The following example illustrates the accounting entries for a finance lessee and how they are calculated.
Asset cost: £17,450; Expected life: 25 years
Finance lease:
Lease terminated during year 7; asset sold for £15,000; rental rebate of £14,050 paid to lessee.
| Step 1 - calculate total finance charge in rentals | ||
| Total rentals | 5 x £4,310 | £21,550 |
| 20 x £50 | £1,000 | |
| £22,550 | ||
| Cost of asset | £17,450 | |
| Total finance charge | £5,100 | |
| Step 2 - allocate finance charge to individual rentals by rule of 78 (sum of digits) | |||
| 5 rentals in primary period sum of digits: 1+2+3+4+5 = 15 | |||
| Year 1 | 5/15 x £5100* | =£1,700 | |
| Year 2 | 4/15 x £5100 | =£1,360 | |
| Year 3 | 3/15 x £5100 | =£1,020 | |
| Year 4 | 2/15 x £5100 | =£670 | |
| Year 5 | 1/15 x £5100 | =£350 | |
| £5,100 | |||
| * Secondary period rentals ignored on de minimis grounds. | |||
| Step 3 - allocate rental payments to period of account | |||
| Finance charge | Loan repayment | Total | |
| Year 1 | £1,700 | £2,610 | £4,310 |
| Year 2 | £1,360 | £2,950 | £4,310 |
| Year 3 | £1,020 | £3,290 | £4,310 |
| Year 4 | £670 | £3,640 | £4,310 |
| Year 5 | £350 | £3,960 | £4,310 |
| Total | £5,100 | £16,450 | £21,550 |
| Balance Sheet | At start | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | Year 6 | Year 7* |
| Assets | ||||||||
| Leased Asset | £17450 | £17450 | £17450 | £17450 | £17450 | £17450 | £17450 | £17450 |
| Dep’n | - | £(700) | £(1400) | £(2100) | £(2800) | £(3500) | £(4200) | £(4200) |
| Disposal | (13250) | |||||||
| Net | £17450 | £16750 | £16050 | £15350 | £14650 | £13950 | £13250 | 0 |
| Liabilities | ||||||||
| Lease creditor | £17450 | £17450 | £14840 | £11890 | £8600 | £4960 | £1000 | £950 |
| Repay-ment | - | £2610 | £2950 | £3290 | £3640 | £3960 | £50 | £950 |
| Net | £17450 | £14840 | £11890 | £8600 | £4960 | £1000 | £950 | - |
| Profit and Loss A/c | ||||||||
| Dep’n | £(700) | £(700) | £(700) | £(700) | £(700) | £(700) | ||
| Profit on Sale | £1750 | |||||||
| Finance Charge | £(1700) | £(1360) | £(1020) | £(670) | £(350) | 0 | 0 | |
| Total | £(2400) | £(2060) | £(1720) | £(1370) | £(1050) | £(700) | £1750 | |
| *Termination Adjustments | Debit | Credit | ||||||
| Lease | £950 | Leased assets | £13250 | |||||
| Creditor-Bank | £14050 | Profit on Sale | £1750 | |||||
| £15000 | £15000 | |||||||
Cash Position |
||
| Rentals paid: | 5 x £4,310 | =£21,550 |
| 1 x £50 | =£50 | |
| Rebate | (£14,050) | |
| Net Outlay | £7,550 | |
|
Charge to Profit and Loss Account |
||
| Depreciation: | 6 x £700 | =£4,200 |
| Finance charges | £5,100 | |
| Profit on sale | (£1,750) | |
| Net charge | £7,550 | |
