Problem:
Federated fabrications leased a tooling machine on January 1, 2011, for a three-year period ending December 31, 2013. The lease agreement specified annual payment of $36,000 beginning with the first payment at the inception of the lease, and each December 31 through 2012. The company had the option to purchase the machine on December 30, 2013, for $45,000 when its fair value was expected to be $60,000. The machine's estimated useful life was six years with no salvage value. Federated depreciates assets by the straight-line method. The company was aware that the lessor's implicit rate of return was 12%, which was less than Federated's incremental borrowing rate.
1. Calculate the amount Federated should record as a leased asset and lease liability for this capital lease.
2. Prepare an amortization schedule that describes the pattern of interest expense for Federated over the lease term.
3. Prepare the appropriate entries for federated from the inception of the lease through the end of the lease terms.