Question of the Week

At the beginning of the year, OPQ Corp. began to lease a building using the capitalized method. The firm is obligated to make a lease payment of $12,000 each year for 7 years with no option to buy it back. The rate implicit in the lease is 9% and the rate applicable to the firm's general debt is 7.5%. What would be the net book value of the capitalized lease at the end of its first year?

a) $63,559
b) $50,329
c) $54,479
d) $58,273

Answer:

The correct answer is: c)

Step 1: Calculate the Present Value of the lease:

PMT = $12,000; N = 7; I = 7.5%*

Therefore, PV = 63,559

*Note that we have to use the lower of the lease rate or the rate on the firm's general debt.

Step 2: Amortization Rate = 63,559/7 = 9,080

Step 3: Ending Book Value = 63,559 - 9,080 = 54,479