Brown Leasing Service recently purchased drilling equipment for $218,705 and wants to lease it to Huss Excavation Company. If Huss accepts, it will sign the lease agreement on May 1, 2011. The equipment has an estimated useful life of five years, and the lease term is for five years. During the period of the lease, Huss will be responsible for all repairs and maintenance of the leased property. The lease agreement calls for Huss to make five annual lease payments of $56,227.41 starting May 1, 2012. The interest rate is 9 percent. Huss has asked you to help it plan for the impact of this lease.
A. What makes this lease qualify as a capital lease?
B. What is the value of the equipment and the amount of the liability generated by this transaction?
C. What are the cash flows associated with the first two years of the lease?
D. What is the interest cost incurred in each of the first two years of the lease?
E. How does the lease liability change over the first two years of the lease?