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Chapter 21: Q21-1p-e (page 1245)

Question: Lessee-Lessor Entries, Sales-Type Lease) Glaus Leasing Company agrees to lease machinery to Jensen Corporation on January 1, 2017. The following information relates to the lease agreement.

  1. The term of the lease is 7 years with no renewal option, and the machinery has an estimated economic life of 9 years.
  2. The cost of the machinery is \(525,000, and the fair value of the asset on January 1, 2017, is \)700,000.
  3. At the end of the lease term, the asset reverts to the lessor and has a guaranteed residual value of $100,000. Jensen depreciates all of its equipment on a straight-line basis.
  4. The lease agreement requires equal annual rental payments, beginning on January 1, 2017.
  5. The collectibility of the lease payments is reasonably predictable, and there are no important uncertainties surrounding the amount of costs yet to be incurred by the lessor. 6. Glaus desires a 10% rate of return on its investments. Jensen’s incremental borrowing rate is 11%, and the lessor’s implicit rate is unknown.

Instructions

(Assume the accounting period ends on December 31.)

(e) Prepare the journal entries Glaus would make in 2017 and 2018.

Short Answer

Expert verified

Answer

The total debit and credit side of the journal is $1,576,710.

Step by step solution

01

Meaning of Lease

In exchange for one or more payments, a lessor agrees to allow a lessee to haveauthority over the use of specific property, plant, and equipment for a specified length of timeis termed a lease. Depending on whether an entity is a lessee or the lessor, there are different sorts of lease designations.

02

Preparing journal entries

Date

Particular

Debit ($)

Credit ($)

Jan.1, 2017

Lease Receivable

700,000

Cost of Goods Sold

525,000

Sales Revenue

700,000

Inventory

525,000

Jan.1, 2017

Cash

121,130

Lease Receivable

121,130

Dec. 31, 2017

Interest Receivable

57,887

Interest Revenue

57,887

Jan. 1, 2018

Cash

121,130

Lease Receivable

63,243

Interest Receivable

57,887

Dec. 31, 2018

Interest Receivable

51,563

Interest Revenue

51,563

WorkingNotes:CalculationofInterestRevenueonDec.31,2017Interestrevenue=fairvalueofmachinery-leasereceivable×rateofreturn=$700,000-$121,130×10%=$578,870×10100=$57,887CalculationofInterestRevenueonDec.31,2018Interestrevenue=fairvalueofmachinery-leasereceivable×rateofreturn=$700,000-$121,130-$63,243×10%=$515,627×10100=$51,563

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Most popular questions from this chapter

(Accounting for an Operating Lease) On January 1, 2017, a machine was purchased for \(900,000 by Young Co. The machine is expected to have an 8-year life with no salvage value. It is to be depreciated on a straight-line basis. The machine was leased to St. Leger Inc. on January 1, 2017, at an annual rental of \)210,000. Other relevant information is as follows.

  1. The lease term is for 3 years.
  2. Young Co. incurred maintenance and other executory costs of \(25,000 in 2017 related to this lease.
  3. The machine could have been sold by Young Co. for \)940,000 instead of leasing it.
  4. St. Leger is required to pay a rent security deposit of \(35,000 and to prepay the last month’s rent of \)17,500.

Instructions

(a) How much should Young Co. report as income before income tax on this lease for 2017?

(Lessee Accounting and Reporting) On January 1, 2017, Evans Company entered into a noncancelable lease for a machine to be used in its manufacturing operations. The lease transfers ownership of the machine to Evans by the end of the lease term. The term of the lease is 8 years. The minimum lease payment made by Evans on January 1, 2017, was one of eight equal annual payments. At the inception of the lease, the criteria established for classification as a capital lease by the lessee were met.

Instructions

(b) How should Evans account for this lease at its inception and determine the amount to be recorded?

(Lessor Entries; Sales-Type Lease) Crosley Company, a machinery dealer, leased a machine to Dexter Corporation on January 1, 2017. The lease is for an 8-year period and requires equal annual payments of \(35,013 at the beginning of each year. The first payment is received on January 1, 2017. Crosley had purchased the machine during 2016 for \)160,000. Collectibility of lease payments is reasonably predictable, and no important uncertainties surround the amount of costs yet to be incurred by Crosley. Crosley set the annual rental to ensure an 11% rate of return. The machine has an economic life of 10 years with no residual value and reverts to Crosley at the termination of the lease.

Instructions

  1. Compute the amount of the lease receivable.

Assume that on January 1, 2017, Elmer’s Restaurants sells a computer system to Liquidity Finance Co. for \(680,000 and immediately leases the computer system back. The relevant information is as follows.

  1. The computer was carried on Elmer’s books at a value of \)600,000.
  2. The term of the noncancelable lease is 10 years; title will transfer to Elmer.
  3. The lease agreement requires equal rental payments of \(110,666.81 at the end of each year.
  4. The incremental borrowing rate for Elmer is 12%. Elmer is aware that Liquidity Finance Co. set the annual rental to ensure a rate of return of 10%.
  5. The computer has a fair value of \)680,000 on January 1, 2017, and an estimated economic life of 10 years.
  6. Elmer pays executory costs of $9,000 per year.

Instructions

Prepare the journal entries for both the lessee and the lessor for 2017 to reflect the sale and leaseback agreement. No uncertainties exist, and collectibility is reasonably certain.

Question: The following facts pertain to a noncancelable lease agreement between Faldo Leasing Company and Vance Company, a lessee.

Inception date

January 1, 2017

Annual lease payment due at the beginning of each year, beginning with January 1, 2017

\(124,798

Residual value of equipment at end of lease term, guaranteed by the lessee

\)50,000

Lease term

6 years

Economic life of leased equipment

6 years

Fair value of asset at January 1, 2017

\(600,000

Lessor’s implicit rate

12%

Lessee’s incremental borrowing rate

12%

The lessee assumes responsibility for all executory costs, which are expected to amount to \)5,000 per year. The asset will revert to the lessor at the end of the lease term. The lessee has guaranteed the lessor a residual value of $50,000. The lessee uses the straightline depreciation method for all equipment.

Instructions

(b) Prepare all of the journal entries for the lessee for 2017 and 2018 to record the lease agreement, the lease payments, and all expenses related to this lease. Assume the lessee’s annual accounting period ends on December 31 and reversing entries are used when appropriate.
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