Question

I dont underestand the part that i bolded in the word file . ( from where that 6/12 came ? )

Thank you ,

Pr. 21-118—Lessee accounting—capital lease.

Eubank Company, as lessee, enters into a lease agreement on July 1, 2018, for equipment. The following data are relevant to the lease agreement:

1.   The term of the noncancelable lease is 4 years, with no renewal option. Payments of $978,446 are due on July 1 of each year.

2.   The fair value of the equipment on July 1, 2018 is $3,500,000. The equipment has an economic life of 6 years with no salvage value.

3.   Eubank depreciates similar machinery it owns on the sum-of-the-years’-digits basis.

4.   The lessee pays all executory costs.

5.   Eubank’s incremental borrowing rate is 10% per year. The lessee is aware that the lessor used an implicit rate of 8% in computing the lease payments (present value factor for 4 periods at 8%, 3.57710; at 10%, 3.48685).

Instructions

(a)    Indicate the type of lease Eubank Company has entered into and what accounting treatment is applicable.

(b)    Prepare the journal entries on Eubank’s books that relate to the lease agreement for the following dates: (Round all amounts to the nearest dollar. Include a partial amortization schedule.)

        1.    July 1, 2018.

        2.    December 31, 2018.

        3.    July 1, 2019.

        4.    December 31, 2019.

Ans: NA, LO: 2, Bloom: AP, Difficulty: Difficult, Min: 20-25, AACSB: Reflective, AICPA BB: None, AICPA FN: Measurement, AICPA PC: Problem Solving, IMA: Reporting, IFRS: None

Solution 21-118

(a)    Capitalized amount:

        $978,446 × PV of an ordinary annuity for 4 periods at 8%

        $978,446 × 3.57710 = $3,500,000

        Because the present value of the lease payments ($3,500,000) equals the fair value, $3,500,000, of the leased property, it is a capital lease and must be accounted for under the capital lease method.

(b)    1.                                                            July 1, 2018

               Leased Equipment.................................................................... 3,500,000

                           Lease Liability...............................................................                        2,521,554

                           Cash.............................................................................                           978,446

         2.                                                     December 31, 2018

               Depreciation Expense..............................................................      700,000

                           Accumulated Depreciation—Capital Leases

                                [($3,500,000 × 4/10) × 6/12].....................................                           700,000

               Interest Expense ($201,724 × 6/12).........................................      100,862

                           Interest Payable............................................................                           100,862

Answer 1