Question

3. (LESSOR ENTRIES FOR FINANCING LEASE WITH A GUARANTEED RESIDUAL)

The following facts pertain to a non-cancelable lease agreement between Ace Leasing Company and King Company, a lessee.

Commencement of Lease Date January 1, 2020

Annual lease payment due at the beginning of the year beginning with January 1, 2020 $137,171

Residual value of equipment at end of lease term, guaranteed by lessee $54,000

Book Value of Lease Equipment on LESSOR books $500,000

Lease term 6 years

Economic life of leased equipment 7 years

Fair Value of asset at January 1, 2020 $659,000

Lessor’s Implicit Rate 12% Lessee’s incremental borrowing rate 12%

The asset will revert to the lessor at the end of the lease term. You examined this lease from the Lessee prospective in problem #1. Based on the tests you found it was a financing lease. In this problem you will complete the LESSOR entries. You do not need to redo the tests – it is still a financing lease with a guaranteed residual

A. Prepare the entry on the Lessor’s book to record this Lease on 1/1/2020. You will need to compute the Lease Receivable debit, the CGS debit, the Equipment credit and the Sale Revenue credit to complete the entry.

B. Complete the entry to receive the first rental payment on 1/1/2020.

C. Prepare the interest revenue amortization schedule for the first two years and prepare the interest revenue entry for 12/31/2020.

Answer 1

Interest revenue amortization schedule
Date	Beginning balance of lease receivable	Lease receipt	Interest revenue (beginning balance of lease receivable * 12%)	Reduction in lease receivable (lease receipt - interest revenue)	Ending balance of lease receivable (beginning balance of lease receivable - reduction in lease receivable)
01-Jan-20	659000	137171		137171	521829
01-Jan-21	521829	137171	62619	74552	447277
01-Jan-22	447277	137171	53673	83498	363780
01-Jan-23	363780	137171	43654	93517	270262
01-Jan-24	270262	137171	32431	104740	165523
01-Jan-25	165523	137171	19863	117308	48215
31-Dec-25	48215	54000	5786	48214	0
Ending balance of lease receivable at end of lease term must be zero.
Interest of 62619 is recorded as interest receivable on December 31, 2020

Lessor
Journal entries
Date	Account title & explanation	Debit	Credit
01-Jan-20	Lease receivable	659000
	Cost of goods sold	500000
	Equipment		500000
	Sales revenue		659000
	(To record lease agreement.)
01-Jan-20	Cash	137171
	Lease receivable		137171
	(To record First lease payment received.)
31-Dec-20	Interest receivable	62619
	Interest revenue		62619
	(To record accrued interest on lease receipt.)