Question

Problem 15-4 Finance/sales-type lease; lessee and lessor [LO15-1, 15-2, 15-3] Rand Medical manufactures lithotripters. Lithotripsy uses shock waves instead of surgery to eliminate kidney stones. Physicians’ Leasing purchased a lithotripter from Rand for $1,750,000 and leased it to Mid-South Urologists Group, Inc., on January 1, 2018. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.) Lease Description: Quarterly lease payments $ 114,201—beginning of each period Lease term 5 years (20 quarters) No residual value; no purchase option Economic life of lithotripter 5 years Implicit interest rate and lessee's incremental borrowing rate 12% Fair value of asset $ 1,750,000 Required: 1. How should this lease be classified by Mid-South Urologists Group and by Physicians' Leasing? 2. Prepare appropriate entries for both Mid-South Urologists Group and Physicians' Leasing from the beginning of the lease through the second rental payment on April 1, 2018. Adjusting entries are recorded at the end of each fiscal year (December 31). 3. Assume Mid-South Urologists Group leased the lithotripter directly from the manufacturer, Rand Medical, which produced the machine at a cost of $1.5 million. Prepare appropriate entries for Rand Medical from the beginning of the lease through the second lease payment on April 1, 2018.

Answer 1

1.

	Amt in $
Cost of Equipment	17,50,000
Quarterly Lease Payment	1,14,201
Payterm (Quarters)	20
PVAF	14.88
Implicit Rate	12%
Incremental Borrowing Rate	12%
PV of Lease Payment	16,99,310.88
Therefore =1699310.88/1750000 = 97.10%
For a lease to be considered finance lease, at least one of the following criteria is required to be met
1. An option is given to purchase at a price lower than the fair value on a future date
2. The lease term is significantly equals 75% or greater than 75% of the economic life of the asset
3. the NPV of MLP is greater than 90% of the asset's fair value
Since 2 of the above 3 conditions is met, the instant case is a case of Finance lease

2.

Books of Lessee
For Recognising a lease asset
Appropriate Fixed Asset A/c Dr	16,84,465
To Capital Lease Liabilty A/c		16,84,465
Provision for Depreciation in the Year End
Depreciation A/c Dr.	3,36,893
Accumulated Depreciation A/c		3,36,893
First Lease Payment
Capital Lease Liability A/c   Dr.	1,14,201
Interest Expense A.c Dr	-
To Lessor A/c		1,14,201
Note : Interest is zero a Lease payments are upfront
Lessor A/c Dr.	1,14,201
To Bank		1,14,201
Subsequent Lease Payment
Capital Lease Liability A/c   Dr.	1,10,875
Interest Expense A.c Dr	3,326
To Lessor A/c		1,14,201
Lessor A/c Dr.	1,14,201
To Bank		1,14,201
Books of Lessor
For Recognising a lease asset
Lease Receivable	16,84,465
To Asset		16,84,465
First Lease Receipt
Bank	1,14,201
To Lease Receivable		1,00,497
To Finance Charges		13,704

3. Need the lease payout and pattern for answering this part,