Question

Maco Inc. leased equipment to Pelican Co on January 1, 2020. The lease agreement calls for annual rental payments of $3,050 at the beginning of each year of the 3 year lease. The equipment has an economic useful life of 7 years, a fair value of $12,000, a book value of $5,000 and Maco expects a residual value of $4,000 at the end of the lease term (and 0 at the end of the assets life). Maco sets the lease payments with the intent of earning a 6 percent return. There is no bargain purchase price option, ownership does not change at the end of the lease term and the asset is not specialized in nature.

a. Assuming the residual value is not guaranteed, determine the lease type for the lessee. You must explain your answer.

b. Record the journal entry(ies) for the lessee for the first year and the subsequent leave payment on the first day of the following year. Date the journal entry(ies).

c. Record the first year of journal entries for the lessor d. How would the accounting for the lease change if the residual value is guaranteed? Both parties expect it to be $4,000.

Answer 1

a)

a lease is said to be finance lease if the present value of minimum lease payment cover up the substantial part of initial fair market value.

In above case-

YEAR	AMT	PVIF	P.V
0	3050	1	3050
1	3050	0.943	2876
2	3050	0.890	2714
3	4000	0.840	3360

Total P.v of min lease rent is 12000

Since, Total present value of min lease rental is equal to Fair value , it is a case of finance lease.

b)Journal entries-

1yr in beg

Lease Liab..DR 3050

Intt expenses DR- nil

     To Cash/bank        3050

Lease Asset..Dr 12000

To lease liability 12000

2nd yr in the beg

Lease Liab DR 2513

Intt expensesDR 537

     To Cash/Bank       3050

3rd yr in the beg

Lease liab DR    2670

Intt expenses DR 380

      To cash/Bank          3050

lease liab   DR 3767

Intt expense DR 233

    To lease equipment 4000

Note: Depreciation will also be charged in the books of lessee.

C. Journal Entries in the books of Lessor

In th beg of 1st Year

Lease Receivable Dr. 12000

   To Leases Asset            12000

Cash/Bank Dr. 3050

     To Lease Receivable 3050

     To Intt. Income            nil

d)If guranteed Residual value is $4000.Then, the accounting for lease will remain same because guaranteed residual value is equal to total residual value.