Zanzibar Limited entered into a lease agreement on July 1 2016 to lease somehighly customized hydraulic equipment to Kaizen Limited. The fair value of theequipment as at that date was $ 700,000. The terms of the lease agreement were: Lease Term 5 Years Equipment Economic Life 6 years Annual rental payment in arrears (Commencing June 30th, 2017) $160,000 Equipment residual value $100,000 Guaranteed residual value by Zanzibar $60,000 Incremental Borrowing rate 8% Interest rate implicit in the lease 6% Note: the lease is cancellable but only with Zanzibar’s permission At the end of the lease term, the equipment is to be returned to Zanzibar Limited.On July 1, 2016, Zanzibar incurred $12,000 in legal fees for setting up the lease. Theannual rental payment includes $10, 000 to reimburse the lessor for maintenancefees incurred on behalf of the lessee. Requirements:a) Discuss the nature of the lease using the appropriate criteria. Justify youranswer using calculations where applicable b) Prepare the lease schedule for the Kaizen Limited c) Prepare Kaizen’s journal entries for 2016 & 2017 d) If the lease agreement could be cancelled at any time without penalty.Wouldyour answer in parts a & b change? If yes, explain how and why.
Zanzibar Limited entered into a lease agreement on July 1 2016 to lease some
highly customized hydraulic equipment to Kaizen Limited. The fair value of the
equipment as at that date was $ 700,000. The terms of the lease agreement were:
| Lease Term | 5 Years |
| Equipment Economic Life | 6 years |
| Annual rental payment in arrears (Commencing June 30th, 2017) | $160,000 |
| Equipment residual value | $100,000 |
| Guaranteed residual value by Zanzibar | $60,000 |
| Incremental Borrowing rate | 8% |
| Interest rate implicit in the lease | 6% |
Note: the lease is cancellable but only with Zanzibar’s permission
At the end of the lease term, the equipment is to be returned to Zanzibar Limited.
On July 1, 2016, Zanzibar incurred $12,000 in legal fees for setting up the lease. The
annual rental payment includes $10, 000 to reimburse the lessor for maintenance
fees incurred on behalf of the lessee.
Requirements:
a) Discuss the nature of the lease using the appropriate criteria. Justify your
answer using calculations where applicable
b) Prepare the lease schedule for the Kaizen Limited
c) Prepare Kaizen’s journal entries for 2016 & 2017
d) If the lease agreement could be cancelled at any time without penalty.Would
your answer in parts a & b change? If yes, explain how and why.
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