Question

Vaughn Leasing Company agrees to lease machinery to Bramble Corporation on January 1, 2017. The following information relates to the lease agreement.

1.		The term of the lease is 7 years with no renewal option, and the machinery has an estimated economic life of 9 years.
2.		The cost of the machinery is $575,000, and the fair value of the asset on January 1, 2017, is $755,000.
3.		At the end of the lease term, the asset reverts to the lessor and has a guaranteed residual value of $103,000. Bramble depreciates all of its equipment on a straight-line basis.
4.		The lease agreement requires equal annual rental payments, beginning on January 1, 2017.
5.		The collectibility of the lease payments is reasonably predictable, and there are no important uncertainties surrounding the amount of costs yet to be incurred by the lessor.
6.		Vaughn desires a 9% rate of return on its investments. Bramble’s incremental borrowing rate is 10%, and the lessor’s implicit rate is unknown.

(Assume the accounting period ends on December 31.)

Annual Rental Payment _____________

Present Value of Minimum Lease Payments__________

Prepare Journal Entries Bramble would make in 2017 and 2018

Prepare Journal Entries Vaughn would make in 2017 and 2018

Answer 1

1. Calculation fo Annual rental Payment
Annual Rental payment = $755,000 - ($103,000 x 0.54073)/5.48592
= $127,473
Present value of $1 at 9% for 7 years = 0.54073
Present value of annuity due at 9% for 7 years = 5.48592
2. Calculation of Present value of minimum lease payment
(Period = 7 years, rate = 10%)
Present value of annual rental payment ($127473 x 5.35526)	$682,651
Present value of guaranteed residual value ($103000 x 0.51316)	$52,855
Present value of minimum lease payement	$735,506

3. Journal entries in the books of Bramble in 2017 and 2018
1-Jan-17	Leased Equipment	$735,506
	Leased Liability		$735,506
	(To record leased equipment)
1-Jan-17	Leased Liability	$127,473
	Cash		$127,473
	(To record annual rental payment)
31-Dec-17	Depreciation	$90,358
	Accumulated Depreciation-Capital Lease		$90,358
	($735506 - $103000)/7
	(To record Depreciation for 2017)
31-Dec-17	Interest Expense	$60,803
	Interest Payable		$60,803
	(To record Interest expense for 2017)
	($735506 -$ 127473) x 10%
1-Jan-18	Leased Liability	$66,670
	Interest payable	$60,803
	Cash		$127,473
	(To record annual rental payment)
31-Dec-18	Depreciation	$90,358
	Accumulated Depreciation-Capital Lease		$90,358
	($735506 - $103000)/7
	(To record Depreciation for 2018)
31-Dec-18	Interest Expense	$54,136
	Interest Payable		$54,136
	(To record Interest expense for 2018)
	($735506 -$ 127473 - $66670) x 10%
4. Journal Entries in the Books of Vaughn in 2017 and 2018
1-Jan-17	Lease Receivable	$755,000
	Cost of Goods Sold	$575,000
	Sales Revenue		$755,000
	Inventory		$575,000
1-Jan-17	Cash	$127,473
	Lease Receivable		$127,473
	(To record annual lease payment received)
31-Dec-17	Interest Receivable	$56,477
	Interest Revenue		$56,477
	(To record Interest for 2017)
	(755000 - 127473) x 9%
1-Jan-18	Cash	$127,473
	Interest Receivable		$56,477
	Loan Receivable		$70,996
	(To record annual lease payment received)
31-Dec-18	Interest Receivable	$50,088
	Interest Revenue		$50,088
	(To record Interest for 2018)
	(755000 - 127473 - 70996) x 9%