Question

Rand Medical manufactures lithotripters. Lithotripsy uses shock waves instead of surgery to eliminate kidney stones. Physicians’ Leasing purchased a lithotripter from Rand for $2,940,000 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 $ 208,010—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 16% Fair value of asset $ 2,940,000

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 $2.5 million. Prepare appropriate entries for Rand Medical from the beginning of the lease through the second lease payment on April 1, 2018.

Answer 1

Fair value of assets	2940000
Discounting factor (16%/4)	4%
Period	20
Lease payment	208010

Lease amortization table - lessee
Period	Beginning balance of lease payable	Lease payment	Interest expense (beginning balance of lease payable *4% )	Reduction in lease payable (lease payment - interest expense)	Beginning balance of lease payable (beginning balance of lease payable - reduction in lease payable)
0	2,940,000	208,010	-	208,010	2,731,990
1	2,731,990	208,010	109,280	98,730	2,633,260
2	2,633,260	208,010	105,330	102,680	2,530,580
3	2,530,580	208,010	101,223	106,787	2,423,793
4	2,423,793	208,010	96,952	111,058	2,312,735
5	2,312,735	208,010	92,509	115,501	2,197,234
6	2,197,234	208,010	87,889	120,121	2,077,114
7	2,077,114	208,010	83,085	124,925	1,952,188
8	1,952,188	208,010	78,088	129,922	1,822,266
9	1,822,266	208,010	72,891	135,119	1,687,146
10	1,687,146	208,010	67,486	140,524	1,546,622
11	1,546,622	208,010	61,865	146,145	1,400,477
12	1,400,477	208,010	56,019	151,991	1,248,486
13	1,248,486	208,010	49,939	158,071	1,090,416
14	1,090,416	208,010	43,617	164,393	926,022
15	926,022	208,010	37,041	170,969	755,053
16	755,053	208,010	30,202	177,808	577,245
17	577,245	208,010	23,090	184,920	392,325
18	392,325	208,010	15,693	192,317	200,008
19	200,008	208,010	8,000	200,010	(2)
20	(2)	-	(0)	0	(2)

Answer 1

Lease be classified by Mid-South Urologists Group	Capital lease	Because lease life is 5 years (20 quarters) is covered more than 90% of useful life of asset. So it is considered as capital lease. Capital lease also known as finance lease
Lease be classified by Physicians' Leasing	Direct financing lease	Because Physicians' Leasing is not added dealer margin or manufacture margin. Fair value of assets and cost of purchase of assets is same. So it is considered as direct finance lease.

Answer 2

Mid-South Urologists Group - Lessee
Journal entries
Date	General journal	Debit	Credit
January 1, 2018	Fair value of use asset	2940000
	Lease payable		2940000
	(To record lease agreement.)
January 1, 2018	Lease payable	208,010
	Cash		208010
	(To record lease payment.)
April 1, 2018	Interest expense	109,280
	Lease payable	98,730
	Cash		208010
	(To record lease payment.)

Physicians' Leasing - Lessor
Journal entries
Date	General journal	Debit	Credit
January 1, 2018	Lease receivable	2940000
	Asset		2940000
	(To record lease agreement for direct finance lease.)
January 1, 2018	Cash	208,010
	Lease receivable		208010
	(To record lease payment.)
April 1, 2018	Cash	208,010
	Lease receivable		98,730
	Interest revenue		109,280
	(To record lease payment.)

Answer 3

Rand Medical - Lessor - Sales type lease
Journal entries
Date	General journal	Debit	Credit
January 1, 2018	Lease receivable	2940000
	Cost of goods sold	2500000
	Inventory		2500000
	Sales revenue		2940000
	(To record lease agreement for sales type lease.)
January 1, 2018	Cash	208,010
	Lease receivable		208,010
	(To record lease payment.)
April 1, 2018	Cash	208,010
	Lease receivable		98,730
	Interest revenue		109,280
	(To record lease payment.)