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Chapter 21: 3P_b (page 1245)

Winston Industries and Ewing Inc. enter into an agreement that requires Ewing Inc. to build three diesel-electric engines to Winston’s specifications. Upon completion of the engines, Winston has agreed to lease them for a period of 10 years and to assume all costs and risks of ownership. The lease is noncancelable, becomes effective on January 1, 2017, and requires annual rental payments of \(413,971 each January 1, starting January 1, 2017.

Winston’s incremental borrowing rate is 10%. The implicit interest rate used by Ewing Inc. and known to Winston is 8%. The total cost of building the three engines is \)2,600,000. The economic life of the engines is estimated to be 10 years, with residual value set at zero. Winston depreciates similar equipment on a straight-line basis. At the end of the lease, Winston assumes title to the engines. Collectibility of the lease payments is reasonably certain; no uncertainties exist relative to unreimbursable lessor costs.

Instructions

(b) Prepare the journal entry or entries to record the transaction on January 1, 2017, on the books of Winston Industries.

Short Answer

Expert verified

Lease Liability is $3,000,000.

Step by step solution

01

Meaning of Lease Liability

Lease liability means the amount of the lease liability in respect of any lease that would be required to be included in the statement of financial position prepared in accordance with the IFRS at the time of any determination and shall have a maturity period before the first date of such lease.

02

Preparing Journal Entries

Date

Particular

Debit ($)

Credit ($)

Leased Equipment

3,000,000

Lease Liability

3,000,000

Working Notes:

Calculation of Leased Equipment value

Leaseequipment=Annualrental×Presentvalueofannuity=$413,917×7.24689=$3,000,000

Note: Present value of an annuity due at 8% for 10 years, rounded by $2.

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Most popular questions from this chapter

Lessor Computations and Entries, Sales-Type Lease with Guaranteed Residual Value) Amirante Inc. manufactures an X-ray machine with an estimated life of 12 years and leases it to Chambers Medical Center for a period of 10 years. The normal selling price of the machine is \(411,324, and its guaranteed residual value at the end of the noncancelable lease term is estimated to be \)15,000. The hospital will pay rents of \(60,000 at the beginning of each year and all maintenance, insurance, and taxes. Amirante Inc. incurred costs of \)250,000 in manufacturing the machine and $14,000 in negotiating and closing the lease. Amirante Inc. has determined that the collectibility of the lease payments is reasonably predictable, that there will be no additional costs incurred, and that the implicit interest rate is 10%.

Instructions

(a) Discuss the nature of this lease in relation to the lessor and compute the amount of each of the following items.

(3) Cost of sales.

(Lessor Entries; Direct-Financing Lease with Option to Purchase) Castle Leasing Company signs a lease agreement on January 1, 2017, to lease electronic equipment to Jan Way Company. The term of the noncancelable lease is 2 years, and payments are required at the end of each year. The following information relates to this agreement:

  1. Jan Way Company has the option to purchase the equipment for \(16,000 upon termination of the lease.
  2. The equipment has a cost and fair value of \)160,000 to Castle Leasing Company. The useful economic life is 2 years, with a salvage value of \(16,000.
  3. Jan Way Company is required to pay \)5,000 each year to the lessor for executory costs.
  4. Castle Leasing Company desires to earn a return of 10% on its investment.
  5. Collectibility of the payments is reasonably predictable, and there are no important uncertainties surrounding the costs yet to be incurred by the lessor.

Instructions

  1. Prepare the journal entries on the books of Castle Leasing to reflect the payments received under the lease and to recognize income for the years 2017 and 2018.

(Lessee Computations and Entries, Capital Lease with Guaranteed Residual Value) Assume the same data as in P21-13 and that Chambers Medical Center has an incremental borrowing rate of 10%.

Lessor Computations and Entries, Sales-Type Lease with Guaranteed Residual Value) Amirante Inc. manufactures an X-ray machine with an estimated life of 12 years and leases it to Chambers Medical Center for a period of 10 years. The normal selling price of the machine is \(411,324, and its guaranteed residual value at the end of the noncancelable lease term is estimated to be \)15,000. The hospital will pay rents of \(60,000 at the beginning of each year and all maintenance, insurance, and taxes. Amirante Inc. incurred costs of \)250,000 in manufacturing the machine and $14,000 in negotiating and closing the lease. Amirante Inc. has determined that the collectibility of the lease payments is reasonably predictable, that there will be no additional costs incurred, and that the implicit interest rate is 10%.

Instructions

b) Prepare a 10-year lease amortization schedule.

Winston Industries and Ewing Inc. enter into an agreement that requires Ewing Inc. to build three diesel-electric engines to Winston’s specifications. Upon completion of the engines, Winston has agreed to lease them for a period of 10 years and to assume all costs and risks of ownership. The lease is noncancelable, becomes effective on January 1, 2017, and requires annual rental payments of \(413,971 each January 1, starting January 1, 2017.

Winston’s incremental borrowing rate is 10%. The implicit interest rate used by Ewing Inc. and known to Winston is 8%. The total cost of building the three engines is \)2,600,000. The economic life of the engines is estimated to be 10 years, with residual value set at zero. Winston depreciates similar equipment on a straight-line basis. At the end of the lease, Winston assumes title to the engines. Collectibility of the lease payments is reasonably certain; no uncertainties exist relative to unreimbursable lessor costs.

Instructions

(a) Discuss the nature of this lease transaction from the viewpoints of both lessee and lessor.

Jana Kingston Corporation enters into a lease on January 1, 2017, that does not transfer ownership or contain a bargain-purchase option. It covers 3 years of the equipment’s 8-year useful life, and the present value of the minimum lease payments is less than 90% of the fair value of the asset leased. Prepare Jana Kingston’s journal entry to record its January 1, 2017, annual lease payment of $35,000.
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