Hert Corporation acquired a capital lease that is carried on its books at a present value of $100,000 (discounted at 12%). Its annual rental payment is $15,000. What is the amount of interest expense from this lease? $$\begin{array} { | c | c | c | }
\hline & \text { First Year } & \text { Second Year } \
\hline \text { A) } & 12,000 & 10,200 \
\hline \text { B) } & 12,000 & 11,640 \
\hline \text { C) } & 12,000 & 12,350 \
\hline \text { D) } & 15,000 & 15,000 \
\hline
\end{array}$$

Question

Hert Corporation acquired a capital lease that is carried on its books at a present value of $100,000 (discounted at 12%). Its annual rental payment is $15,000. What is the amount of interest expense from this lease? $$\begin{array} { | c | c | c | } 
\hline & \text { First Year } & \text { Second Year } \
\hline \text { A) } & 12,000 & 10,200 \
\hline \text { B) } & 12,000 & 11,640 \
\hline \text { C) } & 12,000 & 12,350 \
\hline \text { D) } & 15,000 & 15,000 \
\hline
\end{array}$$

Quizplus · Accepted Answer

The interest expense on a capital lease is calculated as the difference between the total lease payment and the reduction in the lease liability. In the first year, the total lease payment is $15,000 and the reduction in the lease liability is $12,000 ($100,000 × 0.12). Therefore, the interest expense is $3,000 ($15,000 − $12,000). In the second year, the total lease payment is still $15,000, but the reduction in the lease liability is now $11,640 ($100,000 × 0.12 × 0.9174). Therefore, the interest expense is $3,360 ($15,000 − $11,640). Option B is the only choice that matches these calculations.

Hert Corporation Acquired a Capital Lease That Is Carried on Its