interest rate implicit in the lease is 10 per cent and the economic benefits of the asset are expected to be realised evenly over its life. What are the entries to record the transactions in Blue's books on 1 July 2003 and 30 June 2004 (rounded to the nearest dollar)?
E) None of the given answers.

Question

Quizplus · Accepted Answer

On 1 July 2003:
- Blue Ltd will record the acquisition of the machinery at the cost of $533,493 and financial lease payable of $533,493.
- Cobalt Ltd will record the sale of the machinery at the carrying amount of $500,000 ([$700,000 - $200,000], the accumulated depreciation is no longer relevant) and recognition of a finance lease receivable also of $500,000.
 
On 30 June 2004:
- Blue Ltd will record depreciation on the machinery of $66,687 (i.e., $533,493/8).
- The lease payment of $100,000 will be split into $66,687 for depreciation and $33,313 for interest expense. Blue will record the interest expense and lease liability reduction accordingly. Cobalt will record the interest income and reduction of lease receivable.

Cobalt Ltd Owns an Item of Machinery That Has a Cost