Question

Phillips Machinery Corporation purchased machinery for cash of $60,000 on January 1, 2014. The machine has an estimated useful life of 5 years and will be depreciated using the straight-line method with no salvage value. The machine was then leased to Roadway Company an 80% owned subsidiary under a 5-year operating lease for $15,000 per year, payable January 1, every year.

Required

1. Record the 2014 entries for the purchase of the machine and the lease to Roadway Company on the books of Phillip Machinery Corporation.

2. Record the 2014 entries for the transaction on the books of Roadway Company.

3. Provide the elimination entries that would be made on the 2014 consolidate worksheet.

Answer 1

Cost of Machinery = $60,000

No. of lease years = 5

Lease payment per year = 15,000

Total lease payment = No. of years X Lease payment = 5 X 15,000 = 75,000

Therefore, Interest Income = 75,000 - Cost of machinery = 75,000 - 60,000 = 15,000

Amortization of Interest Income per year = Total Income / No.of years = 15,000 / 5 = 3,000 per year

1.

Purchase of Machinery by Phillip Machinery Corporation:

Machinery A/c Dr. $60,000

To Cash $60,000

(Being Machinery purchased)

Lease to Roadway Company:

Cash A/c Dr. $15,000

Lease Payment receivable Dr. $60,000

To Unearned Interest Income $15,000

To Accounts Payable (for asset) $60,000

Entry at end of year:

Unearned Interest Income Dr. $3,000

To Interest Income $3,000

(Being income on lease recognized)

2. In books of Roadway:

Asset under Lease Dr. $75,000

To Obligation under Lease $60,000

To Cash $15,000

(Being lease taken and cash given)

At end of year:

Interest Payable:

Interest Expenses Dr. $3,000

To Interest payable $3,000

(Being interest payable booked as calculated above)

Depreciation:

Depreciation Dr. 15,000

To Accumulated Depreciation $15,000

(Being depreciation on straight line basis for asset with life of 5 years = Cost of Asset / No. of years of life = 75,000 / 5 = 15,000)

3.

Eliminating Entry on consolidation in books of parent:

Machinery A/c Dr. $60,000

Unearned Interest Income Dr. 12,000

Obligation under Lease Dr. 60,000

Interest Payable Dr. 3,000

To Asset under Lease 75,000

To Lease Payment Receivable 60,000

(Being eliminating entry passed at end of year on consolidation)