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Krause Company on January 1, 2020, enters into a five-year noncancelable lease for equipment having an...

Krause Company on January 1, 2020, enters into a five-year noncancelable lease for equipment having an estimated useful life of 6 years and a fair value to the lessor, Daly Corp., at the inception of the lease of $4,000,000. The cost to manufacture the equipment was $3,000,000. Daly’s required rate of return is 8%. Krause’s incremental borrowing rate is 10% and is aware of Daly’s required rate of return. Krause uses the straight-line method to amortize its assets. Daly is reasonably confident that Krause will make the lease payments and has no material cost uncertainties.

The lease contains the following provisions:

  1. Rental payments of $896,050 are payable at the beginning of each year.
  2. A guarantee by Krause Company that Daly Corp. will realize $200,000 from selling the asset at the expiration of the lease. However, the actual residual value is expected to be $120,000.

Round your numbers to the nearest whole numbers.

PV of $1 PV of Annuity Due
period of 5, interest rate 8% 0.68058 4.31213
period of 5, interest rate of 10% 0.62092 4.16986

Required:

  1. According to the FASB, how should the lease be classified by both Krause (lessee) and Daly (lessor)? Why?
  2. Calculate the present value of lease liability and lease receivable on lease signing date.
  3. Prepare lease amortization schedules up to 1/1/2021 for both Krause and Daly
  4. Prepare the journal entries to record the inception of the lease and the first lease payment on January 1, 2020 for both Krause and Daly.
  5. Prepare all appropriate adjusting journal entries for both Krause and Daly at December 31, 2020.

Solutions

Expert Solution

ekkarill92 answered 2 years ago
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