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Brief Exercise 21-11 Assume that IBM leased equipment that was carried at a cost of $174,000...

Brief Exercise 21-11

Assume that IBM leased equipment that was carried at a cost of $174,000 to Sandhill Company. The term of the lease is 5 years December 31, 2019, with equal rental payments of $39,661 beginning December 31, 2019. The fair value of the equipment at commencement of the lease is $174,001. The equipment has a useful life of 5 years with no salvage value. The lease has an implicit interest rate of 7%, no bargain purchase option, and no transfer of title. Collectibility of lease payments for IBM is probable. Assume the sales-type lease was recorded at a present value of $174,001.

Prepare IBM’s December 31, 2020, entry to record the lease transaction with Sandhill Company.

Solutions

Expert Solution

Under US Gaap if either of criteria is fulfilled they are classifed as operating lease :

  • If the term of the lease is 75% or more of the leased asset’s useful life.
  • If the present value of the lease payments is 90% or more of the fair market value of the asset.

As the life of asset is 5 year and lease period is also five year hence criteria of term of lease exceeds 75% of asset's useful live.

Further the present value of lease payment is 100% of fair market value of asset.

Hence this is the case of operating lease as per US GAAP.

IBM is lessor and lessor will intially recognise sale of asset and lease receivable to the extent of book value.

Subsequantly to the extent of books value of lease installment is credited against lease receivable and interest income is recongnised.

Journal Entry in books of IBM Ltd for the period 31st Dec 2020

Date Accounts Debit Credit
31-Dec-20 Cash A/c Dr      39,661.00
Lease Receivable 30,257.20
Interest on lease     9,403.80
(To record receipt of lease)

Working Note : Schedule of lease installment bifurcation in book value and principal value :

Year Opbalance Installment Interest Book Value repayment Closing Balance
0 174,001.00      39,661.00                 -   134,340.00
1 134,340.00      39,661.00     9,403.80           30,257.20 104,082.80
2 104,082.80      39,661.00     7,285.80           32,375.20     71,707.60
3     71,707.60      39,661.00     5,019.53           34,641.47     37,066.13
4     37,066.13      39,661.00     2,594.63           37,066.37             (0.24)
Total    174,001.19 21,229.16         113,111.03

ekkarill92 answered 2 years ago
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