Acc 310 Ch. 21 Exercises-E21-2 (Lessee Computations and Entries, Finance Lease with GuaranteedResidual Value)Brecker Company leases an automobile with a fair value of 10,906 fromEmporia Motors, Inc., on the following terms:1. Non-cancelable term of 50 months.2. Rental of 250 per month (at end of each month). (The present value at 1%per month is 9,800.)3. Estimated residual value after 50 months is 1,180. (The present value at 1%per month is 715.). Brecker Company guarantees the residual value of 1,180.4. Estimated economic life of the automobile is 60 months.5. Brecker Companys incremental borrowing rate is 12% a year (1% a month).It is impracticable to determine Emporias implicit rate.Instructions(a) What is the nature of this lease to Brecker Company?(b) What is the present value of the minimum lease payments?(c) Record the lease on Brecker Companys books at the date of inception.(d) Record the first months depreciation on Brecker Companys books (assumestraight-line).(e) Record the first months lease payment.Answer of EXERCISE 21-2 (a)To Brecker, the lessee, this lease is a finance lease because the terms satisfythe following criteria: 1. The lease term is greater than 75% of the economic life of the leased asset;that is, the lease term is 831/3 % (50/60) of the economic life.2. The present value of the minimum lease payments is greater than 90%of the fair value of the leased asset; that is, the present value of 10,515(see below) amounts to substantially all (96%) of the fair value of theleased asset: (b)The minimum lease payments in the case of a guaranteed residual value bythe lessee include the guaranteed residual value. The present value therefore is:Monthly payment of 250 for 50 months .. 9,800Residual value of 1,180 715Present value of minimum lease payments .. 10,515(c) Leased Equipment 10,515Lease Liability . 10,515(d) Depreciation Expense . 186.70Accumulated DepreciationLeased Equipment[(10,515 1,180) ÷ 50 months = 186.70] .. 186.70(e) Lease Liability 144.85Interest Expense (1% X 10,515) 105.15Cash . 250.00E21-3 (Lessee Entries, Finance Lease with Executory Costs andUnguaranteed Residual Value)Assume that on January 1, 2015, Stora Enso (FIN) signs a 10-year, noncancelable lease agreement to lease a storage building from Balesteros StorageCompany. The following information pertains to this lease agreement.1. The agreement requires equal rental payments of 90,000 beginning on January1, 2015.2. The fair value of the building on January 1, 2015, is 550,000.3. The building has an estimated economic life of 12 years, with an unguaranteedresidual value of 10,000. Stora Enso depreciates similar buildings on thestraight-line method.4. The lease is non-renewable. At the termination of the lease, the building revertsto the lessor.5. Stora Ensos incremental borrowing rate is 12% per year. It is impracticable todetermine the lessors implicit rate.6. The yearly rental payment includes 3,088.14 of executory costs related totaxes on the property.InstructionsPrepare the journal entries on the lessees books to reflect the signing of the leaseagreement and to record the payments and expenses related to this lease for theyears 2015 and 2016. Stora Ensos corporate yearend is December 31.Answer of EXERCISE 21-3Capitalized amount of the lease:Yearly payment 90,000.00Executory costs . (3,088.14)Minimum annual lease payment . 86,911.86Present value of minimum lease payments86,911.86 X 6.32825 = 550,000.00Lease Amortization Schedule (Lessee) DateAnnual PaymentLess ExecutoryCostsInterest (12%)on LiabilityReductionof LeaseLiabilityLease Liability1/1/15550,000.001/1/1586,911.86 086,911.86463,088.141/1/1686,911.8655,570.5831,341.28431,746.861/1/1786,911.8651,809.6235,102.24396,644.62 1/1/15 Leased Building .. 550,000.00Lease Liability .. 550,000.001/1/15 Property Tax Expense . 3,088.14Lease Liability . 86,911.86Cash 90,000.0012/31/15 Depreciation Expense .. 55,000.00Accumulated Depreciation-Leased Building(550,000 ÷ 10) .. 55,000.0012/31/15 Interest Expense(See Schedule 1) 55,570.58Interest Payable 55,570.581/1/16 Property Tax Expense .. 3,088.14Interest Payable 55,570.58Lease Liability . 31,341.28Cash 90,000.0012/31/16 Depreciation Expense .. 55,000.00Accumulated DepreciationLeased Building . 55,000.0012/31/16 Interest Expense .. 51,809.62Interest Payable 51,809.62E21-4 (Lessor Entries, Direct-Financing Lease with Option to Purchase)Krauss Leasing Company signs a lease agreement on January 1, 2015, to leaseelectronic equipment to Stewart Company. The term of the non-cancelable leaseis 2 years, and payments are required at the end of each year. The followinginformation relates to this agreement.1. Stewart has the option to purchase the equipment for £16,000 upon terminationof the lease.2. The equipment has a cost and fair value of £240,000 to Krauss LeasingCompany. The useful economic life is 2 years, with a residual value of £16,000.3. Stewart Company is
required to pay £7,000 each year to the lessor forexecutory costs.4. Krauss Leasing Company desires to earn a return of 10% on its investment.Instructions(a) Prepare the journal entries on the books of Krauss Leasing to reflect thepayments received underthe lease and to recognize income for the years 2015 and 2016.(b) Assuming that Stewart Company exercises its option to purchase theequipment on December 31,2016, prepare the journal entry to reflect the sale on Krausss books.Computation of annual paymentsCost (fair value) of leased asset to lessor ..£240,000.00Less: Present value of residual value (residual value in this case)£16,000 X .82645(Present value of 1 at 10% for 2 periods) . 13,223.20Amount to be recovered through lease payments ..£226,776.80Two periodic lease payments £226,776.80 ÷ 1.73554* .£130,666.42*Present value of an ordinary annuity of 1 for 2 periods at 10%KRAUSS LEASING COMPANY (Lessor)Lease Amortization Schedule DateAnnual PaymentLess ExecutoryCostsInterest onLeaseReceivableRecoveryof LeaseReceivableLeaseReceivable1/1/15£240,000.0012/31/15£130,666.42*£24,000.00£106,666.42133,333.5812/31/16130,666.42* 13,332.84*117,333.5816,000.00*£37,332.84 *Difference of £.52 due to rounding.(a) 1/1/15 Lease Receivable . 240,000.00Equipment . 240,000.00 12/31/15Cash (£130,666.42 + £7,000) ..Property Taxes Payable .137,666.427,000.00 Lease Receivable .. 106,666.42Interest Revenue 24,000.0012/31/16 Cash 137,666.42Property Taxes Payable 7,000.00Lease Receivable .. 117,333.58Interest Revenue 13,332.84(b) 12/31/16 Cash . 16,000.00Lease Receivable 16,000.00E21-11 (Amortization Schedule and Journal Entries for Lessee)Demir Leasing Company signs an agreement on January 1, 2015, to leaseequipment to Azure Company. The following information relates to thisagreement.1. The term of the non-cancelable lease is 5 years with no renewal option. Theequipment has an estimated economic life of 5 years.2. The fair value of the asset at January 1, 2015, is 90,000.3. The asset will revert to the lessor at the end of the lease term, at which time theasset is expected to have a residual value of 7,000, none of which is guaranteed.4. Azure Company assumes direct responsibility for all executory costs, whichinclude the following annual amounts: (1) 900 to Frontier Insurance Companyfor insurance and (2) 1,600 for property taxes.5. The agreement requires equal annual rental payments of 20,541.11 to thelessor, beginning on January 1, 2015.6. The lessees incremental borrowing rate is 12%. The lessors implicit rate is10% and is known to the lessee.7. Azure Company uses the straight-line depreciation method for all equipment.8. Azure uses reversing entries when appropriate.Instructions(Round all numbers to two decimal places.)(a) Prepare an amortization schedule that would be suitable for the lessee for thelease term.(b) Prepare all of the journal entries for the lessee for 2015 and 2016 to recordthe lease agreement, the lease payments, and all expenses related to this lease.Assume the lessees annual accountingAnswer of EXERCISE 21-11Note: This lease is a finance lease to the lessee because the leaseterm(five years) exceeds 75% of the remaining economic life of the asset (fiveyears). Also, the present value of the minimum lease paymentsexceeds 90% of the fair value of the asset. ?20,541.11X 4.16986?85,653.55Annual rental paymentPV of an annuity due of 1 for n = 5, i = 10%PV of minimum lease payments (a) AZURE COMPANY (Lessee)Lease Amortization Schedule DateAnnual LeasePaymentInterest (10%)on LiabilityReductionof LeaseLiabilityLeaseLiability1/1/15?85,653.551/1/15? 20,541.11?20,541.1165,112.441/1/1620,541.11*? 6,511.2414,029.8751,082.571/1/1720,541.115,108.2615,432.8535,649.721/1/1820,541.113,564.9716,976.1418,673.581/1/1920,541.11* 1,867.53*18,673.580?102,705.55*?17,052.00?85,653.55 *Rounding error is ?.17. (b) 1/1/15 Leased Equipment .. 85,653.55Lease Liability . 85,653.551/1/15 Lease Liability 20,541.11Cash .. 20,541.11During 2015Insurance Expense . 900.00Cash .. 900.00Property Tax Expense .. 1,600.00Cash .. 1,600.0012/31/15Interest Expense .. 6,511.24Interest Payable . 6,511.24Depreciation Expense .. 17,130.71Accumulated DepreciationEquipment(?85,653.55 ÷ 5 = ?17,130.71) 17,130.71 1/1/16Interest Payable Interest Expense 6,511.246,511.24Interest Expense . 6,511.24Lease Liability .. 14,029.87Cash .. 20,541.11During 2016Insurance Expense . 900.00Cash .. 900.00Property Tax Expense .. 1,600.00Cash .. 1,600.00 12/31/16Interest Expense ..Interest Payable . 5,108.265,108.26Depreciation Expense .. 17,130.71Accumulated DepreciationLeased Equipment .. 17,130.71Note to instructor:1. The lessor sets the annual rental payment as follows:Fair value of leased asset to lessor ?90,000.00Less: Present value of unguaranteedresidual value ?7,000 X .62092(present value of 1 at 10% for 5 periods) 4,346.44Amount to be recovered through lease payments?85,653.56Five periodic lease payments?85,653.56 ÷ 4.16986* .?20,541.11*Present value of annuity due of 1 for 5 periods at 10%.2. The unguaranteed residual value is not subtracted when depreciatingthe leased asset.