capital lease (review of L1) interest, guidance, liability, including, understand

luckygiftvn

I am able to understand the calculations for a finance lease - however, I am not able to see how the book values (when increasing as asset) and the lease liability (when increasing the liability) balances for each of the given year. I have tried working through the I/S by including RE since both the depreciation and interest expenses are impacted - yet still they do not balance.

Can you please provide some guidance? Thanks.

References:
1) Schweser FRA, pg. 52, "Example: Accounting for a finance lease",
2) CFAI FRA, pg. 100, Example 13

bdavi77962

Thanks - I know that RE is probably causing a heck of a confusion for me.

I like the example you've given, but for the sake of others can we please work through a real Schweser example - FRA book pg. 53 - I will summarize for those who don't have access:

A company leases a machine with an end of the year annual pmt. of $10,000 for 4 years with a 6% interest.

So, we know that:
PV = $34,651
Annual dep exp = $8,663

Let's work through just the first two years as they will be the same for the remaining two.

Now, onto the B/S and I/S:

------------------------Year 1-----------Year 2
PPE-------------------34,651------------25,988
Dep-------------------(8,663)-----------(8,663)
Carrying value------25,988------------17,326
Cash-----------------(10,000)----------(10,000)
Total Asset-----------15,988------------7,326

Lease liability-------34,651------------26,730
Interest exp---------(2,079)-----------(1,604)
Lease payable-----(10,000)---------(10,000)
Net lease liability---26,730-----------18,334
Retained earnings-(10,742)--------(10,267)
Total L + E:-----------15,988------------8,068


I/S
Dep expense:-------(8,663)-----------(8,663)
Int expense:--------(2,079)-----------(1,604)
Finance lease exp-(10,742)---------(10,267)

If you look at Year 2 totals, the difference is by $742 which is the amount over by the lease payment in Year 1 - but how does that transfer over to RE in year 2? Or am I looking at this completely wrong?