Auto Finance Company (AFC) Definition and Meaning Free Solution

Question: An Auto Finance Company (AFC) is doing business since last 20 years and deals in various financial products including finance lease, hire purchase and operating lease. AFC takes postdated cheques from customers in advance and deposits with banks on due dates. AFC enters the realization date of cheques in system on daily basis. Average numbers of daily deposited cheques are 700. Around 10% of deposited cheques gets returned unpaid. The unpaid cheques are deposited next day into bank. The AFC is following IFRS for accounting but its holding company follows US GAAPs for accounting. The company is required to do accounting under both IFRS and US GAAPs for reporting purposes. The company follows the policy to round rental amount to zero decimal places. The rentals are amortized using annuity method. The company books income on daily basis. The AFC has extended a lease facility to a Ltd company, the extracts of which are as under: Asset cost = 100,000 Contract terms = 48 months Annual interest rate = 12% Re-payment frequency = Quarterly in Arrear RV = 10,000 Down payment = 8,000 Security deposit = 50,000 Start day of the contract = 15th February, 2013 Asset useful life = 60 months You are required to: 1. Determine the lease type according to IFRS definitions 2. Calculate periodic lease rentals when lease rental for 10th and 11th quarter is zero 3. Prepare amortization schedules for AFC 4. Work out per day income for the first three months 5. Calculate AFCs monthly income for March 2013 6. Calculate the AFCs achieved rate of return from the contract 7. Prepare accounting entries for AFC at the time of lease contract signing under IRFS 8. Prepare accounting entries at the time of receipt of first rental 9. The AFC customer has defaulted after paying 2nd rental and now 5th rental is due, customer has requested and AFC agreed to restructure the lease facility to by increasing interest rate 1 % p.a. and recovering the interest overdue and penalty amount. The company charges 20% p.a. penalty for overdue on actual days basis. Please workout the restructured rental amount and the accounting treatment at Restructuring this contract. Answers: 1. Lease type as per IFRS Lease is a contract which explains an agreement between two or more persons that creates enforceable rights and obligations for right to use an asset for the fixed period of time in exchange for the interest. There are mainly 2 types of lease as per the IFRS norms such as operating lease and finance lease (Brigham and Houston, 2009). An operating lease is particularly attractive to those companies that consistently replace its machinery and need to use the equipment without buying the full amount. It is less costly and helpful for the company for the long term benefits without investing bulk of money (Harrison, 2008). Finance lease is full payouts; it is non cancellable agreements in which the lessee is responsible for the maintenance, taxes and insurance (Cadle and Paul, 2010). Financial lease is very much attracting those lenders who are looking for the tax benefits. For capital lease amortization is must be applied to pay both interest and principal (Berry, 2009). There are some other types of lease such as capital lease, direct financing lease, first amendment lease full payout lease and net lease (Chandra, 2009). 2. Calculate the periodic lease Rentals for 10th and 11th quarter Quarter Payment Principal Paid Interest Paid Remaining Balance 1 $7,341.06 $4,581.06 $2,760.00 $87,418.94 2 $7,341.06 $4,718.49 $2,622.57 $82,700.45 3 $7,341.06 $4,860.05 $2,481.01 $77,840.40 4 $7,341.06 $5,005.85 $2,335.21 $72,834.55 5 $7,341.06 $5,156.02 $2,185.04 $67,678.53 6 $7,341.06 $5,310.70 $2,030.36 $62,367.83 7 $7,341.06 $5,470.03 $1,871.03 $56,897.80 8 $7,341.06 $5,634.13 $1,706.93 $51,263.67 9 $7,341.06 $5,803.15 $1,537.91 $45,460.52 10 $7,341.06 $5,977.24 $1,363.82 $39,483.28 11 $7,341.06 $6,156.56 $1,184.50 $33,326.72 12 $14682.12 $6,341.26 $999.80 $26,985.46 13 $14682.12 $6,531.50 $809.56 $20,453.96 14 $7,341.06 $6,727.44 $613.62 $13,726.52 15 $7,341.06 $6,929.26 $411.80 $6,797.26 16 $7,001.18 $6,797.26 $203.92 $0 Totals $117,117.08 $92,000.00 $25,117.08 Table 1 : periodic lease Rentals for 10th and 11th quarter (Source: Campbell and Shiller, 2008, pp-174) From the above, it has been found that, AFC has not been able to receive the 10th quarter and the 11th quarter money which has been adjusted in the 12 and 13th quarter by the lessee (Elmaleh, 2009). The total amount paid during the 12 and 13 the shows the double amount b paid by the company for managing the their fixed payment details (Gowthorpe, 2007). 3. Prepare Amortizations schedules for AFC DATE PAYMENT PRINCIPAL INTEREST TOTAL INTEREST BALANCE Mar. 2013 $2,633.38 $1,633.38 $1,000.00 $1,000.00 $98,366.62 Apr-13 $2,633.38 $1,649.72 $983.67 $1,983.67 $96,716.90 May-13 $2,633.38 $1,666.21 $967.17 $2,950.84 $95,050.68 Jun-13 $2,633.38 $1,682.88 $950.51 $3,901.34 $93,367.81 Jul-13 $2,633.38 $1,699.71 $933.68 $4,835.02 $91,668.10 Aug. 2013 $2,633.38 $1,716.70 $916.68 $5,751.70 $89,951.40 Sept. 2013 $2,633.38 $1,733.87 $899.51 $6,651.22 $88,217.53 Oct. 2013 $2,633.38 $1,751.21 $882.18 $7,533.39 $86,466.32 Nov. 2013 $2,633.38 $1,768.72 $864.66 $8,398.05 $84,697.60 Dec. 2013 $2,633.38 $1,786.41 $846.98 $9,245.03 $82,911.19 Jan. 2014 $2,633.38 $1,804.27 $829.11 $10,074.14 $81,106.92 Feb. 2014 $2,633.38 $1,822.31 $811.07 $10,885.21 $79,284.61 Mar. 2014 $2,633.38 $1,840.54 $792.85 $11,678.06 $77,444.07 Apr-14 $2,633.38 $1,858.94 $774.44 $12,452.50 $75,585.13 May-14 $2,633.38 $1,877.53 $755.85 $13,208.35 $73,707.60 Jun-14 $2,633.38 $1,896.31 $737.08 $13,945.42 $71,811.29 Jul-14 $2,633.38 $1,915.27 $718.11 $14,663.54 $69,896.02 Aug. 2014 $2,633.38 $1,934.42 $698.96 $15,362.50 $67,961.59 Sept. 2014 $2,633.38 $1,953.77 $679.62 $16,042.11 $66,007.83 Oct. 2014 $2,633.38 $1,973.31 $660.08 $16,702.19 $64,034.52 Nov. 2014 $2,633.38 $1,993.04 $640.35 $17,342.54 $62,041.48 Dec. 2014 $2,633.38 $2,012.97 $620.41 $17,962.95 $60,028.51 Jan. 2015 $2,633.38 $2,033.10 $600.29 $18,563.24 $57,995.42 Feb. 2015 $2,633.38 $2,053.43 $579.95 $19,143.19 $55,941.99 Mar. 2015 $2,633.38 $2,073.96 $559.42 $19,702.61 $53,868.02 Apr-15 $2,633.38 $2,094.70 $538.68 $20,241.29 $51,773.32 May-15 $2,633.38 $2,115.65 $517.73 $20,759.02 $49,657.67 Jun-15 $2,633.38 $2,136.81 $496.58 $21,255.60 $47,520.86 Jul-15 $2,633.38 $2,158.17 $475.21 $21,730.81 $45,362.69 Aug. 2015 $2,633.38 $2,179.76 $453.63 $22,184.44 $43,182.93 Sept. 2015 $2,633.38 $2,201.55 $431.83 $22,616.27 $40,981.38 Oct. 2015 $2,633.38 $2,223.57 $409.81 $23,026.08 $38,757.81 Nov. 2015 $2,633.38 $2,245.81 $387.58 $23,413.66 $36,512.00 Dec. 2015 $2,633.38 $2,268.26 $365.12 $23,778.78 $34,243.74 Jan. 2016 $2,633.38 $2,290.95 $342.44 $24,121.22 $31,952.79 Feb. 2016 $2,633.38 $2,313.86 $319.53 $24,440.74 $29,638.94 Mar. 2016 $2,633.38 $2,336.99 $296.39 $24,737.13 $27,301.94 Apr-16 $2,633.38 $2,360.36 $273.02 $25,010.15 $24,941.58 May-16 $2,633.38 $2,383.97 $249.42 $25,259.57 $22,557.61 Jun-16 $2,633.38 $2,407.81 $225.58 $25,485.14 $20,149.80 Jul-16 $2,633.38 $2,431.89 $201.50 $25,686.64 $17,717.92 Aug. 2016 $2,633.38 $2,456.20 $177.18 $25,863.82 $15,261.71 Sept. 2016 $2,633.38 $2,480.77 $152.62 $26,016.44 $12,780.95 Oct. 2016 $2,633.38 $2,505.57 $127.81 $26,144.25 $10,275.37 Nov. 2016 $2,633.38 $2,530.63 $102.75 $26,247.00 $7,744.74 Dec. 2016 $2,633.38 $2,555.94 $77.45 $26,324.45 $5,188.81 Jan. 2017 $2,633.38 $2,581.50 $51.89 $26,376.34 $2,607.31 Feb. 2017 $2,633.38 $2,607.31 $26.07 $26,402.41 $0.00 Table 2: Amortizations schedules for AFC (Source: Hashemi, 2008, pp-22) 4. Income for the three months Quarter Payment Principal Paid Interest Paid Remaining Balance 1 $7,341.06 $4,581.06 $2,760.00 $87,418.94 2 $7,341.06 $4,718.49 $2,622.57 $82,700.45 3 $7,341.06 $4,860.05 $2,481.01 $77,840.40 77840.40/90 days =864.89 From the above, it has been found that, quarterly income earned by the AFC is 864.89 per month for the 3 month. (Fleming and Vasigh, 2010). 5. Calculate the AFC monthly income for March 2013 15 February 15 march 2013 = 73416/2 =$36708 The income earned in March 15 2013 is 36708. 6. Rate of returns from the contract Price of car =1000,00 Residual income= 10,000 Lease term= 48 months Interest rate= 12% Equals = 12000 Money factors is =0.0029 Depreciations = net cap cost residual / term = 1000,00-10,000/48 =1875 Lease Options given by AFC Ltd Amount$ Asset Cost 100,000 residual value 10,000 total residual value 90,000 depreciation 48 Monthly Depreciation 1875 net capitalization cost 1000,00 Plus residual income 10,000 total residual value 110,000 time money factors 0.00125 equals money factors 137.5 monthly depreciation payment 1875 plus money factor 41 equals bottom line lease payments 1916 7. Accounting Entries for AFC lease constructing Particulars Debit Credit Fixed asset 100,000 Lease liability 92000 Cash 8000 8. Prepare accounting entries at the time of receipt of firsts rentals For AFC Particulars Debit Credit Lease liability $7,341.06 Interest $2,760.00 Cash 10101.06 9. AFC default in payments The AFC defaults 2nd defaults $7,341.06 $4,718.49 $2,622.57 $82,700.45 3rd defaults $7,341.06 $4,860.05 $2,481.01 $77,840.40 $82,700.450*17%=14059.07 $77,840.40*17%=13232.86 = 27291.93 Quarter Payment Principal Paid Interest Paid Remaining Balance Interest penalty 20% 1 $7,341.06 $4,581.06 $2,760.00 $87,418.94 2 $7,341.06 $4,718.49 $2,622.57 $82,700.45 3 $7,341.06 $4,860.05 $2,481.01 $77,840.40 4 $7,341.06 $5,005.85 $2,335.21 $72,834.55 14566.91 5 $7,341.06 $5,156.02 $2,185.04 $67,678.53 6 $7,341.06 $5,310.70 $2,030.36 $62,367.83 7 $7,341.06 $5,470.03 $1,871.03 $56,897.80 8 $7,341.06 $5,634.13 $1,706.93 $51,263.67 10252.73 9 $7,341.06 $5,803.15 $1,537.91 $45,460.52 10 $7,341.06 $5,977.24 $1,363.82 $39,483.28 11 $7,341.06 $6,156.56 $1,184.50 $33,326.72 12 $14682.12 $6,341.26 $999.80 $26,985.46 5397.092 13 $14682.12 $6,531.50 $809.56 $20,453.96 14 $7,341.06 $6,727.44 $613.62 $13,726.52 15 $7,341.06 $6,929.26 $411.80 $6,797.26 16 $7,001.18 $6,797.26 $203.92 $0 Total penalty paid 30216.732 Reference list Books Brigham, E., and Houston, J., (2009) Fundamentals of Financial Management. 5th ed. 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