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  2. Hi Mike,

    Example 1, Posting #3 (Depreciation)… Why are we posting $2,500, when the fair value is $17,500 (this is the obligation credit) and a deposit of $460 was paid on the same day (this is the debit on the obligation).

    I would think that the deprecation to be charged using straight line on 7 years would be…17,500 – 460 = 17,040… 17,040 / 7 = $2,434… this way we ensure that the balance on the obligation account at the end of the 7 years is zero… Otherwise there would be some over depreciation on year 7…

    Would the above treatment be correct?

    Thank you for your lectures and for replying to my questions.

    • If you buy a car and arrange to pay a deposit and the balance over 4 years, how much has the car cost you?

      That deposit is a reduction of the obligation … it’s not a reduction of the value of the car

      So the obligation is matched over time by the payments made (adjusted for the interest) whereas the asset of the machine is matched over time by the depreciation charged on the machine

      Remember, we’re not depreciating the obligation, we’re depreciating the asset’s fair value over the shorter of useful life and lease term

      OK?

    • The answer to this is that it depends on whether the first instalment is paid “in advance” or “in arrears”

      If it’s paid in advance, ie on the date that the lease is signed, the effect is to reduce the amount of money “borrowed” under the lease

      Imagine taking a $50,000 mortgage to buy an apartment and, upon signing the mortgage agreement, interest starts to accrue on the amount outstanding

      But, immediately after signing that mortgage agreement, you pay $4,000 to the mortgage lender

      So, from day 1, interest will be calculated on $46,000 until you make the next payment

      Using the same figures but making that $4,000 instalment payment after 1 year, interest will be calculated on $50,000 and then you pay the first amount of $4,000

      Is that better for you?

  4. Dear , sir
    plz van u help me for this 2 Q

    1-A 8% loan note having a value of 900,000 $ was issued on 1 January 2013 at discount and proceeds were 840,000 $ transaction cost for the issue were 30,000 $ . the loan note will be redeemed on 31 December 2016 at par . the effective interest rate applicable is 11% per annum
    at what amount will the loan note appear in statement of financial position as at 31
    December 2014 and what is the finance cost ?

    2- On January 2011 a company hired machine under financial lease for 4 years the cash price of the machine was 300,000 and present value of minimum lease payment was 280,000 million instalments of 80,000 are payable annually in advance with the first payment made on January 2011 the interest are implicit in the lease is 7.5 % what amounts will appear in financial statements on December 31 2012 ?

    best regards

    • These two questions read like they are your homework! Post your attempts at answering these questions and I’ll point out to you where you’re going wrong but this time post them on the ask ACCA Tutor F7 page and that means that I shall see them (I rarely look at the recent comments section of the site)

      • Dear Mr mike
        thank you for your attention please can you check my answer i hope u will help me please
        Q1
        2013
        Capital balance ( 840,000-30000) = 810000
        Interest 11% 89100
        Interest (900,000*08%) 72000
        827100
        2014
        Interest 11% 90981
        Interest paid 8% 72000
        846081

        Statement of profit or loss 2014
        Finance costs
        90981
        Statement of financial position –
        8% loan notes
        846081

      • Q2
        PVMLP 280,000
        Payments 80,000
        200,0000
        Interest 7.50% 15000
        Balance 31-12-2011 215,000
        Payment 80,000
        135000
        Interest 7.50% 10125
        Balance 31-12-2012 124,875
        Statement profit and loss 31-12-2012
        Finance costs 10125
        Statement of financial position 31-12-2012
        Non-current liabilities
        Finance lease liability 124,875
        current liabilities (215,000-12875) = 90125

  6. on 1 jan 2003, chika limited acquired machinery under a hire purchase agreement. the cash price of the machinery was $3000. machinery was depreciated using the straight line method at a rate of 25% per annum. The agreement called for three equal payments of $1200 to be made on 31 dec each year. interest implied in the contract was 9.7%.
    required
    a. what is the finance cost to be shown in the income statement extract for each of the three years ended 31 dec 2003,2004 and 2005.
    b. show a statement of financial position extract for the three years as at 31 dec 2003, 2004 and 2005.
    please help, i have tried to solve using the lecture but cant follow

  8. If the question provides a cash purchase price, and the lease rental payment for that year. Should I add up the lease payments (eg. 20,000 annually over 5 years = 100,000) and compare that to the cash purchase price (to find the lower one to capitalise)?
    There is no Fair value given.

    Or do I simply take the PVMLP which I believe would be 100,000?

    Thank you.

    • In your example, unless the cost of capital were 0%, the pv of the mlp would NOT be $100,000

      You’re missing the importance of the PV of the mlp!

      $20,000 payable in each of the next 5 years will have a present value of considerably less than $100,000

      OK?

  10. Hi, please help me in calculating the depreciation in case of advance rental payments.

    Fair value of asset is 500,000. Useful life and lease term is 5 years. Interest rate is 20%.

    Expected residual value of asset:100,000.
    Guaranteed residual value by lessee: 50,000
    Guaranteed residual value by lessor: 30,000 above the GRV by lessee.

    Down payment made: 100,000.

    My question is what should be the deprecation of asset?

    • Depreciation is only assessed on useful life of asset and (cost – residual value)

      That gives me (500,000 – 100,000)/5 = 80,000

      Not sure why you have been given guaranteed residual amounts!

      Does that agree with the answer?

  11. Alex Limited has entered into a finance lease agreement by getting machinery from Grace Limited. Fair value of the machinery is Rs. 560,000. Lease term is of 4 years and lease rentals are payable quarterly. At the inception of lease, the present value of minimum lease payment (MLP) is Rs. 550,000 and the estimated unguaranteed residual value of the machinery is Rs. 12,000.
    You are required to determine the amount at which lease liability will be recorded in the books of lessee. Support your answer as per provisions of IAS 17.

  12. Situation
    Alex Limited has entered into a finance lease agreement by getting machinery from Grace Limited. Fair value of the machinery is Rs. 560,000. Lease term is of 4 years and lease rentals are payable quarterly. At the inception of lease, the present value of minimum lease payment (MLP) is Rs. 550,000 and the estimated unguaranteed residual value of the machinery is Rs. 12,000.
    My Question

    Q-what is the amount at which lease liability will be recorded in the books of lessee. Support your answer as per provisions of IAS 17?

    • I think that you’re going to have to give me more information than this!

      What’s the rate of interest implicit in the lease!

      What was the date the lease was signed and ……

      …… are the installments paid in advance or in arrears?

      What’s the year end of Alex?

      At what date do you want me to state “the amount at which lease liability will be recorded in books of lessee”?

      And finally, this question / thread would have been much better located on the Ask the Tutor forum

      • their is no rate of intrest is given to me in this question
        only the question i posted is given to me.
        i have no more information

      • It’s probably a reference to the unguaranteed residual amount. Because this is not a definite obligation (as a guaranteed residual amount would be) then it isn’t included in the minimum lease payments that would then be compared with the fair value to determine which is “the lower of cost / fair value and present value of minimum lease payments”

  13. Alex Limited has entered into a finance lease agreement by getting machinery from Grace Limited. Fair value of the machinery is Rs. 560,000. Lease term is of 4 years and lease rentals are payable quarterly. At the inception of lease, the present value of minimum lease payment (MLP) is Rs. 550,000 and the estimated unguaranteed residual value of the machinery is Rs. 12,000.

  14. Sir in Sergijius example. In calculation of. PV of min lease payment (Gross)
    5. £3500. 1 year instalment left? Why it should be 2 years, as we have 7 instalment all together that makes £24500. But you wrote £21000 means 6 yr instalment all together ?? Please advise

      • Hi Mike,

        I find this strange also. I cannot understand why if it says”within 1 year” – surely that must be the first initial payment as we cannot pay before the first year. That would leave 6 years?

        Even if we pay at the end of the first year is that not classed as within the first year?

        Thanks

      • I think I see why now.

        The figure we use PV obligation we have already paid the first year.

        When using this calculation method should we always remove the first years payment.

        i.e If althogether 9 years.

        Within 1 yr = 1 payment
        1 yr – 5yr = 4 payments
        More than 5 yrs= 3 payments ?

        Thanks

  15. Sir,is debit entry for finance lease interest in example1 =1327? if im wrong, what are the debit entries for finance lease interest and Obligation finance lease account please? I understand “Cr cash 3500”

    • Hi, is this the example Sergijus? If so, the finance lease interest for the first year is 10% * ($17,500 cash price – $460 deposit) = 10% * $17,040 = $1,704

      If it’s not a question about Sergijus, please give me a reference.

      If it IS about Sergijus, is that now ok?

  17. Hi Mr Mike – I understand what you are doing in the lecture, yet when I tried to solve the first question in the mini questions, I was not able to figure out how did they arrive in the answer (pilot paper) that 55,000 is the outstanding non current obligation – Here is the question:

    On 1 April 2010 Kala entered into a lease for an item of plant which had an estimated life of five years. The lease period is also five years with annual rentals of $22 million payable in advance from 1 April 2010. The plant is expected to have a nil residual value at the end of its life. If purchased this plant would have a cost of $92 million and be depreciated on a straight-line basis. The lessor includes a finance
    cost of 10% per annum when calculating annual rentals. (Note: you are not required to calculate the present value of the minimum lease payments.)

    Why in the answer the way they calculated as follows: the non current obligation is simply 77000 (outstanding obligation at the end of the year) less 22,000 (which is the next installment). This is not the same thing you are doing here, or is it? I am really confused, could you please show me how to arrive at the current and non current element of the outstanding obligation the same way you did in the lecture?

    Many thanks!

    Maha

    • If the cash price is 92 and the first installment of 22 is entirely capital (because it’s paid in advance and therefore includes no interest) then the capital outstanding after that deposit is paid is 70. Add 10% interest to get to the end of the first year and the year end outstanding amount is 77 and we pay 22 “tomorrow”?
      The amount of CAPITAL outstanding at the end of the first year is 70. Move forward to tomorrow and we pay 22. That 22 settles to 7 accrued interest + 15 of the capital. So the capital now outstanding after that second payment of 22 is now 55 ie 70 capital outstanding less the capital element of the second payment of 22.

      As at the end of the first year, the CAPITAL OUTSTANDING payable more than 12 months hence is therefore 55

      Is that clear?

      If not, post again

      • Thank you Mr Mike for this clarification, I get it but it is confusing me this way, I want to solve it the same way you did it in the lecture, but when I do, I don’t get the same answer, here is my answer, can you tell me where did I go wrong?

        Fv 92,000
        (22,000) >> Acts as a deposit
        =
        70,000 >> FV at 1.4.2010
        7000
        =
        77,000 (outstanding amount at 31.3.2011)
        (22,000)
        =
        55,000
        5,500
        =
        60,500 (outstanding amount at 31.3,2012)

        As per the above calculation, the current liab. should be 16,500 (77,000-60,500), which means that the long term liability is 60,500 (16,500-77,000).

        This is how I would solve it according to the method in the lecture which I am pretty much comfortable with, but I am not sure what is wrong in my answer!!!

        Thank you

        Maha

      • The long term liability should be JUST the capital element. In the figures quoted above, the capital element is 55.000. At the previous year end, the capital element outstanding is 70,000. So, of that 70, 55,000 is payable >12 months hence and is therefore long term debt and the remaining 15,000 is a current liability.

        Of course, there is a further current liability and that is the 7,000 interest which is also payable “tomorrow” within the 22,000 payment

        Is that better?

      • Mr. Little, I FINALLY get my mistake! 😀 – For current liability calculation, I should be getting the difference between the outstanding capital element amount, not the full outstanding amount at the end of each year which includes the interest!

        This is what you have been doing in the lecture and I understood it, I am not sure why I got confused over this example specifically! Maybe because the payment is made in advance. Anyways, I appreciate the time you gave explaining this to me. Thank you very much! I hope our efforts will pay off and I will pass!

        Maha

  20. HI

    Please explain the calculation used for disclosure for reconciling Minimum Lease payments to Fair Value on the gross basis.
    Initially we said that there are 7 instalments to be paid which is R24 000. But the calculation presented in the lecture is R21 000.

    Am I missing something

    Thanks!

    • @nigs001, Have you actually watched the video?

      The fair value is 17,500. A deposit is paid of 460. So the amount “borrowed” is 17,040, This is outstanding for one complete year and interest is accruing at 10%. So, at the end of the first year Sergijus owes capital of 17,040 plus interest of 1,704 ( a total of 18,744 ) And then he pays 3,500 and reduces the amount owing to 18,744 – 3,500 which equals ????

      OK?

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