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Chapter 21: Q1Q (page 1239)

What are the major lessor groups in the United States? What advantage does a captive have in a leasing arrangement?

Short Answer

Expert verified

The major lessor groups in the United States are banks, captives, and independents. The captive (lessor) has the product knowledge which gives it an advantage when financing the parents’ product.

Step by step solution

01

Meaning of Lease Agreement

A lease arrangement refers to a lease contract recognizing a similar arrangementfor a specified period in which the lessee is expected to pay the lessor, in whole or in part, for the use of the lease for a specified.

02

Explaining the major lessor groups in the United States and the advantage a captive has in a leasing arrangement.

Lessors in the United States are primarily divided into three groups: banks, captives, and independents. A captive's point-of-sale advantage makes it easier to find leasing clients. As soon as a parent receives a potential order, its leasing subsidiary may devise a lease financing plan.

As an added advantage, the captive (lessor) has product expertise, allowing it to finance parents' goods more easily. The focus of captives is increasingly more on the company's products than on the broad lease financings.

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Most popular questions from this chapter

Indiana Jones Corporation enters into a 6-year lease of equipment on January 1, 2017, which requires 6 annual payments of \(40,000 each, beginning January 1, 2017. In addition, Indiana Jones guarantees the lessor a residual value of \)20,000 at lease-end. The equipment has a useful life of 6 years. Prepare Indiana Jones’ January 1, 2017, journal entries assuming an interest rate of 10%.

Question: (Lessee Entries and Balance Sheet Presentation, Capital Lease) On January 1, 2017, Cage Company contracts to lease equipment for 5 years, agreeing to make a payment of \(137,899 (including the executory costs of \)6,000) at the beginning of each year, starting January 1, 2017. The taxes, the insurance, and the maintenance, estimated at \(6,000 a year, are the obligations of the lessee. The leased equipment is to be capitalized at \)550,000. The asset is to be depreciated on a double-declining-balance basis, and the obligation is to be reduced on an effective-interest basis. Cage’s incremental borrowing rate is 12%, and the implicit rate in the lease is 10%, which is known by Cage. Title to the equipment transfers to Cage when the lease expires. The asset has an estimated useful life of 5 years and no residual value.

Instructions

(a) Explain the probable relationship of the $550,000 amount to the lease arrangement.

(Lessee Entries, Capital Lease with Monthly Payments) Shapiro Inc. was incorporated in 2016 to operate as a computer software service firm with an accounting fiscal year ending August 31. Shapiro’s primary product is a sophisticated online inventory-control system; its customers pay a fixed fee plus a usage charge for using the system.

Shapiro has leased a large, Alpha-3 computer system from the manufacturer. The lease calls for a monthly rental of \(40,000 for the 144 months (12 years) of the lease term. The estimated useful life of the computer is 15 years.

Each scheduled monthly rental payment includes \)3,000 for full-service maintenance on the computer to be performed by the manufacturer. All rentals are payable on the first day of the month beginning with August 1, 2017, the date the computer was installed and the lease agreement was signed. The lease is noncancelable for its 12-year term, and it is secured only by the manufacturer’s chattel lien on the Alpha-3 system.

This lease is to be accounted for as a capital lease by Shapiro, and it will be depreciated by the straight-line method with no expected salvage value. Borrowed funds for this type of transaction would cost Shapiro 12% per year (1% per month). Following is a schedule of the present value of \(1 for selected periods discounted at 1% per period when payments are made at the beginning of each period.

Periods Present (months)

Present Value of \)1 per Period Discounted at 1% per Period

1

1.000

2

1.990

3

2.970

143

76.658

144

76.899

Instructions

Prepare all entries Shapiro should have made in its accounting records during August 2017 relating to this lease. Give full explanations and show supporting computations for each entry. Remember, August 31, 2017, is the end of Shapiro’s fiscal accounting period and it will be preparing financial statements on that date. Do not prepare closing entries.

A lease agreement between Mooney Leasing Company and Rode Company is described in E21-8.

Inception date

May 1, 2017

Annual lease payment due at the beginning

of each year, beginning with May 1, 2017

\(21,227.65

Bargain-purchase option price at end of lease term

\) 4,000.00

Lease term

5 years

Economic life of leased equipment

10 years

Lessor’s cost

\(65,000.00

Fair value of asset at May 1, 2017

\)91,000.00

Lessor’s implicit rate

10%

Lessee’s incremental borrowing rate

10%

Instructions

(Round all numbers to the nearest cent.) Refer to the data in E21-8 and do the following for the lessor.

(a) Compute the amount of the lease receivable at the inception of the lease.

(Operating Lease for Lessee and Lessor) On February 20, 2017, Barbara Brent Inc. purchased a machine for \(1,500,000 for the purpose of leasing it. The machine is expected to have a 10-year life, no residual value, and will be depreciated on the straight-line basis. The machine was leased to Rudy Company on March 1, 2017, for a 4-year period at a monthly rental of \)19,500. There is no provision for the renewal of the lease or purchase of the machine by the lessee at the expiration of the lease term. Brent paid $30,000 of commissions associated with negotiating the lease in February 2017.

Instructions

(b) What income or loss before income taxes should Brent record as a result of the facts above for the year ended December 31, 2017? (Hint: Amortize commissions over the life of the lease.)
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