Problem:
ABC compny sell machines for $5,000 or leases them on five year lease. The machines cost ABC $3,500 to produce. On January 1, 2012, ABC Comany leased 10 machines to XYZ Company, requiring that the first payment be made at that time. At the end of the lease term, the machines will be returned to ABC Company due to obsolesce. Although the machines will be worth something at that time, ABC Company wants to recover the full sales price over the five-year term of the lease plus 9% interest. Assume the incremental borrowing rate for XYZ Comany is 16% and the implicit interest rate for ABC Company is unknown. XYZ Company assumes the machines will last 10 years.
Required:
Question 1: Determine the amount of the lease payments.
Question 2: Provide the entries required on the lessor's books to record the lease and the first payment.
Question 3: Calculate the total income to be recognized by ABC Company in the first year of the lease.
Note: Show all workings.