Question

Universal Leasing leases electronic equipment to a variety of businesses. The company’s primary service is providing alternate financing by acquiring equipment and leasing it to customers under longterm leases. Universal earns interest under these arrangements at a 12% annual rate.

Universal purchased an electronic typesetting machine on December 31, 2017, for $104,000 and then leased it to Desktop, Inc., a local publisher. The six-year operating lease term commenced January 1, 2018, and the lease contract specified annual payments of $9,400 beginning December 31, 2018 and each December 31 through 2023. The machine’s estimated useful life is 15 years with no estimated residual value.

The publisher had the option to terminate the lease after four years. At the beginning of the lease, there was no reason to believe the lease would be terminated.

Required:

1. Prepare the appropriate entries for Universal Leasing from the beginning of the lease through the end of 2018.
2. At the beginning of 2019, there was a significant indication that Desktop’s economic incentive to terminate the lease had changed causing both companies to believe termination of the lease at the end of four years (three years remaining) is “reasonably certain”. Prepare any appropriate entries for Universal Leasing at January 1, 2019, to reflect the change in the lease term.
3. Prepare the appropriate entries pertaining to the lease for Universal Leasing at December 31, 2019.

Answer 1

Q1
Date	Account titles and explanations	Debit ($' million)	Credit ($' million)
January 01, 2018	Desktop Inc.	38,647.23
	Typesetting machine		38,647.23
	(Being the machined given on lease)
December 31, 2018	Desktop Inc. (38647.23 x 12%)	4,637.67
	Interest on lease		4,637.67
	(Being interest on amount receivable is recorded)
	Cash	9,400.00
	Desktop Inc.		9,400.00
	(Being lease rental received)
	Interest on lease	4,637.67
	Profit and loss account		4,637.67
	(Being interest credited to profit and loss account)
Q2
Date	Account titles and explanations	Debit ($' million)	Credit ($' million)
January 01, 2019	Type setting machine (5333.812+4762.333)	10,096.14
	Desktop Inc.		10,096.14
	(Being lease rental cancelled for year 5th and 6th)
Q3
Date	Account titles and explanations	Debit ($' million)	Credit ($' million)
December 31, 2019	Desktop Inc. {(38647.23+4637.67)- (10096.145+9400.00)} x 12%	2,854.65
	Interest on lease		2,854.65
	(Being interest on amount receivable is recorded)
	Cash	9,400.00
	Desktop Inc.		9,400.00
	(Being lease rental received)
	Interest on lease	2,854.65
	Profit and loss account		2,854.65
	(Being interest credited to profit and loss account)

Note 1:

Year	Annual lease rent	PV factor @12%	Present value of lease rent
1	9400	0.892857	8392.857
2	9400	0.797194	7493.622
3	9400	0.71178	6690.734
4	9400	0.635518	5973.87
5	9400	0.567427	5333.812
6	9400	0.506631	4762.333
Present value of total lease rent			38647.23