Question & Answer

On January 1, 2014, 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, 2014. 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.  itle 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.

(b) Prepare the journal entry or entries that should be recorded on January 1, 2014, by Cage Company.

(c) Prepare the journal entry to record depreciation of the leased asset for the year 2014.

(d) Prepare the journal entry to record the interest expense for the year 2014.

(e) Prepare the journal entry to record the lease payment of January 1, 2015, assuming reversing entries

are not made.

(f) What amounts will appear on the lessee’s December 31, 2014, balance sheet relative to the lease

contract?

Ludwick Steel Company as lessee signed a lease agreement for equipment for 5 years, beginning December 31, 2014. Annual rental payments of $40,000 are to be made at the beginning of each lease year (December 31). The taxes, insurance, and the maintenance costs are the obligation of the lessee. The interest rate used by the lessor in settingthe payment schedule is 9%; Ludwick’s incremental borrowing rate is 10%. Ludwick is unaware of the rate being used by the lessor. At the end of the lease, Ludwick has the option to buy the equipment for $1, considerably below its estimated fair value at that time. The equipment has an estimated useful life of 7 years, with no salvage value. Ludwick uses the straight-line method of depreciation on similar ownedequipment.

Instructions

(a) Prepare the journal entry or entries, with explanations, that should be recorded on December 31, 2014, by Ludwick.

(b) Prepare the journal entry or entries, with explanations, that should be recorded on December 31, 2015, by Ludwick. (Prepare the lease amortization schedule for all five payments.)

(c) Prepare the journal entry or entries, with explanations, that should be recorded on December 31, 2016, by Ludwick.

(d) What amounts would appear on Ludwick’s December 31, 2016, balance sheet relative to the lease arrangement?

The following facts pertain to a noncancelable lease agreement between Faldo Leasing Company and Vance Company, a lessee. Inception date January 1, 2014 Annual lease payment due at the beginning of each year, beginning with January 1, 2014 $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, 2014 $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 straight-line depreciation method for all equipment.

Instructions

(a) Prepare an amortization schedule that would be suitable for the lessee for the lease term.

(b) Prepare all of the journal entries for the lessee for 2014 and 2015 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.

Assume the same information as in P21-4.

Instructions

(a) Assuming the lessor’s accounting period ends on September 30, answer the following questions with respect to this lease agreement.

(1) What items and amounts will appear on the lessor’s income statement for the year ending September 30, 2015?

(2) What items and amounts will appear on the lessor’s balance sheet at September 30, 2015?

(3) What items and amounts will appear on the lessor’s income statement for the year ending September 30, 2016?

(4) What items and amounts will appear on the lessor’s balance sheet at September 30, 2016?

(b) Assuming the lessor’s accounting period ends on December 31, answer the following questions with respect to this lease agreement.

(1) What items and amounts will appear on the lessor’s income statement for the year ending December 31, 2014?

(2) What items and amounts will appear on the lessor’s balance sheet at December 31, 2014?

(3) What items and amounts will appear on the lessor’s income statement for the year ending December 31, 2015?

(4) What items and amounts will appear on the lessor’s balance sheet at December 31, 2015?

The following facts pertain to a noncancelable lease agreement between Alschuler Leasing Company and McKee Electronics, a lessee, for a computer system.

Inception date October 1, 2014

Lease term 6 years

Economic life of leased equipment 6 years

Fair value of asset at October 1, 2014 $300,383

Residual value at end of lease term –0–

Lessor’s implicit rate 10%

Lessee’s incremental borrowing rate 10%

Annual lease payment due at the beginning of each year, beginning with October 1, 2014 $62,700

The collectibility of the lease payments is reasonably predictable, and there are no important uncertainties surrounding the costs yet to be incurred by the lessor. The lessee assumes responsibility for all executor costs, which amount to $5,500 per year and are to be paid each October 1, beginning October 1, 2014. (This $5,500 is not included in the rental payment of $62,700.) The asset will revert to the lessor at the end of the lease term. The straight-line depreciation method is used for all equipment.

The following amortization schedule has been prepared correctly for use by both the lessor and the lessee in accounting for this lease. The lease is to be accounted for properly as a capital lease by the lessee and as a direct-financing lease by the lessor.

Annual

Lease Interest (10%) Reduction Balance of

Payment/ on Unpaid of Lease Lease

Date Receipt Liability/Receivable Liability/Receivable Liability/Receivable

10/01/14 $300,383

10/01/14 $ 62,700 $ 62,700 237,683

10/01/15 62,700 $23,768 38,932 198,751

10/01/16 62,700 19,875 42,825 155,926

10/01/17 62,700 15,593 47,107 108,819

10/01/18 62,700 10,882 51,818 57,001

10/01/19 62,700 5,699* 57,001 –0–

$376,200 $75,817 $300,383

*Rounding error is $1.

Instructions

(a) Assuming the lessee’s accounting period ends on September 30, answer the following questions with respect to this lease agreement.

(1) What items and amounts will appear on the lessee’s income statement for the year ending September 30, 2015?

(2) What items and amounts will appear on the lessee’s balance sheet at September 30, 2015?

(3) What items and amounts will appear on the lessee’s income statement for the year ending September 30, 2016?

(4) What items and amounts will appear on the lessee’s balance sheet at September 30, 2016?

(b) Assuming the lessee’s accounting period ends on December 31, answer the following questions with respect to this lease agreement.

(1) What items and amounts will appear on the lessee’s income statement for the year ending December 31, 2014?

(2) What items and amounts will appear on the lessee’s balance sheet at December 31, 2014?

(3) What items and amounts will appear on the lessee’s income statement for the year ending December 31, 2015?

(4) What items and amounts will appear on the lessee’s balance sheet at December 31, 2015?

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, 2014, and requires annual rental payments of $413,971 each January 1, starting January 1, 2014. 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.

(b) Prepare the journal entry or entries to record the transaction on January 1, 2014, on the books of Winston Industries.

(c) Prepare the journal entry or entries to record the transaction on January 1, 2014, on the books of

Ewing Inc.

(d) Prepare the journal entries for both the lessee and lessor to record the first rental payment on

January 1, 2014.

(e) Prepare the journal entries for both the lessee and lessor to record interest expense (revenue) at

December 31, 2014. (Prepare a lease amortization schedule for 2 years.)

(f) Show the items and amounts that would be reported on the balance sheet (not notes) at December 31, 2014, for both the lessee and the lessor.

Cleveland Inc. leased a new crane to Abriendo Construction under a 5-year noncancelable contract starting January 1, 2014. Terms of the lease require payments of $33,000 each January 1, starting January 1, 2014. Cleveland will pay insurance, taxes, and maintenance charges on the crane, which has an estimated life of 12 years, a fair value of $240,000, and a cost to Cleveland of $240,000. The estimated fair value of the crane is expected to be $45,000 at the end of the lease term. No bargain-purchase or renewal options are included in the contract. Both Cleveland and Abriendo adjust and close books annually at December 31. Collectibility of the lease payments is reasonably certain, and no uncertainties exist relative to unreimbursable lessor costs. Abriendo’s incremental borrowing rate is 10%,and Cleveland’s implicit interest rate of 9% is known to Abriendo.

Instructions

(a) Identify the type of lease involved and give reasons for your classification. Discuss the accounting treatment that should be applied by both the lessee and the lessor.

(b) Prepare all the entries related to the lease contract and leased asset for the year 2014 for the lessee and lessor, assuming the following amounts.

(1) Insurance $500.

(2) Taxes $2,000.

(3) Maintenance $650.

(4) Straight-line depreciation and salvage value $15,000.

(c) Discuss what should be presented in the balance sheet, the income statement, and the related notes of both the lessee and the lessor at December 31, 2014.

Glaus Leasing Company agrees to lease machinery to Jensen Corporation on January 1, 2014. 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, 2014, 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, 2014.

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.)

(a) Discuss the nature of this lease for both the lessee and the lessor.

(b) Calculate the amount of the annual rental payment required.

(c) Compute the present value of the minimum lease payments.

(d) Prepare the journal entries Jensen would make in 2014 and 2015 related to the lease arrangement.

(e) Prepare the journal entries Glaus would make in 2014 and 2015.

Presented below are four independent situations.

(a) On December 31, 2014, Zarle Inc. sold computer equipment to Daniell Co. and immediately leased it back for 10 years. The sales price of the equipment was $520,000, its carrying amount is $400,000, and its estimated remaining economic life is 12 years. Determine the amount of deferred revenue to be reported from the sale of the computer equipment on December 31, 2014.

(b) On December 31, 2014, Wasicsko Co. sold a machine to Cross Co. and simultaneously leased it back for one year. The sale price of the machine was $480,000, the carrying amount is $420,000, and it had an estimated remaining useful life of 14 years. The present value of the rental payments for the one  year is $35,000. At December 31, 2014, how much should Wasicsko report as deferred revenue from the sale of the machine?

(c) On January 1, 2014, McKane Corp. sold an airplane with an estimated useful life of 10 years. At the same time, McKane leased back the plane for 10 years. The sales price of the airplane was $500,000, the carrying amount $379,000, and the annual rental $73,975.22. McKane Corp. intends to depreciate the leased asset using the sum-of-the-years’-digits depreciation method. Discuss how the gain on the sale should be reported at the end of 2014 in the financial statements.

(d) On January 1, 2014, Sondgeroth Co. sold equipment with an estimated useful life of 5 years. At the same time, Sondgeroth leased back the equipment for 2 years under a lease classified as an operating lease. The sales price (fair value) of the equipment was $212,700, the carrying amount is $300,000, the monthly rental under the lease is $6,000, and the present value of the rental payments is $115,753.

For the year ended December 31, 2014, determine which items would be reported on its income statement for the sale-leaseback transaction.

Assume that on January 1, 2014, 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 insure a rate of return of 10%.

5. The computer has a fair value of $680,000 on January 1, 2014, 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 2014 to reflect the sale and leaseback agreement. No uncertainties exist, and collectibility is reasonably certain.

On February 20, 2014, 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, 2014, 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 2014.

Instructions

(a) What expense should Rudy Company record as a result of the facts above for the year ended December 31, 2014? Show supporting computations in good form.

(b) What income or loss before income taxes should Brent record as a result of the facts above for the year ended December 31, 2014? (Hint: Amortize commissions over the life of the lease.)

On January 1, 2014, 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, 2014, 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 2014 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 2014?

(b) What amount should St. Leger Inc. report for rent expense for 2014 on this lease?

On January 1, 2014, Doug Nelson Co. leased a building to Patrick Wise Inc. The relevant information related to the lease is as follows.

1. The lease arrangement is for 10 years.

2. The leased building cost $4,500,000 and was purchased for cash on January 1, 2014.

3. The building is depreciated on a straight-line basis. Its estimated economic life is 50 years with no salvage value.

4. Lease payments are $275,000 per year and are made at the end of the year.

5. Property tax expense of $85,000 and insurance expense of $10,000 on the building were incurred by Nelson in the first year. Payment on these two items was made at the end of the year.

6. Both the lessor and the lessee are on a calendar-year basis.

Instructions

(a) Prepare the journal entries that Nelson Co. should make in 2014.

(b) Prepare the journal entries that Wise Inc. should make in 2014.

(c) If Nelson paid $30,000 to a real estate broker on January 1, 2014, as a fee for finding the lessee, how much should be reported as an expense for this item in 2014 by Nelson Co.?

Laura Leasing Company signs an agreement on January 1, 2014, to lease equipment to Plote Company. The following information relates to this agreement.

1. The term of the noncancelable lease is 5 years with no renewal option. The equipment has an estimated economic life of 5 years.

2. The fair value of the asset at January 1, 2014, is $80,000.

3. The asset will revert to the lessor at the end of the lease term, at which time the asset is expected to have a residual value of $7,000, none of which is guaranteed.

4. Plote Company assumes direct responsibility for all executory costs, which include the following annual amounts: (1) $900 to Rocky Mountain Insurance Company for insurance and (2) $1,600 to Laclede County for property taxes.

5. The agreement requires equal annual rental payments of $18,142.95 to the lessor, beginning on

January 1, 2014.

6. The lessee’s incremental borrowing rate is 12%. The lessor’s implicit rate is 10% and is known to the lessee.

7. Plote Company uses the straight-line depreciation method for all equipment.

8. Plote uses reversing entries when appropriate.

Instructions

(Round all numbers to the nearest cent.)

(a) Prepare an amortization schedule that would be suitable for the lessee for the lease term.

(b) Prepare all of the journal entries for the lessee for 2014 and 2015 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.

Morgan Leasing Company signs an agreement on January 1, 2014, to lease equipment to Cole Company. The following information relates to this agreement.

1. The term of the noncancelable lease is 6 years with no renewal option. The equipment has an estimated economic life of 6 years.

2. The cost of the asset to the lessor is $245,000. The fair value of the asset at January 1, 2014, is $245,000.

3. The asset will revert to the lessor at the end of the lease term, at which time the asset is expected to have a residual value of $43,622, none of which is guaranteed.

4. Cole Company assumes direct responsibility for all executory costs.

5. The agreement requires equal annual rental payments, beginning on January 1, 2014.

6. Collectibility of the lease payments is reasonably predictable. There are no important uncertainties surrounding the amount of costs yet to be incurred by the lessor.

Instructions

(Round all numbers to the nearest cent.)

(a) Assuming the lessor desires a 10% rate of return on its investment, calculate the amount of the annual rental payment required. (Round to the nearest dollar.)

(b) Prepare an amortization schedule that would be suitable for the lessor for the lease term.

(c) Prepare all of the journal entries for the lessor for 2014 and 2015 to record the lease agreement, the receipt of lease payments, and the recognition of income. Assume the lessor’s annual accounting period ends on December 31.

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

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.

(b) Prepare a lease amortization schedule for Mooney Leasing Company for the 5-year lease term.

(c) Prepare the journal entries to reflect the signing of the lease agreement and to record the receipts and income related to this lease for the years 2014, 2015, and 2016. The lessor’s accounting period ends on December 31. Reversing entries are not used by Mooney.

The following facts pertain to a noncancelable lease agreement between Mooney Leasing Company and Rode Company, a lessee.

Inception date: May 1, 2014

Annual lease payment due at the beginning of each year, beginning with May 1, 2014 $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, 2014 $91,000.00

Lessor’s implicit rate 10%

Lessee’s incremental borrowing rate 10%

The collectibility of the lease payments is reasonably predictable, and there are no important uncertainties surrounding the costs yet to be incurred by the lessor. The lessee assumes responsibility for all executor costs.

Instructions

(Round all numbers to the nearest cent.)

(a) Discuss the nature of this lease to Rode Company.

(b) Discuss the nature of this lease to Mooney Company.

(c) Prepare a lease amortization schedule for Rode Company for the 5-year lease term.

(d) Prepare the journal entries on the lessee’s books to reflect the signing of the lease agreement and to record the payments and expenses related to this lease for the years 2014 and

On January 1, 2014, Bensen Company leased equipment to Flynn Corporation. The following information pertains to this lease.

1. The term of the noncancelable lease is 6 years, with no renewal option. The equipment reverts to the lessor at the termination of the lease.

2. Equal rental payments are due on January 1 of each year, beginning in 2014.

3. The fair value of the equipment on January 1, 2014, is $150,000, and its cost is $120,000.

4. The equipment has an economic life of 8 years, with an unguaranteed residual value of $10,000.

Flynn depreciates all of its equipment on a straight-line basis.

5. Bensen set the annual rental to ensure an 11% rate of return. Flynn’s incremental borrowing rate is 12%, and the implicit rate of the lessor is unknown.

6. Collectibility of lease payments is reasonably predictable, and no important uncertainties surround the amount of costs yet to be incurred by the lessor.

Instructions

(Both the lessor and the lessee’s accounting period ends on December 31.)

(a) Discuss the nature of this lease to Bensen and Flynn.

(b) Calculate the amount of the annual rental payment.

(c) Prepare all the necessary journal entries for Flynn for 2014.

(d) Prepare all the necessary journal entries for Bensen for 

Crosley Company, a machinery dealer, leased a machine to Dexter Corporation on January 1, 2014. 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, 2014. Crosley had purchased the machine during 2013 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

(a) Compute the amount of the lease receivable.

(b) Prepare all necessary journal entries for Crosley for 2014.

Mike Macinski Leasing Company leases a new machine that has a cost and fair value of $95,000 to Sharrer Corporation on a 3-year noncancelable contract. Sharrer Corporation agrees to assume all risks of normal ownership including such costs as insurance, taxes, and maintenance. The machine has a 3-year useful life and no residual value. The lease was signed on January 1, 2014. Mike Macinski Leasing Company expects to earn a 9% return on its investment. The annual rentals are payable on each December 31.

Instructions

(a) Discuss the nature of the lease arrangement and the accounting method that each party to the lease should apply.

(b) Prepare an amortization schedule that would be suitable for both the lessor and the lessee and that covers all the years involved.

Castle Leasing Company signs a lease agreement on January 1, 2014, 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 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

(a) 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 2014 and 2015.

(b) Assuming that Jan Way Company exercises its option to purchase the equipment on December 31,

2015, prepare the journal entry to reflect the sale on Castle’s books.

Assume that on January 1, 2014, Kimberly-Clark Corp. signs a 10-year noncancelable lease agreement to lease a storage building from Sheffield Storage Company. The following information pertains to this lease agreement.

1. The agreement requires equal rental payments of $72,000 beginning on January 1, 2014.

2. The fair value of the building on January 1, 2014 is $440,000.

3. The building has an estimated economic life of 12 years, with an unguaranteed residual value of $10,000. Kimberly-Clark depreciates similar buildings on the straight-line method.

4. The lease is nonrenewable. At the termination of the lease, the building reverts to the lessor.

5. Kimberly-Clark’s incremental borrowing rate is 12% per year. The lessor’s implicit rate is not known by Kimberly-Clark.

6. The yearly rental payment includes $2,471 of executory costs related to taxes on the property.

Instructions

Prepare the journal entries on the lessee’s books to reflect the signing of the lease agreement and to record the payments and expenses related to this lease for the years 2014 and 2015. Kimberly-Clark’s corporate year-end is December 31.

Pat Delaney Company leases an automobile with a fair value of $8,725 from John Simon Motors, Inc., on the following terms:

1. Noncancelable term of 50 months.

2. Rental of $200 per month (at end of each month). (The present value at 1% per month is $7,840.)

3. Estimated residual value after 50 months is $1,180. (The present value at 1% per month is $715.)

Delaney Company guarantees the residual value of $1,180.

4. Estimated economic life of the automobile is 60 months.

5. Delaney Company’s incremental borrowing rate is 12% a year (1% a month). Simon’s implicit rate is unknown.

Instructions

(a) What is the nature of this lease to Delaney Company?

(b) What is the present value of the minimum lease payments?

(c) Record the lease on Delaney Company’s books at the date of inception.

(d) Record the first month’s depreciation on Delaney Company’s books (assume straight-line).

(e) Record the first month’s lease payment.

On January 1, 2014, Burke Corporation signed a 5-year noncancelable lease for a machine. The terms of the lease called for Burke to make annual payments of $8,668 at the beginning of each year, starting January 1, 2014. The machine has an estimated useful life of 6 years and a $5,000 unguaranteed residual value. The machine reverts back to the lessor at the end of the lease term. Burke uses the straight-line method of depreciation for all of its plant assets. Burke’s incremental borrowing rate is 10%, and the Lessor’s implicit rate is unknown.

Instructions

(a) What type of lease is this? Explain.

(b) Compute the present value of the minimum lease payments.

(c) Prepare all necessary journal entries for Burke for this lease through January 1, 2015.

On January 1, 2014, Irwin Animation sold a truck to Peete Finance for $33,000 and immediately leased it back. The truck was carried on Irwin’s books at $28,000. The term of the lease is 5 years, and title transfers to Irwin at lease-end. The lease requires five equal rental payments of $8,705 at the end of each year. The appropriate rate of interest is 10%, and the truck has a useful life of 5 years with no salvage value. Prepare Irwin’s 2014 journal entries.