[yhe1223]

On January of the current year, Nori Mining Co. (lessee) entered into a 5-year lease for drilling equipment. Nori

accounted for the acquisition as a capital lease for $240,000, which includes a $10,000 bargain purchase option. At

the end of the lease, Nori expects to exercise the bargain purchase option. Nori estimates that the equipment’s fair

value will be $20,000 at the end of its 8-year life. Nori regularly uses straight-line depreciation on similar equipment.

For the current year ended December 31, what amount should Nori recognize as depreciation expense on the leased

asset?

$48,000

$46,000

$30,000

$27,500

The answer is If a lease qualifies as a capital lease because it contains a bargain purchase option (BPO), then the lessee depreciates

the leased asset over its estimated economic life. The leased asset is recorded on the books at $240,000 and is

depreciated over its estimated economic life of 8 years, since the lessee expects to exercise the BPO. The lessee

amortizes the leased asset in the same manner as owned assets. The equipment’s salvage value is its estimated fair value

at the end of its estimated economic life. The annual depreciation expense Nori recognizes on the equipment is

$27,500 [i.e., ($240,000 – $20,000) / 8].,

The confusing part for me is why used $20000 as residual value , I used $10000 and no right answer I can chose,

Can anyone help?

Step by step
BEC 75 2013/11
FAR 76 2014/10
AUD 87 2015/1
REG 83 2015/3

[Seaner56]

The residual value (salvage value a.k.a. what is left over at the end of the lease) is 20k. That is why they are deducting 20k to get to the depreciable base. The 10k is the BPO which is different from the residual value as the BPO is not included in the depreciable base.

AUD - passed
FAR - 8/29
REG -
BEC -

[Anonymous]

Because 20,000 is the fair value of the asset after 8 years AKA residual value.

[Anonymous]

Also i think BPO at PV is included in the depreciable base of an asset, dont mean to be correcting people.

[QuesoDip]

I think your question was answered, but there's something else I'd like to add.

It's important to note that the REASON for capitalizing the lease matters also. If the REASON the lease was capitalized was because a Bargain Purchase Option (BPO) existed OR the lease terms stipulated that the asset will TRANSFER at the end of the lease, then depreciation is calculated on its USEFUL life. 8 Years in this example.

HOWEVER, if the REASON the lease was capitalized was due to meeting the 90% FMV rule or the 75% estimated economic life, then the capitalized asset is depreciated over the lease term. 5 Years in this example.

Please correct me if I'm not remembering this right >_<

REG - 88 - 8 Weeks (Becker, Ninja Audio/Flashcards, Wiley TB)
FAR - 87 - 10 Weeks (Becker, Ninja Audio)
AUD - 98 - 6 Weeks (Becker, Ninja Audio, Ninja MCQ)
BEC - 87 - 2 Weeks (Becker & Ninja Audio)

[nicole2035]

As others have said the BPO is part of the carrying amount for the asset. When you measure a capital asset you do the PV of the monthly payments as an annuity, and the BPO as one lump sum. The PV of the payments is thus the fair value of the asset, meaning BPO is part of it's depreciating base.

Salvage is always deducted from depreciate base. The question is really straight forward, trying to see if you know the components of capital lease

@quesodip that is correct, i almost forgot about that, but you're right. A good way to remember that for the OP is useful and BPO means 100% ownership guaranteed, so do it by useful life. If for the other requirements, go by leas term

[yhe1223]

Thank you guys!

Really helpful!

Step by step
BEC 75 2013/11
FAR 76 2014/10
AUD 87 2015/1
REG 83 2015/3

[Author]

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