Question

Assume that on January 1, 2021, Sage Hill Corporation sells equipment to Oriole Finance Co. for $1,780,000 and immediately leases back the equipment. The relevant information is as follows.

1.		The equipment was carried on Sage Hills books at a value of $1,570,000.
2.		The term of the non-cancelable lease is 3 years; title will not transfer to Sage Hills, and the expected residual value at the end of the lease is 1,177,500, all of which is unguaranteed.
3.		The lease agreement requires equal rental payments of $290,590 at the beginning of each year.
4.		The incremental borrowing rate for Sage Hill is 9%. Sage Hill is aware that Oriole Finance set the annual rental to ensure a rate of return of 9%.
5.		The equipment has a fair value of $1,780,000 on January 1, 2021, and an estimated economic life of 10 years.

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Prepare the journal entries for both the lessee and the lessor for 2021 to reflect the sale and leaseback agreement. (Credit account titles are automatically indented when amount is entered. Do not indent manually. Record journal entries in the order presented in the problem.)

Date	Account Titles and Explanation	Debit	Credit
Sage Hill Corporation (Seller-Lessee)
1/1/2112/31/21
	(To record sale)
1/1/2112/31/21
	(To record lease)
1/1/2112/31/21
	(To record first lease payment)
1/1/2112/31/21

Date	Account Titles and Explanation	Debit	Credit
Oriole Corporation (Buyer-Lessor)
1/1/2112/31/21
	(To record purchase)
1/1/2112/31/21
	(To record lease payments)
1/1/2112/31/21
	(To record lease revenue)
1/1/2112/31/21
	(To record depreciation)

Answer 1

SOLUTION

SAGE HILL'S corporation (Seller-Lessee)

                                                                  1/1/21

                         Cash ......................................................... 1,780,000

                                   Equipment.....................................................                                                  1,570,000

                                   Gain on Sale of Equipment...........................                                                  210000

                         Right-of-Use Asset.................................................                 801770(rounded)

                                   Lease Liability...............................................                                                  801770

                                       ($290,590 X 2.75911*)

*Present Value of an Annuity Due at i=9%,n=3

                         Lease Liability.........................................................                 290590

                                   Cash..............................................................                                                  290590

sage hill's corporation

Lease Amortization Schedule

Annuity-Due Basis

Date	Annual Payment	Interest (9%) on Liability	Reduction of Lease Liability	Lease Liability
1/1/21				$801770
1/1/21	$290,590	$0	290,590	511180 (801770-290590)
1/1/22	290,590	46006 (801770-290590)*9%	244584	266596 (511180-244584)
1/1/22	290,590	23994*	266596	0

*Rounded by €1.

12/31/21

                         Interest Expense......................................................                   46006

                                   Lease Liability...............................................                                                    46006

                         Depreciation Expense (€801770 ÷ 3)….... 267257

                                   Right-of-Use Asset.......................................                                                  267257

Oriole Finance (Buyer-Lessor)*

1/1/21

                   Equipment       ......................................................... 1780,000

                                  Cash ......................................................... 1780,000

                   Cash..........................................................................                     290,590

                                  Unearned Lease Revenue..........................                                                      290,590

12/31/21

                   Unearned Lease Revenue......................................... 290,590

                                  Lease Revenue...........................................                                                      290,590

                   Depreciation Expense................................................. 178,000

                                   Accumulated Depreciation –

                                       Equipment (€1,780,000 ÷ 10).................... 178,000

*Lease should be treated as an operating lease because the lease does not meet any of the sales-type classification tests.