CHAPTER 21 Accounting for Leases ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC) Brief Concepts: Topics Questions Exercises Exercises Problems tor Analysis 1. Rationale forleasing. §=1,2,3 2. Concepts, and 4567.8, 023.4 2997, 123.4 1.23.45 measurement of 9, 10, 14,12, 5,6.9,95,' 6,9,10,12, 5,8, 9, 10, leases by lessees. 1374, 15, 23. \97/98,19 14, 15, 16 11, 12, 13, 14,15 3. Finance / Sales 11, 15, 16, 7,8,9,10, 5,7,8,.9,11, 67,911, 2.5 Type Leases. 17, 18, 19, 11, 12, 13, 12, 13, 17 12, 13, 14, 20,21,22,23 1 5 4. Special Issues 26,27 15, 16,21, 9, 16, 17 6,7,8,12, 3,45 22,23, 24 13, 1d Other lease costs: 25 initial direct costs, presentation and disclosure. "6. Saledeaseback. 28.29 26,27 18.19 6 “This material is dealt with in an Appendix to the chapter. Copyrget © 2018 Wiky Kiera, FAS, Si, Scubors Manual (For nsbucior Use Only] BriASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE) Brief Learning Questions Exercises Objectives Exercises Problems Concepts for Analysis 1. Describethe 1,2, ‘environment related to leasing transactions. 2. Eopleinthe 4, accounting for 8, leases by 1 lessees. 3. Explain the 44, 13, accounting for 14, 15, leases by 16,17 lessors. 18.19. 4 Discuss the 10,21 accounting and 23,26 reporting for 27 special features of lease arrangements. "5 Describethe 28, 29 lessee’s accounting for sale-leaseback wansactions. 12347, 8.9, 10.12, 13,14, 18, 19,20 5,6,7,8,9, 10, 11, 12 13,17 6,9, 10, 11, 12, 14, 16, Ww 18,19 “This material is dealt with in an Appendix to the chapter. nz 1.2.7.8 12, 13, 14 1.2345 25 345 Copyright® 2018 Wiey Kieso, (FAS, Sie. Solutions Manual (Far insinactor Use Only)ASSIGNMENT CHARACTERISTICS TABLE Level of Time Item___Deseription Difficulty _ (minutes) E211 Lessee Entries; No Residual Value Moderate 15-20 E212 Lessee Entnes; Lease with Unguaranteed Residual Moderate 15-20 falue £213 Lessee Computations and Entries; Lease with Moderate 20-25 Guaranteed Residual Value E214 — Lessee Entries: Lease and Unguaranteed Residual, Moderate 20-30 Value E215 Computation of Rental; Joumal Entries for Lessor \00 Simple 15-25 E216 Lessor Entries; Sales Type Lease with Option ta Moderate 20-25 Purchase E217 Type of Lease; Amortization Schedule Moderate 15-20 E218 Lessor Entries: Sales-Type Lease Moderate 15-20 E219 Lessee Entries; Initial Direct Costs Moderate 20-25 £21.10 Lessee Entries with Bargain-Purchase Option Moderate 20-30 £2111 Lessor Entries with Bargain-Purchase Option Moderate 20-30 E2112 Lessee-Lessor Entries; Sales-Type Lease witha Moderate «20-25 Bargain Purchase Option £21.13 Lessee-Lessor Entries: Sales-Type Lease: Moderate 20-25 Guaranieed Residual Value £21.14 Lessee Entries; Initial Direct Costs Simple 20-25 £21.15 Amortization Schedule and Journal Entries for Moderate 20-30 Lessee. E2116 Lessee Accounting Moderate 20-25 £21.17 Lesser Accounting for an Gperating Lease Moderate 25-30 *E21.18 Sale-Leaseback Moderate 20-30 “£21.19 Lessee-Lessor, Sale-Leaseback Moderate 20-30 P211 Lessee Entries Simple 20-25 P212 Lessee Entries and Statement of Financial Position Simple 20-30 Presentation. P213 Lessee Entries and Statement of Financial Position Moderate 3545 Finance Lease P214 Lessee Entries, Lease with Monthly Payments. Moderate 30-40 P215 Basic Lessee Accounting with Difficult PV Calculation Moderate 40.50 P21.6 — Lessee-Lessor Entries, Finance Lease with a Simple 25-35 Guaranteed Residual Value. P217 Lessor Computations and Entries, Sales-Type Lease © Complex 30-40 with Guaranteed Residual Value Genyeget © 2018 Wey iasa, FAS, 3a, Selutors Manual (Fe insbuctsr Ube Only) 23P21.8 Lessee Computations and Entries, Lease with Complex 3040 Guaranteed Residual Value P21.9 Lessor Computations and Entries, Sales-Type Lease © Complex 30-40 with Unguaranteed Residual Value. P21.10 Lessee Computations and Entries, Finance Lease with Complex 30-40 Unguaranteed Residual Value. P2111 Lessee-Lessor Accounting for Residual Values Complex 30-40 P21.12 Lessee-Lessor Entries, Statement of Financial Position Moderate 36-45 Presentation, Finance and Sales-Type Lease. P21.13 Statement of Financial Position and Income Statement Moderate 345 Disclosure—Lessee P2114 Operating lease. Moderate 30-40 P21.15 LesseeLessor Entries, Operating Leage'with an Moderate 30-40 Unguaranteed Residual Value: CA21.1_ Lessee accounting and reporting. Modarate 15-25 CA212 Lessor and lessee accounting and disclosure Moderate 25-35 CA21.3 Lessee accounting: Moderate 20-30 CA214 Lease capitalization, bargein-purchase option. Moderate 20-25 CA215 Short-Term lease vs. finance lease. Moderate 20-30 *CA21.6 Sale-Leaseback. Moderate 15-25 a Copyright® 2018 Wiley Keso, IFAS, Jie. Solstions Manaal (For insiracter Use Only)ANSWERS TO QUESTIONS 4. The major lessor groups in the United States are banks, captives, and independents. Banks are the largest players in the leasing business. Captives are subsidiaries whose prmary business is to perform leasing operations for the parent company. They have the point of sale advantage in finding leasing Customers for as soon as 2 parent receives a possible order, a lease financing arrangement can be developed by its leasing subsidiary. Furthermore, the Captive (lessor) nas the product knowiedge which gives it an advantage when financing the parents product. The curent trend is for captives to focus om the Company's products rather than fo do general lease financings Last, independents are ofien good at developing innovative contracts for lessees. LE-+ Blane Cinsty Bine Trae EAGER: Retest Thining AICPA BE ene ASPAPE eeatng, ASPAPE-None 2. (2) Possible agvantages of leasing for tne lessee. 1. Leasing may be more flexible in thatthe ease agreement may contain less restrictive Provisions than the bond indenture. 2. Leasing permits 100% financing of assets; as the lease is often signed without requiring any money down from tne lessee 3. Leasing may permit maré:rapid changes in equipment, reduce the nsk of obsolescence, and pass the risk in residual value to tha lessor or 2 third party. 4 Leasing may have favorable tax advantages. Assuming that funds are readily available through debt financing, there may not be great advantages (in ‘agaon fo me above-mentioned) to sxging a Noncancelabe, fong-term lease. One adatonal acvaniage of leasing is its availability when other debt financing is unavailsb! {b) Given the new reporting standard on leasing the financiel statement effects of a long-term noncancelable lease versus the purchase of the asset are somewhat similar. That i assets under a longer lease ere capitalized at the present valuie of the future lease payments and this value i= probably equivalent to the purchase price of the assets. On the liability side. the bond payable amount would be equivalent to the present value of the future lease payments. in summary, the amounts presented in the statement of financial positon would bé quite comparable. The descnption of the leased ‘asset (right-ol-use asee!) and related lability would however be different than under a bond financing as would the general classifications; the specific labels (leased assets and lease labiity) would be different. 2-4 glnee 6. cmcohytinseem, Tone: £12 ANCHE! Retstua Tamang, AIGA: New, AIGPA FO Sugemny, AGFA ED: wee 3. Passible advantages of leasing far a leseor 1. [often provides profitable interest margins. 2 Mt can Stimulate sales of a lessor product whether it be from a daaler (lessor) ar a manufacturer (lessor). I offen provides tax benefits which enhances the retum for the lessor and other parties to the lease, can provide @ high residual value to the lessor upon the return of the property at the end of the lease term, which can potentially provide very large profits. EDA tase: 6, Sma Mee Tine EE ANCHE, Ratestve Tmt, AIA BE Mate, AICPA PE: Recon, ACPA RS. Nene 4. The discount rate used by the lessee in the present value test and for valuing the leaee liability i= the implicit interest rate used by the lessor. This rate is defined as the discount rate that, at the Conmencoa oe (oa6s CASE al Sopa Been ES a. eos TONE residual value to be equal to the fair value of the leased asset. However, if it is impracticable tor te lessee to determine the impli fala of the leseor tha lessee. Should use ME incremental borrowing rate. The incremental borrowing rate is the raie of interest the lessee would have te pay on a similar lease or incur 10 Devrow over @ similar term the funds necessary to purchase the a AMEE, Retestet Mununy, AEMARE Nate AIZRA RE: Magan, AIERARE. Nat Copmnght@ 2018 Wey Kinsa, RS. ‘outers (Fer instructor Use Only)Questions Chapter 21 (Continued) 5. Paul Singer is for the most part correct. As long as the lease has a lease term of over 12 months and the lease is not low value, Paul IS correct that Ine lease must be recognized on tha statement of financial Position of the lessee. However, the new lease standard allows for @ short-term lease exception. Under {he short-term lease Or low value lease exCephons for lesseas, rather ihan recording 3 nighl-of-use asset and lease liabilty, lessees may elect to expense the lease payments as incurred. In this case, the lease is not capitalized on the statement of financial position as Paul suggested. LG. Be0n FCN REE Tene Po AACN ReNPaDIe TN ACHALEE Nan AICRA PC Mesby AIDRA RE: NGNE 6. (a) Residual value is the expacted value of the leased ascet af the end of the lease term. (b) A quarantead residual value Is @ guarantee made to a lessor-that the value of mre leased asset returned to the lessor at the end of a leas= will be at least s specified mount Any amounts probable to ba paid undar the residual value guarantee should he included in the present value of payments. (c) Inital direct costs ara incramantal costs of a jaas@ that would not have been incurred nad te lease Not been executed, [nitial direct Costs inoured by the lessee are inckided in the cost of fhe right-oFuse assat but are not recordad as part at the laase liability. AO Sten K Comet ainnn Tene 7g AGS tain Ae 7. Abargain purchase option is 2 lease purchase option in which the lessee can buy the assel for a price that is significantly lower than the underlying asset's expected fair value at the date the option becomes exercisable, thus making the exercise of the oplion reasonably certain. A bargain renewal option i= essentially the same conceptually as a bargain purchase option, except the option is to renew the lease 5 opposed to purchasing ihe aséel That is, 2 bargain renawal option is an option in which tha peice of renewal at which the lessee can buy the asset is significantly lower than the underlying assef's expected ‘air value at ine date the option becomes exercisable, thus making the exercise of ine option reasonably certan. A bargain purchase option and a bargan renewal option have similar impacts on the initial classification and measurement of he lease. With respect to classification, the existence of a bargain purchase option is one way a lessor can meet the finance/sales-type lease classification criteria, In fhe case of a bargain Fenowal opton, the adional lease term that would be added by exerosing the option should be included in the lease term when assessing whether or not the lessor meets the lease term test. The present value of the option price would also be used in assessing whether the lessor meets the present ue rt fot meseumernnnd purine, 20 pater A Af DOR a Tema RNCTSRS OPROR, Sh bargain renewal option should be incuded in the initial value of the lease receivable. LE, Boon Eitealy Eine Tene a AMESE Retain Teking CEASE: None ADEA RS: Recotng, ADEA RE-None 8 The lease liability is recorded at the present value of the lease payments, This includes the periodic Tantal payments made by the lassee, bargain-purchasa option if any, and amounts probable to be ved under @ residual velue guarantee. The present value of the lease payments is recorded as a lease habinty by the lessee 2 Boon Cetnaty Benin Tore Po AMDSS Seteche ese Ace 9. Wonda Stone is correct in her interpretation. For purposes of lease classification by the lessor the prasent value of the guaranteed residual value is used in determining whether tne present value (90%) test is met. The amount included in the measurement of the lease liability is only the amount that the lessee expects to owe under the residual value quaraniee at the end of me lease. For example, if 3 lessee guarantees = residual value of $10,000, but it is also probable that the lessee does not expect to ‘owe any additional monay at the end of the lease, then the guaranteed residual value would nol be included in the initial measurement af the lease liability here AGA Fo: Rastmy AISKPG:Nate Nor MORALES Rast. AISA BC None hore ADEA ES Racodre AISEKEE-Nonw rir) Copyright® 2018 Wiley Kiso. FAS, ola Manual (Por insiracter Use: Ory)‘Questions Chapter 21 (Continued) 10. The ngnt-of-use asset is infialy measured as Me Same amount as the lease lability (Le. present value of lease payments), adjusted for initial direct costs, prepayments and lease incentives. Iniial direct costs paid by the lessee will increase the initial value of the right-otuse asset. Similarly, prepaid rent paid by the lessee will increase the amount of the nght-ofuse asset recorded. Lease incentives granted fo the lessee by the lessor will decrease the inital value of ihe right-of-use asset, AE. A|Bser = Sitovte Senin Ton £4 AASHE: Aatecton Teng, AICPA BE: in ACSAED rsorng. AIRAE Hone 11. Variable lease payments should be included at the level of the index/rate at the commencement date. Incteases or decreases in the index should nat be assumad when valuing the lease lability. Thus, for the lease in this question, the lessee should not assume any changes in the price index. The difference in ‘the monthly payment in the second year from the first year of $100 ($5,100 - $5,000) ts expensed in the pafiod incurred. Only if he lessee knows the amount of the weriabla payment in subsequent perio ds ‘should it include these payments in the lease liability computaton..The lease payment in the second year is $5,150 ($5,000 X 1.03). i er 12. The lessee records a right-of-use asset and lease liability at commencement of the lease. The lessee then recognizes interest expense on the lease liability over the life of the lease using the eflective interest method and,records depreciation expense on the right-of-use asset generally on @ straight-line basis. A lessee therefore reports both interest expense and depreciation of the right to use asset on the income statement As a result, the total expense for the lease transaction is generally higher in the earlier years of the lease arrangement under the finance lease method. The lessee continues to depreciate the nght-of-use asset and decrease the principal of the lease kabiliy unl both are reduced to zero al the end of the lease. The right-otuse asset should be depreciated over the lease let, unless there is @ bargain-purchase option or ownership of the asset transfers to the lessee at the end of the lease. If either of these criteria are met, then the lessee depreciates the right-of-use asset over the economic ife of the asset LS, teen Onety Soe Tee De AACER Reteie Tsing AICRALER: Nong ALORA RE: Reset, Masauemen ACHARE Mae 13. A low walue lease Is a lease of an underlying asset with a value of $8,000 of less. Rather tian recording @ right-oF-use asset and lease lability, a lessee may elect to expense the lease payments as incurred, Ea, Been AP Comauty ma Tome: 6 ANGE Retest Teeny, CPA RE:Nang WORAS: Rese, AIGPA PC: Nate 44, A short-tenm lease is 3 lease thal, al fhe commencement dale, has lease term of 12 months or less Rather than recording @ right-ofuse asset and lease liability, lessees may elect to expense lease payments a incurred. (Loca. Boom Gftcut: Hoe Tre of AACHE Retecne Trevong. AEALNE: hone. AIGEA Et esoatrg. AISEA EE: Nane 15, If a bargain-purchas® oplion exists, the lessee must increase the present walue of the lease payments by {the present value of the option price. This is the case for both classification and inital measurement of the lease liability and right-of-use asset A bargain purchase option also affects the period over which the Tight-of-use asset is depreciated, since the lessee amorizes the asset over its economic iife rather than the term of the lease. If the lessee fails to exercise the option, the lessee will recognize a loss to the extent of the book value of the right-of-use asset in the periad that the option expred LS: Seer Cio Rin Tree PE AACE: Retncun Tsing ACPALEE: Nena AGFAPE: Rare, MMgaawmes AGPAPE: MEE 16. From the standpoint of the lessor, leases will (with few exceptions) be classified for accounting pumoses as either (a) operasng leases or (b) fnance (sales-type) leases. Afinance (sales-type) lease meets one or more of the following five tests 1. The lease transfers ownershp, 2. The leaze contains a bargsin-purchase option, Capynght® 2012 Wiley eso, FRE,Questions Chapter 21 (Continued) The lease term is @ major part of the remaining economic life of the underlying asset (Le. equal to ‘75% OF Mote of the esimated economic life of the prope’ The present value of the lease payments equals or moos ‘substantially all of the underlying asset's ‘air value (Le 90% of the fair value of he property), 5. The easel is Of such a specielzed nature fiat is Scpected to have no attentive use to tie eas at the end of the lease It none of the above five tests are met. the lease will De Teated a5 an operatng lease. The IASB Concluded thal by meeting any one of the lease classificaton tests, the lessor Vansfers control of he leased asset and therefore sabsfies a performance obligation, which is required for revenue recognition under the IASB’s recent standatt on revenue That is, if the lessee takes ovnership or consumes a acini petan oF fie underiying asset over the lease term, the lessor has in substance transferred Conte! of Ne nghL-oruse asset and ine lessor Nae 4 Sales hype lease On Me other hand, W Me ase does ot Wanton contol of the asset over the leave femm, the lessor peneraly uses the opersting approach in accounting for the lease. ort 4 Beem x omesty maw, Ter 5s AACE: Renate mpm Woes es: narelAidaNec: atsonng, CRAZE: nae 17. (a) Ita lease is for a major part of the-economic ife of the lease. the lease is classified as a finance lease. In practice, 75% of the economic life of the asset fs generally used to meet this classification test. That is, if the lease term is 75% or greater of the economic Ife of the asset, the lease is classified as & finance lease. (b) It the jaase term is 12 months or less the lessee may elect to use the short-term lease exception, and ‘thus the lease would not be classified as finance lease, The lessee would expense the lease payment in ‘he applicable year. (c) If the lease transfers ownership of the asset af the end of the lease, the lease is dassified as a finance lease. This situation meets one of ihe classification tests for a finance ease LO-4 noe Cuts Hise Tre HE MAGEE AuSecie Thning, NEHA HE hone ACHAIG: Macetng AICHAAE None 18. A Ree maces etna an fe prement vae t Be pesa el pee e jaranteed value plus any unguaranieed indicated in the text, for homework problems, we assume that the present value of the ungusrenteed residu ‘value Should be inciudad as part of the lease recaivanie. LOU nee Cet Renee Te HE MAGEE: Rtoncne Thong CEA RE None ASEAES:Reroaag AEA BC NONE 19. Under the operating method, each rental receipt of the lessor is recorded as lease revenue. The indamying ieased asset is still recognized on the statement of financial positon of tha lessor and ur depreciated in the normal manner. in addition to depreciation, any other related costs to the lease arrangement (i.e. insurance, maintenanca, taxes, etc.) are recorded in the period incurred. LSE oom # iraviy Hime. Troe I AASEE elecne hnong, AGHA hone AGHARE: Reootng,Urtsiemen: AGHARE Noor 20. Under a finance (sales-type) lease. lessors report in the income statement Sales Revenue and Cost of Goods Sold (and resulta Oss prot) al commencement ofthe lease. Dung he \eaco term Interest Rewenue on the Lease Receivable is reported. Under an operating lease, lessors report Lease Revenue {generally when payments ae received; and Depracaton Expense on ha leased aeset LO-8 Rintm F Cmeuy Smee. Tee PS MAGEE: AEMEENE Tameng, AGFAS: Nene ACPAFS: Restng. UrtRuement ACER EG: uate ns Copght® 2018 Wie Keno, FREQuestions Chapter 24 (Continued) a. Wales Cora ca Ge fhe Seance tse pe) less reo Uh Hee meets oe or ever of ee (1) The lease transiers ovmership of the property to the lessee, (2) The lease contains bargain-purchase option, (3) The lease term is a major part of the remaining economic life of the underlying asset (.¢. equal to: 75% of more of the estimated economic Ife of ine property), (4) The present value of the lease payments equals or exceeds substantially all of the underlying asset's fair value (Le. 90% of the fair value of the property), (5) The asset is of such a specialized nature that it is expected to have no allernative use to the lessor at the end of the lease term. soo) Beate omen gee Tre 5 MAcae arte Tees Poeesotns acoso nate 22. “etnany Group should recognize he present value of ne lease paymants (normal Sales prica) as sales: revenue, and the carving amount (book val) of the asset as cost of goods sod, Thus, the gcse prot from the lease should be recognizad at the commencement of the jease as the differance between the ‘an reduce both the sales revenye and id cos of goods ‘50K by the present value of the unguaranteed residual valua. The gross profi, however, will net change. G27 ise Coca Benin Tree Ff AAG ate cg CRABS hong ASEAEC Recetng AEA EC None 25. Although not part of the classification tasts, the lessor mus! algo determine whathar the collactibilty of payments from the lessee is probable, as i has implications for the subsequent accounting of the lease. Because collection of the lease payments (= not probable for Packer ple, @ should record the receipt of ‘the payments as a depost liability and not derecognize the lensed asset LE Rteaee i Cet ine Tree ME MASSE Rate Thing MERABE Nong ADRLPC Receding, ADARE-Note 24. (2) (1) The lessees accounting Br 2 lenge wan on wnguarantond resis vitua Re came ae the iccounting for a lease vath no residual valve. That is, unguaranteed residual values are not incued'n the lesses'sleace payments, either lr claseincaion or measurement purposes (2) A quaranteed residual value may be included, depending on how much a lessee expects 10 ‘owe under the guarantee. ‘The value of the lease liability may be made up of two components—the periodic rental payments and amounis probable to be owed under 2 guaranteed residual value. That is, i the expected residual value at the end of the lease term is less than the guaranteed residual value. then the lessee will expect to pay in cash a certain amount to the lessor at the end of the lease term, AS ‘such, the lessee should include the present value of the difference between the guaranteed residual and expected residual if he axpacted residual is less tan the guarantee. If he residual value at the end of the lease term differs in any way from the expected residual at the commencement of the lease, tha lessae recognizes a IOS or gain when the final payment of the guarantesd residual is made 2:4, 6 teem Gimeaty mae, Tine teh MAGEE Meteute Tammy AIC (b) AGHA AE Resomng RGA HE ne 25. The amount to be recovered by the lessor is tha same whether the residual value & guaranteed or unguaranteed. Therefore, the amount of the nerodic rental payments is set the same way by the lessor Whether the residual value is guaranteed or unguarantaed, 0-1 ener Comtutr Bi. Tree En8, MAGEE! Retest Pinerg. AIGEA EE feng, WORK EC: asoamg awERA=E Nene Gepynght © 2018 Winy Kiezo, FPS, Se, Souters Manual Ferinstuetor Use Only) 23‘Questions Chapter 21 (Continued) 26. _Inifial direct costs are the incremental costs of a lease that would not have been incurred had the lease not been executed. For the lessee, some costs that are included in the night-of-use asset are commissions, legal fees from the execution of the lease, lease documentation preparation costs incurred afler the exeoullon of the lease, and consideration paid for a quaraniea of residual value by an unrelated third party. For operating leases, the lessor should defer initial direct costs and amortize them as expenses over the term of the lease. In a sales-type lease transaction, the lessor expenses the inifial direct costs at lease commencement (in the period ni which it recognizes the prof on the sale), An exception is when there is No selling proft or loss on the transaction, in which case the inital direct costs are deferred and recognized over the lease term (LE: 4, Same Ruy: Re Tree 2 AACR. RENEE Ming, AERABE Nene AIDAA PE: ReseanVlAibeARE: None 27. Lessees and lessors must provide additonal quaiftative and quantitative cisciosures to heip financial statement users to assess the amount, fiwnd, and uncertainty of future cash flows. Qualitative lease Gisclosures incude the nature of the leases, how variable lease payments are determined, the existence: ‘and leems and conditions for options to.axtend o# terminate the lease and for residual value guarantees, and information about significant assumptions and judgments such as discount rates Quantitative Gsciosures include total lease cast, nance lease cost Segregated between ihe amorlzation of the right- of-use assets end interest on the lease liabilities, operating and short-term lease cost, weighted-average remaining lease term and weighted-average discount rate (s between finance and operating leases), and matunty analysis of fnance and operating lease liabilttes on an annual basis for a minimum of each of the nex five years and the sum of the undiscounted cash flows for all years thereafter. ASA. Boon H Gta Eile Tine TE AASES Retecnie hinkng ACPA EE: Ment ACEARE:Resntng AISEARE: None “28. In a sale-leaseback arrangement, a company (the seller-lessee) transfers an asset to another company (the buyer-lessar) and then leases thal asset back from the buyer-lessor. In order to qualify for sale- leaseback treatment, the initial transfer of the asset must be such that the seller-lessee gives up control of the asset to the uyer-lessor. In this vay, the transaction is = sale, and gain or loss recognition is appropriate. In addibon, the subsequent leaseback must be dassified as an operating lease for the Sellet-essee, This is because f any of the lease classification lests are mel, the seller-esses never ‘actually gave up control of the asset, and thus a sale is deemed to never have happened. As long as the initial ovner of the assel conlinues to control the asset, it should nol record a sala nar recagniza a gain of logs. instead, the transaction is treated as borrowing money from the ‘buyer-lessor in a financing arrangement, often labeled a “failed sale.” LSE Boon Catchy Hine Tine Toh AMSSS: Retncie Tokens ACEALRE: Kory ADSEAEC: Remoting AISEAEC: Note "29. The sale and subsequent lease will receive sale-leaseback accounting treatment. The inftal transfer of the asset was a sale, and ine seller-lessee gave control of the asset to ine buyer-lessor. in aggiven, ine subsequent leaseback is classified as an operating lease, and thus Sanchez never takes control of the asset back trom Harper. Had the leaseback been classified as a financing lease, tha transaction would. have been considered @ ‘failed sale’ end would have simply been accounted for as @ borrowing arrangement. However, because It qualities for sale-leaseback teatment, Sanchez should recognize the RS4 milion gross profit at the commencement of the lease and record @ nghl-oFuse asset and lease liabilty at the present value of the lease payments. AGE SER AE Commu Smiem Tien 5 AAGOS nla Trey AGFA SE NINE ASEAFS Reset AISEAPC MMe 20 Capyeghe® 2018 Wiey Riese, IFAS, die Selsions Manosl (For nevocter Use Oni)SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 21.1 The lease payments in the lease arrangement will include both the annual fixed payments of $800,000 each year, plus the €11,000,000 bargain purchase option at the end of the lease term (as it is reasonably certain to be exercised). Thus, the lease payments for the lease agreement total (€800,000 x 6) + €11,000,000 = €15,800,000. Lo: micom: AP, OMe: SMB, Tone: £4 ARCO: CamcaMER, AICRAIMRC dad AIDA re: MeSNA Aitra Po: csmaraneerbon BRIEF EXERCISE 21.2 The lease payments for years 1 and 2 will be $1,700 ($2,000 annual rental minus $300 lease incentive). In year 3, Fieger will receive no lease incentive, and will have a full lease payment of $2,000. Thus, in total over the first 3 years, the lease payments will be $6,400 ($1,700 + $1,700 + $2,000). Lest ioam: AP. cama: Bm, tans: 84, ARE: CommeMMAE, Ale BRIEF EXERCISE 21.3 Variable payments in a lease are not considered in determining the initial value of the lease liability and right-of-use asset. Because the lease payments are based on 4% of net sales, these payments are considered variable, as they are not based on an index or rate, the future level of which in not known at lease commencement. It does not matter that it is highly certain that Sanders will achieve a minimum of £1,000,000 in net sales each year. Thus, these variable lease payments are not included in the initial valuation of the lease liability and right-of-use asset. Since they are the only payments being made in the lease agreement, Sanders would record the right-of-use asset at zero and record lease expense when payments are made. BRIEF EXERCISE 21.4 12/3118 Right-of-Use Asset ($41,933 X 3.67710") 160,000°~ Lease Liability... 150,000 Lease Liability . 41,833 Cash .. 41,933 Copyrghi@ 2018 Wisy Kisco, AS, Ye, Soutors Manual (Por Instructor Use Only) 2-11BRIEF EXERCISE 21.4 (Continued) “Present value of an annuity-due of 1 for 4 periods at 8%. “Rounded by $1. 12/3449 Interest Expense [($180,000 - $41,833) X a 8,645 33,288 Depreciation Expense... 37,500 Right-of-Use Asset ($150,000 + 4)... {0:2 eon: AP, Cina: tna, Tne: 4, AAC A ICRA HB: Rone AICPA Raping, ACPA AE: Meme BRIEF EXERCISE 21.5 42/3419 Interest Expense [(€300,000 - €48,337) X 8%] 20,133 Lease Liabil 28,204 Cash Depreciation Expense....... 37,500 Right-of-Use Asset (€300,000 + 8) 16:2 eam: AP, emnay: tle Tame: £7, ARIE: An, BRIEF EXERCISE 21.6 33,975" “PV of rentals (£5,300 X 6.20637") PV bargain purchase option (£2,000 X 0.54027)" “Present value of an annuity-cue of 4 for 8 periods at 8%. “Present value of 1 for 8 periods at 8%. $,300 2-12 Cenyrghe® Solitons Mancal 41,933 37,500 48,337 37,500 33,975BRIEF EXERCISE 21.6 (Continued) 42/34/19 Interest Expense [(£33,975 - £5,300) X 6% 2,204 Lease Liability. 2,294 Depreciation Expense... 3,398 Right-of-Use Asset ($33,975 + 10°)... 3,398 “The right-of-use asset is amortized over the economic life of the asset instead of the lease term because of the bargain-purchase option included in the lease contract, given that the lessee plans to take ownership of the asset. $005, Roos: AF, Coty: tela, Tee: 67, AACE: Anat, ALCP EE ch AICPA Raporng, AIDE RC“ Wene BRIEF EXERCISE 21.7 Fair value of leased asset £70,000 Less: Present value of guaranteed residual value (£5,000 X .50025") 2,501 Amount to be recovered through lease payments £67,499 Amount of equal annual lease payments (£67,499 + 6.74664") £10,005 “Present value of 1 for 9 periods at 8%. “Present value of an annuity-due of 1 for 9 periods at 8%. LON Race AP, Dieu Mla Tne: 7, AACE: Anat, AICPA BE: Mang, IEMA PC Reportng, ACPA RE: None BRIEF EXERCISE 21.8 Fair value of leased asset $47,000 Less: Present value of lessor’s expected residual value“ ($30,000 X .79209"*) 23.763 Amount to be recovered through lease payments $23,237 Amount of equal annual lease payments ($23,237 + 3.46511") $6,706 “The expectation of the residual value of the lessee would not matter in this case. The lessor uses its own expectation of the residual value in determining the annual lease payments. The lessor probably would not even be aware of the lessee’s expectations. “Present value of 1 for 4 periods at 6%. "Present value of an or ry annuity for 4 periods at 6%. Eapyget® 2000 Wiey Wiese, ERS De Saubors Warusl (Bor instructor Use Only 2-13BRIEF EXERCISE 21.9 Lease Receivable (4.99271* X £30,044) 150,001 Cost of Goods Sold 120,000 Sales Revenue 150,004 Inventory ... 120,000 Cash... 30,044 Lease Receivable 30,044 “Present value of an annuity-due of 1 for 6 periods at 8%. $0: 2, goon: A, ome tain Trew 3, ‘eeperon GEA He nome BRIEF EXERCISE 21.10 30,044 20,447 Lease Bevanas] 1iei80, 001 - £30,044) X 8%] 9,597 20:8. se: AP Dest: tna Tena, AACE: Anais, AIGRA ME: NEES, AICPA FO: Razating, NGPA PC: Nome BRIEF EXERCISE 21.11 Lease Receivable (€40,800 X 4.31213") 175,935 Cost of Goods Sold 120,000 Sales Revenue 175,935 Inventory 420,000 Cash... 40,800 Lease Receivable 40,800 “Present value of an annuity-due of 1 for 6 periods at 8%. 10:5, Bom: AP Diu: tale, Ten: AAC RE Ana ICRA Bane AICPA FO Repaing ICRA PE: Nase BRIEF EXERCISE 21.12 Cash... 40,800 Deposit Liability*.. 40,800 “When collectibility of lease payments is not probable, the lessor does not derecognize the asset or recognize selling profit on the lease. Instead, Geiberger would recognize any cash receipts as a deposit liability. Lo Bieene Ae, mt: mam Te: 7, AAC HE: Anmyen, MIOBA BE: AUGEA EG nparOng, AUGER: Nom ae CGosyrght® 2018 Wiey Kissa. PRS, Se. Selvions Maral (Far Ineucior Use OnBRIEF EXERCISE 21.13 Lease Receivable a7 Interest Revenue. 57 Inventory... 1,000 Lease Receivable 1,000 Note to Instructor: The above two entries can be combined into one entry at the end of the year, as shown below: Inventory... 4,000 Interest Revenue. 87 Lease Receivabl 343 Lo: exam Fmt: tm, Ten 6.7, 82 Ara Pe ane BRIEF EXERCISE 21.14 ir Right-of-Use Asset (2.83339*° X £35,000 98,169 Lease Liability... 99,169 35,000 36,000 “Present value of an annuity-due of 1 for 3 periods at 6%. Schedule A. KINGSTON PLC Lease Amortization Schedule Annuity-Due Basis: Reduction Interest (6%) of Lease Date Annual Payment on Liability Liability _ Lease Liability wig £99,169 44g £35,000 £ 0 £35,000 64,169 41/20 35,000 3,850 31,150 33,019 424 35,000 4,981 33,049 0 Eopyepet® 2008 Winy Wiese, FAS, ie, Seuters Manual (Fer nsbuctor Use On) 2-15BRIEF EXERCISE 21.14 (Continued) 12/34/18 Interest Expense... 3,850 Lease Liability... Depreciation Expense (£99,169 = 3)... 33,056 Right-of-Use Asset. LEH Roan: A, Mout: Menge Tne: 8, ASHE: At, Af Reporting AIEPA Pe Mone BRIEF EXERCISE 21.15 ing Cash... 35,000 Unearned Lease Re’ 12/34/49 Unearned Lease Revenu: 35,000 Lease Revenue. Depreciation Expense... 25,000 Accumulated Depreciation -— Leased Equipment (£200,000 + 8) 68 Some aP, Com: Ama, Tame: 2.6, AACN: Anus, AICPA BE aA, ACP, aatereng aces Pe-nere 2-16 Conyrght® 2018 Wiey Kesa FRE, die. Selsions Manval 3,850 33,056 35,000 35,000 25,000 (Far insiracter UaBRIEF EXERCISE 21.16 Right-of-Use Asset (2.78326" X $12,000) Lease Liability... 33,399 “Present value of an annuity-due of 1 for 3 periods at 8%. Lease Liability ..... 42,000 Cash 12,000 Schedule A RODGERS CORPORATION Lease Amortization Schedule Annuity-Due Basis Reduction Annual Interest (8%) on of Lease Date Payment Liability Liability Lease Liability 49 $33,399 Ani $12,000 $ 0 $12,000 24,399 41120 12,000 1,712 10,288 14,441 A241 12,000 889 44,191 O 12/31/49 Interest Expense 4,742 Lease Liability. 1,712 Depreciation Expense ($33,399 + 3) 11,133, Right-of-Use Asset... 41133 BRIEF EXERCISE 21.17 Cas! 12,000 12,000 Unearned Lease Revenue - 12,000 = 12,000 aie Ora Wy For natucior UreBRIEF EXERCISE 21.17 (Continued) Depreciation Expense... Accumulated Depreciation— Leased Equipment [$60,000 + 10). 61 Boom: AF Cena: Himala, Tamw: £4, ARE RE: Anan. AACE BE: Roe, BRIEF EXERCISE 21.18 £17,000 X 2.83339" = £48,168 “Present value of an annuity-due of 4 for 3 periods at 6%. Because the residual value is unguaranteed, Escapee ple does not include it in its computation of the annual lease payments. If the residual value was guaranteed, the lessee may or may not be required to include the residual in the calculation of the lease payments, depending on whether the expected residual value was higher, equal to, or lower than the guaranteed residual value. Ler 8 eam: A, Mey: OBST, ane: Bt AAG ANAWDS, AOE, Roe. AICPA Pe: ReBORENG. AICPA PE: an BRIEF EXERCISE 21.19 (a) The value of the lease liability would remain the same if the only fact changed from BE21.18 was the guarantee of the expected residual value. Residual values should only be included in the lease liability when the expected residual value is less than the guaranteed residual value (i.e. when the lessee expects to make an additional payment at the end of the lease term to the lessor). (b) Following from the above reasoning, if the expected residual value drops to £5,000 and Escapee guarantees a residual of £9,000, Escapee will need to account for the difference between the expected and guaranteed residual value in calculating the initial lease liability as follows: PY of lease payments (£17,000 X 2.83339") £48,168 PY of residual value [(£9,000 - £5,000) X 0.83962") 3,356 Lease liability £51,526 *Present value of an annuity-due of 4 for 3 periods at 6%. “Present value of 1 for 3 periods at 6%. ais Ganyaghe © 2018 Wiley (pions MaraBRIEF EXERCISE 21.19 (Continued) Note to Instructor: The measurement of the lease liability/right-of-use asset only uses the amount probable to be owed under a residual value guarantee. The classification test related to the present value test uses the full amount of the guaranteed residual value to determine whether the finance or operating method of accounting for the lease is followed by the lessor. $0: 2 mine: AP, cau: Meena, Tm: 7, AACE: Anan, AICPA REL Ne, AICPA Po: REREPENG. AICPA: Mam BRIEF EXERCISE 21.20 Right-of-Use Asset Lease Liability “PV of rentals (€40,000 X 5.21236*) €208,494 PV of guaranteed residual value (€20,000 - €10,000°™) X 0.70496" 7,050 Lease liability €215,544 Lease Liability 40,000 Cash “Present value of an annuity-due of 1 for 6 periods at 6%. “Present value of 1 for 6 periods at 6%. “The lessee need only include in the initial lease liability the amount of the residual value that it expects to pay at the end of the lease term. Thus, in this case, only the residual value in excess of the expected residual value (up to the guaranteed residual) should be discounted to present value and included in the computation of the lease LG ms Am, Gimout: WeseraM Ta: AAG: Anan, AuD% BE: Noe. AICPA PE: ReRarDN, AIGeA PE: Nam BRIEF EXERCISE 21.21 12/34/18 222,597" 180,000 Lease Receivable Cost of Goods Sol Sales Revenue Inventory .... *([€40,000 X 5.21236) + [€20,000 X .70496)) 222,593 480,000 D2 Wisy Were, FPS Se, Souters Werusl For instuster Use Only 21-18BRIEF EXERCISE 21.21 (Continued) Cash. 40,000 40,000 4234/18 40,000 29,084 10,956 BRIEF EXERCISE 21.22 Lease Liability In calculating the lease liability, Forrest must determine which of the executory costs are considered a component of the lease (to be considered in the measurement of the lease liability). « The real estate taxes in this case are variable payments and therefore are not considered in the measurement of the lease liability and related right-of-use asset. « The fixed $500 insurance payments are included in the measurement of the lease liability because the insurance costs are a fixed part of the rental payments. The lease liability is computed as follows: PV of rental payments (4.31213° X $4,638): $20,000 PV of insurance payments (4.31213" X $500): 2.156 Initial lease liability: $22,156 “Present value of an annuity-due of 1 for 5 periods at 8%. Right-of-Use Asset The right-of-use asset is initially measured the same as the lease liability, though it is also adjusted for any initial direct costs, prepaid rent, and lease incentives associated with the lease. The legal fees resulting from the execution of the lease are considered initial direct costs, and must be included in the calculation of the right-of-use asset: 27-20 Conmgit® 2018 Wiey Bolations MancaBRIEF EXERCISE 21.22 (Continued) Lease liability: $22,156 Legal fees: 4,000 Right-of-use asset: $23,156 Thus, the journal entry to record the initial lease liability and right-of-use asset is as follows: Right-of-Use Asset... Cash (Legal Fees) Lease Liabili 23,156" 5AM Reals MICRA BE: Ron AICEH ES: Reporong, kiSea BAe BRIEF EXERCISE 21.23 Answer: $78,998 PV of lease payments: $83,498 Cash incentive received from Badger (lessor): (5,000) Lease document preparation costs: 500 Measurement of right-of-use asset at 1/1/19: $78,993 Employee salaries are specifically excluded as initial direct costs, and would not be included in the calculation of the right-of-use asset. Note to Instructor: The lease liability would not include any adjustments for cash incentive received, or any included initial direct costs. The lease liability would only reflect the present value of future lease payments. Lord Bim: a. combuty: Ama Ti: 62, AACE: Ana AICPA BE: ane, AUCPA FC: mEBEIONY, AICPA PE: Wore Zopyeget@ 2018 Winy Kiesa, FAS, ie, Sektora Manual (Fer etuctor Use Only 2aBRIEF EXERCISE 21.24 Answer: €46,554 PV of lease payments: €44,651 Cash incentive received from Highlander (lessor): (2,000) Commissions for selling agents: 900 Legal fees resulting from the execution ofthe lease: 3,000 Measurement of right-of-use asset at 1/1/19; €46,551 Internal engineering costs are specifically excluded as initial direct costs, and would not be included inthe calculation of the right-of-use asset. Note to Instructor: The lease liability would not include any adjustments for cash incentive received, or any included initial direct costs. The lease liability would only reflect the present value of future lease payments. 10:4 com: AP, Doma: ti Tem, AAGIRE, Atm, AICPA EL Rane, AICPA Mebutg, AGRA PC: Meme BRIEF EXERCISE 21.25 Lease Expense 15,000 Cash ...... 15,000 “Because the lease term is only 1 year, the lessee treats the lease as a short- term lease, does not capitalize the asset on its books, and records lease payments as expenses when paid. 2:4 Blom: AP My: Hangin, Tne 67, ARTE Anan, ICA NE: eg, JUCRA PS: Mapaing, ICRA PC Mese “BRIEF EXERCISE 21.26 The transaction between Irwin and Peete will qualify as a sale-leaseback, as Irwin has transferred control of the asset to Peete. That is, the terms of the leaseback do not meet any of the tests to be classified as a finance lease, and thus does. not transfer control back to Irwin. Irwin will recognize a gain on the sale of the asset, and record a right-of-use asset and corresponding lease liability for the operating lease entered into with Peete. Subsequent accounting treatment will follow the normal accounting for an operating lease. 2-22 gree 207 FAS, tie Saktions Manual (For knBRIEF EXERCISE 21.26 (Continued) 35,000 28,000 7,000 23,245 23,245 “Present value of an ordinary annuity for 3 periods at 6%. IRWIN ANIMATION Lease Amortization Schedule ___Ordinary-Annuity Basis Reduction Annual Interest (6%) on —of Lease Date Payment Liability Liability _ Lease Liability 449 €23,245 44/20 €8,696 € 1,385 €7,301 15,944 A241 8,696 967 7,739 8,205 ANI22 8,696 491" 8,205 Qo “Rounded $1 123119 Interest Expens: 1,395 Lease Liability... 1,396 Depreciation Expense (€23,245 + 3 7,748 Right-of-Use Asset... 7,748. Note to Instructor: The lease payment on 1/1/20 would be as follows: Lease Liability .. 8,696 Cash .. LO: 6 ine: AP, cement: Regt Tome £0 8,696 Gopyege® 2018 Way Kiess, FAS, Sle, Soltions Manual (Fer Insbuctor Use Only 2123“BRIEF EXERCISE 24.27 With the change of facts, the leaseback meets the lease term and present value classification tests (5/5 = 100% of asset's economi ; €8,309 x 4.21236 = €35,000 = 100% of asset's fair value). As a result, the lease is a finance lease. Consequently, Irwin has control of the asset from the lease arrangement, and has never given up control of the asset (i.e., a failed sale). Therefore, Irwin will not recognize any gain on the sale of the asset, but instead record a note payable to demonstrate the financing-nature of the transaction as shown in the following entry on January 4, 2019. anits Cash 35,000 jotes Payable [! 35,000 *“ Present value of an ordinary annuity for § periods at 6%. At December 31, 2019, it makes the following entry to record interest on the note payable. 42/3411 Interest Expens: Interest Payable [i 2,100 4] This sale-leaseback arrangement is a financing transaction and is often referred to as a failed sale. 25: RSS AP, Eb: HE, TH BE, AA RE AS, 2,100 21-24 Copynght® 2018 Wiey Kieso. FAS, aie. Solutions MancalSOLUTIONS TO EXERCISES EXERCISE 21.1 (15-20 minutes) Note to Instructor: The lease term is 100% of the asset's economic life, and the present value of the rental payments are 100% of the asset's fair value, as shown below: Present value of first payment (£5,552.82 X .92593) .. £ 6,141.52 Present value of second payment (£5,830.46 X 85734) .. 4,998.69 Present value of third payment (26,121.98 X .79383) .. 859.84 Present value of the rental payments........£15,000,00° “Two cents rounding error. 12/31/18 Right-of-Use Asset, 15,000 Lease Liability .. 15,000 12/3119 Interest Expense (£15,000 X 8%) 4,200.00 Lease Liability 4,352.82 Cash 5,552.82 Depreciation Expense (£15,000 + 3) 5,000.00 Right-of-Use Asset 5,000.00 12/31/20 Interest Expense [£15,000 . £4,352.82) X 8%] 851.77 Lease Liability 4,978.69 Cash 5,830.46 Depreciation Expense (£15,000 + 3) 6,000.00 Right-of-Use Asset. _ 5,000.00 gh 201H Wiay Kinso, PAS, Be, Setters Manual (Por instructor Use Only) 225EXERCISE 21.1 (Continued) (b) The initial valuation of the lease liability and related right-of-use asset should not include any unknown increases or decreases in lease payments due to increases or decreases in the CPI. Rather, for the initial measurement of the lease liability, the lessee assumes that all payments will be made as if the CPI level at the commencement date of the lease does net change. Thus, DU Journeys should discount the annual lease payments using the ordinary annuity factor applied to the first lease payment. 4, Bloom, ity Macarat,Tina 1-28 LACIE: daly AICPA Bone AISAK FC-Resorteg’AGRH RE: Mone EXERCISE 21.2 (15-20 minutes) (a) Computation of present value of lease payments: $8,668 X 4.64595" = $39,404 “Present value of an annuity-due of 4 for § periods at 5%. 12/31/18 (b) Right-of-Use Asse 39,404 Lease Liabili 39,404 Lease Liability 8,668 Cash... 8,668 12/34/19 Depreciation Expense 7,884 Right-of-Use Asset 7,884 ($39,404 = 6) Lease Liability.... TAH Interest Expense [($39,404 - $8,668) X .05] 1,537 Cash... 8,668 Lor 2 Bisse an mute Macarate, Tw 6-3, ASHE! Airs, AUGPH.BEE Nowe, aidPa Fo-fasortng AIGPA-PD ene 7-28 Copyright® 2018 Wiey Kao, FiEXERCISE 21.3 (20-25 minutes) (a) The present value of lease payments, for purposes of determining the lease liability for the lessee, should only include the present value of any guaranteed residual value probable to be owed under the lease agreement (i.e. the amount of guaranteed residual value over the expected residual value). Because the expected residual value is the same as the guaranteed residual value, no amounts are probable to be owed under the lease agreement, and the present value of lease payments to determine the lease liability therefore is: PV of monthly payment of €200 for 50 months [£200 X 44.36350*] .. €8,873 “Present value of an annuity-due of 1 for 50 periods at 0.5%. (b) Right-of-Use Assi 8,873. Lease Liability 8,873 200 200 157 Interest Expense (0.5% X [€8,873 - €200] a ‘Cash... 200 (e) Amortization Expense 177 Right-of-Use Asset 177 (€8,873 + 50 mor (f) As explained in part (a), the lessee should include the present value of any guaranteed residual value probable to be owed under the lease agreement. Because the expected residual value (€500) is less than the guaranteed residual walue (€1,180), Delaney should include the present value of the difference in the initial measurement of the lease liability. Thus, the present value of the lease payments is calculated as follows: PV of monthly payment of €200 for 50 months [€200 X 44.36350°] €8,873 PV of guaranteed residual value probable to be owed [(€1,180 - €500) X.77929"] 530 PV of lease payments 5,403 “Present value of an annuity-due of 4 for 50 periods at 0.5° 5-2, Boa: A, Cau: Moawate, Ting 28-26, AACE: Analyte, ACSA BE: None, AIDPA FE: Repartng AIGA PE: oe 2OTE Way Winco, RS, lle, Soubona Warual (For Inatucior Use Oy TiEXERCISE 21.4 (20-30 minutes) (a) For purposes of calculating the initial lease liabi the present value of the lease payments will only include the amount of a residual value guarantee probable to be owed at the end of the lease term. Thus, the initial lease liability and right-of-use asset to be recorded on the books of Stora Enso is calculated as follows: € 74,830 Annual rental payment X_7.24689 = PV of annuity-due of 1 forn = 10,)=8% € 520.544 PV of periodic rental payments € 3,000 Amount probable to be owed under residual value guarantee (€10,000 - €7,000) X__.46319°° PV of 1 for n= 10, Ya 4,390 PV of amount probable to be owed ‘on residual value guarantee € 520,544 PV of periodic rental payments + 1,390 PV of the residual value € 521,934 Lease liability 24-28 See, Kisze FRE jie Soluions Marusi (Fer mewuser Use OryEXERCISE 21.4 (Continued) 123418 Right-of-Use Asset. Lease Liability Lease Liability Gash 12/34/19 Depreciation Expense... Right-of-Use Ass: (€521,934 = 10) Lease Liability .... Interest Expense (See Schedule 4). Cash 12/34/20 Depreciation Expense Right-of-Use Asset Lease Liability... Interest Expense (See Schedule 1) Cash... 521,934 74,830 52,193 36,822 36,008 52,193 38,687 33,143 DMS Wisy Wate, FRE Ve, Seusers Warusl (Fer navurtar Use Only 521,934 71,830 52,193 74,830 52,193. 71,830 2-20EXERCISE 21.4 (Continued) Schedule 1 Stora Enso Lease Amortization Schedule (partial) (Lessee) Reduction Annual Lease Interest (8%) on of Lease Date Payment Liability Liability _ Lease Liability 12/34/18 €521,934 12/34/18 €71,830 € oO €71,830 450,104 12/31/19 71,830 36,008 35,822 414,282 12/31/20 71,830 33,143 38.687 375,595, eran, AIPA Pa Hee (b) Initial direct costs and lease incentives do not affect the initial measurement of the lease liability. Instead, they only affect the measurement of the right-of-use asset. Initial direct costs incurred by the lessee increase the right-of-use asset, whereas a lease incentive decreases the value of the right-of-use asset. The calculation of the right-of-use asset is as follows: € 521,934 Lease liability - 1,000 Lease incentive + 6.000 Legal fees € 525.934 Right-of-use asset (¢) The annual insurance payments of €5,000 are considered part of the annual payments to the lessor similar to the rental payments, as they do not transfer a separate good or service to the lessee, but rather are part of the payment to use ‘the leased asset and are attributable to the lease component. Therefore, the Present value of the €5,000 annual payments should be included in the initial measurement of the lease liability, and thus the right-of-use asset as well. The calculation is as follows: Annual rental payment PV of annuity-due of 1 forn = 10,i= 8% PV of periodic rental payments Annual insurance payment PV of annuity-due of 1 forn = 10,1 = 8% PV of periodic insurance payments. Gepyrghe® 2018 Wiley Maze, PRS die Solions Manual 21-30EXERCISE 21.4 (Continued) € 3,000 Amount probable to be owed under residual value guarantee (€10,000 - €7,000) X__.46319 = PV of f form = 10,1= 8% € 4,390 PV of amount probable to be owed of residual value guarantee € 620,544 PV of periodic rental payments + 36,234 PV of periodic insurance payments. + 1,390 PV of the residual value + __1,390 © 558.168 Lease liability Note how the inclusion of the executory costs leads to an inflated lease liability and related right-of-use asset. Additionally, note that had the insurance payments been variable, they would not have been included at all in the measurement of the lease liability, which would have led to a very different initial measurement of the liability and asset. (d) Because Stora Enso expected the residual value of the asset at the end of the lease to be €7,000, it expected to owe Sheffield an additional €3,000 in addition to returning the asset under the residual value guarantee. Thus, Stora Enso has a lease liability of €3,000 remaining on the books. However, the value of the asset covers the entire guarantee, and thus no additional cash payment is required by Stora Enso. As a result, they will book a gain, as shown below: Lease Liability .. 3,000 Gain on Lease 3,000 Lo Bow AN Sut rae, The EEE AME HE: Anat ICRA BE one Recortng AERA FO: Mont EXERCISE 21.5 (15-25 minutes) (a) Fair value of leased asset to lessor £245,000 Less: Present value of unguaranteed residual value £24,335 X 63017 (present value of 1 at 8% for 6 periods) 15,335 Amount to be recovered through lease payments Six periodic lease payments £229,665 + 4.99271" £46,000 *Present value of an annuity-due of 4 for 6 periods at 8%. Rounded to the nearest pound. eB 2018 Wigy Wiens, HPS Se, Seutens Warusl (Fer nabuetor Use Only 234EXERCISE 21.5 (Continued) (b) MORGAN LEASING GROUP (Lessor) Lease Amortization Schedule Annual Lease Interest (8%)on Recovery Payment Lease of Lease Lease Date Plus URV Receivable Receivable Receivable 1AMNg £245,000 qA13 £ 46,000 £ -- £ 46,000 139,000 44120 46,000 15,920 30,080 168,920 1/4/24 46,000 13,514 32,486 136,434 141/22 46,000 10,915 35,085 101,349 11123 46,000 8,108 37,892 63,457 1/4124 46,000 5,077 40,923 22,534 12/31/24 24,335 4,801" 22,534 oO £300,335 £55,335 £245,000 “Rounded by £2. A119 (c) Lease Receivable 245,000" Cost of Goods Sol 229,665" Sales Revenue 229,665" Inventory .. 245,000 21-32 *The lease receivable will include both the present value of the rental payments (£46,000 X 4.99274) plus the present value of the residual value (£24,335 X .63017), as the lessor believes it will receive both of these amounts over the life of the lease. “While cost of goods sold normally mirrors the value of the inventory being sold, in this case it is reduced by the present value of the residual value [£245,000 - (£24,335 X .63017)], as the lessor will receive the inventory again at the amount of the residual value. Sales revenue represents the present value of the rental payments (£46,000 X 4.99271), but it does not include the present value of the residual value. That is, the lessor will get the residual value back at the end of the lease, and thus has not “sold” that portion of the asset. lations Mana Use Oni) ConprghEXERCISE 21.5 (Continued) 1ANg Cash... 46,000 Lease Receivable 46,000 WBIN9 Lease Receivable... 15,920 Interest Revenue 15,920 1N20 Cash. nee 46,000 Lease Receivable 46,000 12/31/20 Lease Recelvabll 13,514 Interest Revenue .. 13,514 LD: $ Boon: AM, Eien: Moderate, Ting 15, AMEE: Anite. Fo Repotng RERAPE: one EXERCISE 21.6 (20-25 minutes) Computation of annual pay Ss Fair value of leased asset to lessor $160,000 Less: Present value of residual value ($16,000 X .90703") 14,512 Amount to be recovered through lease payments $145,488 Two periodic lease payments ($145,488 + 1.85941") 78,244 “Present value of 1 at 5% for 2 periods Present value of an ordinary annuity of 1 for 2 periods at 5% Castle will classify the lease as a sales-type lease, because the agreement meets both the present value test ($145,488/$160,000 = 91% which is greater than 90%) and the lease term test (2/2 = 100%) which is greater than 75%. The $16,000 option to purchase does not count as a bargain purchase, the expected residual value at the end of the lease term is also $16,000. ©2010 Wiay Kiero, AS, de, Soubare ManualEXERCISE 21.6 (Continued) CASTLE LEASING COMPANY (Lessor) Lease Amortization Schedule Interest (5%) Recovery Annual Lease on Lease of Lease Lease Date Payment Receivable Receivable Receivable 1AM9 $160,000 12/31/19 $78,244 $8,000 $70,244 89,756 12/31/20 78.244 4,488 73,756 16,000 12/31/20 16,000 Oo 16,000 o ang fa) Lease Receivable 160,000* Cost of Goods Sold 105,488" Sales Revenue . 145,488°* Inventory ... 420,000 “($78,244 X 1.86941) + ($16,000 X .90703), rounded $120,000 — ($16,000 X .90703), rounded “=*$460,000 — (16,000 x .90703), rounded 123449 78,244. 70,244 6,000 Cash... 78,244 Lease Receivabl 73,756 Interest Revenue 4,483 12/34/20 (b) Cash... 46,000 Lease Receivable. 16,000 LEH Bess: AN, mou: Meaaiata,Thnd H-28 ACHE. Ase AICPA RE Note AIDPA FE: Mascitng. 10 a Copynghe 8 20 FRE, ie SelaEXERCISE 21.7 (15-20 minutes) (a) The lessee accounts for all leases using the finance lease method and records the right-of-use asset and lease liability at the present value of the lease payments using the incremental borrowing rate if it is impracticable to determine the interest rate implicit in the lease. The lessee’s amortization depends on whether ownership transfers to the lessee or if there is a bargain purchase option. If one of these conditions is fulfilled, amortization would be over the economic life of the asset Otherwise, it would be amortized over the lease term. Because both the economic life of the asset and the lease term are three years, the leased asset should be depreciated over this period. The lessor should account for the lease as a sales-type lease. Because title to the asset passes to the lessee, the lease term is longer than 75% of the economic life of the asset (3/3 = 100%), and the present value of the lease payments is more than 90% of the fair value of the asset (€95,000/€95,000 = 100%), it is a finance (sales-type) lease by the lessor. Assuming collect of the rents is probable, the lease is accounted for as a sales-type lease to the lessor. The lessor should record a lease receivable and sales revenue equal to the present value of the lease payments of €95,000. In addition, the lessor should remove the asset (inventory) from its books at $70,000, and the related cost of goods sold €70,000. Interest is recognized annually at a constant rate relative to the unrecovered lease receivable (See lease amortization schedule). Fair value of leased asset (Amount to be recovered by lessor through lease payments! €95,000 Three annual lease payments: €95,000 = 2.57710 €36,863 “Present value of an ordinary annuity of 1 for 3 periods at 8%. 2O1B Wiey Kissa, FRE, aie, Soubona Manual (For Inabuctar Use Only 7-35EXERCISE 21.7 (Continued) (b) Amortization Schedule Interest (8%) Rent Receipt) Revenue! Reduction of Receivable! Payment Expense Principal Liability 4AAg - - - €95,000 12/31/19 €36,863 €7,600° €29,263 65,737 412134120 36,863 5,259 34,604 34,133 42/31/24 36,863 2,730 34,133 0 "€95,000 X .08 = €7,600 (c) 49 Lease Receivable 95,000 Cost of Goods Sol 70,000 Sales Revenue 95,000 Inventory. 70,000 (d) 41/19 Right-of-Use Asset. 95,000 Lease Liability 95,000 (e) Ang Right-of-Use Asset. 103,311 Cash... 10,000 Lease Liability (€36,863 X 2.83130") ... 93,311 “Present value of an ordinary annuity of 1 for 3 periods at 9%. 5.5 tiicom AM Stay Spl, TH, AME HE: ene, Sovmeraon IGM BE hae, IG RE Rapostng. Meserema MERA AE: ‘Semen ne Copyrght® 2018 Wiey Kuso, (FAS, Sie, Selsions ManualEXERCISE 24.8 (15-20 minutes) (a) $36,004 X 6.58238* = $230,410 “Present value of an annulty-due of 1 for 8 periods at 6%. (b) Because the lease term test is met (8/10 = 80% > 75%), the lease is classified as a sales-type lease. 44119 Lease Receivable ... 230,410 Cost of Goods Sold 160,000 Sales Revenue 230,410 Inventory ..... 460,000 Cash... 35,004 Lease Receivable... 35,004 AzS148 Lease Receivable 41,724 Interest Revenue 11,724 [($230,410 - $35,004) X .06] (c) If the collectibility of lease payments is mot probable for the lessor, the lessor does not derecognize the asset or recognize selling profit on the Instead, Crosley would recognize any cash receipts as a deposit liability. 419 Cash Deposit Liability 35,004 35,004 A lessor does not derecognize the asset and recognize selling profit until collectibility becomes probable (4) Inventory... 1,000 Gain on Lease (Re: 1,000 mem AP ome: etn, 5, AACR Anan, ACPA Ena, ICP PO: Mabarg APA. P ane Copynget 20/8 Winy Manzo, ERS Ye, Seuterssrusl Fer instucter Us 2a?EXERCISE 21.9 (20-25 minutes) (a) Lease Liability = $35,004 x 6.20637° = $217,248 Right-of-Use Asset = $217,248 + $15,000 = $232,248 “Present value of an annuity-due of 1 for 8 periods at 8%. =The right-of-use asset is initially valued at the same amount as the lease liability, plus the initial direct costs, minus any lease incentives received. (b) The lease is accounted for using the finance lease method. Right-of-Use Asset 232,248 Cash... 15,000 Lease Liability 217,248 Lease Liability . 36,004 Cash... 35,004 Interest Expense .. 44,580 Lease Liability 14,580 [($217,248 - $35,004) X .08] Depreciation Expense ($232,248 = 8) 29,034 Right-of-Use Asset. 29,031 EXERCISE 21.10 (20-30 minutes) (a) Computation of lease liability: ¥20,471.94 Annual rental payment X_4.31213 PV of annuity-due of 1 forn = 5,i=8% ¥83,277,.67 PV of periodic rental payments ¥ 4,000.00 Bargain purchase option X_.68058 PV of 1 forn= 5, i= 8% ¥ 2722.32 PV of bargain-purchase option ¥88,277.67 PV of periodic rental payments + 2,722.32 PV of bargain-purchase option ¥91,000.00 —_Lease liability (rounded) are Capyrght® 2018 Wiley Kieso. FAS, ie. Sellers Wianus (FeEXERCISE 21.10 (Continued) Choi Group (Lessee) Lease Amortization Schedule Annual Lease Interest Reduction Payment Plus. (8%) on of Lease Lease Date BPO Liability Liability Liability 8119 ¥91,000.00 8/119) ¥ 20,471.94 ¥20,471,94 70,528.06 5/1/20 20,471.94 ¥ 5,642.24 14,829.70 55,698.36 6/1/21 20,471.94 4,455.87 16,016.07 39,682.29 §/1/22 20,471.94 3,174.58 17,297.36 22,384.93 5/1/23 20,471.94 41,790.79 18,681.15 3,703.78 4/30/24 296.22" 3,703,783 oO —4,000,00 ¥106,359.70 ¥15,359.70 ¥91,000.00 “Rounding error is 8 Yen. sing (b) Right-of-Use Asset 91,000.00 Lease Liability 91,000.00 Lease Liability 20,474.94 Cash . 20,471.94 42/34/19 3,761.49 3,761.49 ity (¥5,642.24 X 8/12 = ¥3,761.49) Copyrget® 2008 Winy Kieso, FRS, We, Souters Manual (For Insrucmor Use Only 21-39EXERCISE 21.10 (Continued) 12/31/19 Depreciation Expense Right-of-Use Asset. ($91,000.00 + 10= (88,100.00; $9,100.00 X (8/12 = $6,066.67) 6,066.67 6,066.67 4/1/20 Lease Liability .. 3,761.49 Interest Expenss 3,761.49 5/4/20 5,642.24 14,828.70 Interest Expensi Lease Liabi Cash 20,471.94 12/31/20 Depreciation Expense 2,970.58 Lease Liabili 2,970.58 12/31/20 Depreciation Expense Right-of-Use Ass ($91,000.00 + 10 years ($9,100.00) Because a bargain-purchase option was involved, the leased asset is depreciated over its economic life rather than over the lease term.) 0:5, inane: AP, Doman: Mesaraia, Te: 2038, ACHE: Ama, AUER BE 9,100.00 9,100.00 pa to: Repering wcra Po none 21-40 Comnght © 2018 Wey Kissa Seltions Mana Instructor Use Orly)EXERCISE 21.11 (20-30 minutes) (a) The lease agreement has a bargain-purchase option. The collectibility of the lease payments by Mooney is probable. The lease, therefore, qualifies as a sales- type lease from the viewpoint of the lessor. The lease payments associated with this lease are the periodic annual rents plus the bargain purchase option. There is no residual value relevant to the lessor's: accounting in this lease. The lease receivable is computed as follows: ¥20,474.94 — Annual-rental payment X_ 4.31213 PV of an annuity-due of 1 forn=5,1= 8% ¥88,277.67 PV of periodic rental payments ¥ 4,000.00 Bargain purchase option X___.68058 PV of 1 form =5, i= 8% ¥.2.722,32 PV of bargain-purchase option 488,277.88 PV of periodic rental payments + 2,722.32 PV of bargain-purchase option ¥87,000.00 Lease receivable at commencement (rounded) (b) MOONEY LEASING (Lessor) Lease Amortization Schedule Annual Lease = Interest (8%) Recovery Payment Plus. on Lease of Lease Lease Date BPO Receivable Receivable Receivable 5/1/19 ¥91,000.00 S419 ¥ 20,471.94 ¥20,471.94 70,528.06 5/1/20 20,471.94 ¥ 5,642.24 14,829.70 55,698.36 5/4/24 20,471.94 4,455.87 16,016.07 39,682.29 5/22 20,471.94 3,174.58 17,297.36 22,384.93 5IM123 20,471.94 1,780.79 18,681.15 3,703.78 4/30/24 4,000.00 296,22" 3,703.78 0 ¥106,359.70 = ¥15,389.70 = #91,000.00 “Rounding error is 8 Yen. 2018 Wiey Kins, PAS, 3 clutiers Varual (Fer raburtsr Ure Only) 2aEXERCISE 21.14 (Continued) S19 (ce) Lease Receivable .. 91,000.00 Cost of Goods Sol 65,000.00 Sales Revenue 94,000.00 Inventory ..... 65,000.00 Cash...... 20,471.94 Lease Receivable... 20,471.94 12/31/19 Lease Receivable . 3,761.43 Interest Revenut 3,761.49 1642.24 X BI 3,761.48) 5/1/20 Gash... 20,471.94 Lease Receivabl 18,591.19 Interest Revenut 1,880.75 (¥5,642,24 — ¥3,761.49) 12/31/20 Lease Receivable . 2,970.58 Interest Revenut 2,970.58 (¥4,455.87 X 8/12 = (¥2,970.58) (4) If the collectibility of lease payments is not probable for the lessor, the lessor does not derecognize the asset or recognize selling profit on the lease. Instead, Mooney would recognize any cash receipts as a deposit liability. aaa Copan 201 Wass PRE Se Selnisns MancaEXERCISE 21.14 (Continued) Cash... Deposit Liability 20,471.94 20,474.94 A lessor does not derecognize the asset and recognize selling profit until collectibility becomes probable. £9: Rien: AP, maa: Meeerab, Tae: 26-5, ACHE: Ane, AIGhA HE: Mane, AIGPA RG: Maal CRA Rane EXERCISE 21.12 (20-25 minutes) (a) This is a finance (sales-type) lease to Benson since the lease term Is 75% (6 + 8) of the asset's economic life. In addition, although the lease payments are not provided in the problem facts, the lease will also meet the present value test, as shown in part (b). There is a bargain-purchase option in the lease, as Flynn has the option to purchase the asset at the end of the lease term for a price $4,000 below the expected residual value of the asset, and thus exercise of the option is reasonably certain. Last, collectibility of the lease payments is probable. (b) Computation of annual rental payment (by the lessor): Fair value of leased asset .. $150,000 Less: Present value of bargain-purchase option ($1,000 X .74622"). 745 PV of lease payments... $149,254 Six annual lease payments: $149,254 + 5.32948"... $28,005 *Present value of $1 at 5% for 6 periods. “Present value of an annuity-due at 5% for 6 periods. @201G Wiey Wesa, PRS, ie, Solitons Manual (For nabudiar Use Only 21-43EXERCISE 21.12 (Continued) (c) Lease Receivable ... Cost of Goods Sold Sales Revenue Inventory “($28,005 X 5.32948) + ($1,000 X 74622), rounded “Sales revenue would also include both the present values of the rental payments and the bargain-purchase option. 150,000" 120,000 180,000" 120,000 28,005 28,005 12/3149 Lease Receivable... Interest Revenue 1($150,000 - $21 6,100 6,100 (d) If the collectibility of lease payments is not probable for the lessor, the lessor does not derecognize the asset or recognize selling profit on the lease. Instead, Bensen would recognize any cash receipts as a deposit liability. Aig Cash... ose 28,005 Deposit Liability 28,005 A lessor does not derecognize the asset and recognize selling profit until collectibility becomes probable. iat Copyrght® 2018 Wiey Wiese. IFAS, Sie Solaions Manual (For heiructor Use OnlyEXERCISE 21.12 (Continued) AMA9 (e) Right-of-Use Asset. 146,677 Lease Liabilit . 146,677 [$28,005 X 5.21236") + ($1,000 X .70496""]] Lease Liability 28,005 Cash... 26,005 “Present value of an annuity-due at 6% for 6 periods. “Present value of §1.at 6% for 6 periods. 12/34/49 Depreciation Expense 18,335 Right-of-Use Ass: 18,335 ($146,677 + 8" years) “The lessee uses the economic life of an asset instead of the lease term for amortization purposes when ownership transfers or there is a bargain purchase option Interest Expens: Lease Liabil ($446,677 - 7,120 7,420 (f) The value of the lease liability for the lessee is unaffected by any initial direct costs incurred. However, the initial measurement of the right-of-use asset must be adjusted for initial direct costs incurred. Thus, the initial right-of-use asset should be measured at $148,677 ($146,677 + $2.000) 148,677 2,000 Lease Liability 146,677 c: Raeng, che AE ane Copyeght @ 2018 Winy Kuso, FAS. ie, Schutons Manual (Fer Instructor Use Only) 2-85EXERCISE 21.13 (20-25 minutes) (a) The lease will be classified as a sales-type lease for Phelps. While ownership does not transfer at the end of the lease, there is no bargain purchase option, the asset is not specialized, and the present value test is not met (see calculation of lease liability for PV of lease payments), the lease term is greater than 75% of the useful life of the asset (5 + 6 = 83%). The calculation of the lease receivable for Phelps is done as follows: Annual rental payments... a Present value of an annuity-due for § periods at 8% Present value of rental payments (rounde £4,703 “This value should be used in performing the present value test. The lease fails the present value test because £20,280 + £23,000 = 88.2%, which is less than 80%. Expected residual value £4,000 Present value of $1 for § periods at 8% 68058 Present value of residual value (rounded) £2,722 Present value of expected residual value £2,722 Present value of annual rental payments 20,280 Lease Receivable £23,000" “Rounded by £2. The initial lease liability and right-of-use asset, from Walsh's (lessee’s) point of view is the present value of the rental payments (£20,280), and excludes the residual value. This is because Walsh does not guarantee any part of the residual value. ne Conyight® 2078 WieyEXERCISE 21.13 (Continued) (b) Phelps’ Journal Entries 1419 23,000" 13,280 Lease Receivable... Cost of Goods Sold Sales Revenue. Inventory, “(E4,703 X 4.31213) + (£4,000 X 68058), rounded "£16,000 - (£4,000 X .68058), rounded “£4,703 X 4.31213, rounded 20,280""* 16,000 Cash... Lease Receivable... 4,703 4,703 12/31/19 Lease Receivable Interest Revenue [(£23,000 - £4,703) x .08] ...... 1,464 1,464 Walsh's Journal Entries 1419 Right-of-Use Asset Lease Liability. 20,280 20,280 Lease Liability. Cash 4,703 4,703 12/3119 Interest Expens: 1,248 Lease Liability [[£20,280 - £4,703) x .08}....... 4,246 4,056 Depreciation Expense ... Right-of-Use Asset (£20,280 = 6), 4,056 (c) If the residual value is guaranteed, Walsh may need to consider this guarantee in measuring the lease liability. Copyeget@ 2018 Winy Kinso, FAS, 2e, Sohitors Manual (For Insbuctor Use Only 2EXERCISE 21.13 (Continued) With respect to the initial measurement of the lease receivable, the lessor always includes the residual value in the lease receivable, whether it is guaranteed or not. Therefore, Phelps’ measurement of the lease receivable (£23,000) does not change as a result of the guarantee. For the lessee, only the amount that is probable to be owed under the guaranteed residual value should be included in the initial measurement of the lease liability and right-of-use asset. In this case, because Walsh expects the residual value to be equal to the residual value guarantee, Walsh will not include any amount of the residual value in the calculation of the lease liability and right-of-use asset, and the initial measurements will remain £20,280. In order for the answer to change, the expected residual value would have to be lower than the guarantee. (d) Walsh would need to include the present value of the amount probable to be owed under the residual value guarante its initial measurement of the lease liability. Because the expected residual value less than the guaranteed residual value, Walsh must include the present value of the difference, or the amount it expects to pay Phelps at the end of the lease term. Thus, the initial measurement of the lease liability and right-of-use asset would instead Present value of rental payments (rounded) ...... £20,280 Present value of amount probable to be owed [(£4,000 - £3,000) X .68058 681 Lease liability. £20,961 “Present value of £1 for 5 periods at 8%. EXERCISE 21.14 (20-25 minutes) If the lessee is unaware of the rate implicit in the lease, it should use its incremental borrowing rate to calculate the present value of the lease payments and initially measure the lease liability and right-of-use asset. Thus, the calculation of the present value of the lease payments and therefore the lease liability and right-of-use asset would be: Annual rental payments... £4,703 Present value of an annuity-due for 5 periods at 9% 4.23972 Lease Liability/Right-of-Use Asset.. £19,939 aazEXERCISE 21.14 (Continued) The lessor is not impacted in any way if the lessee does not know the rate implicit in the lease. (2:24, Soee a® Oma Magara, Time's6.38 AACE: Anan ACA BB: mana AICRA FE: Razor, AGRA PE: Nene EXERCISE 21.15 (20-30 minutes) ‘The lessee determines the lease liability and right-of-use asset as follows: €25,562.96 Annual rental payment X 2.85941 PV of an annuity-due of 1 for n= 3.1 = 5% €73,094.98 PV of minimum lease payments (a) PLOTE AG (Lessee) Lease Amortization Schedule Reduction Annual Lease Interest (5%)on of Lease Lease Date Payment Liability Liability Liability qAM9 €73,094.98 A119 €25,562.96 € -0- €25,562.96 47,532.02 1/1120 25,562.96 2,376.60 23,166.36 24,345.66 11121 25,562.96 4,217.30" 24,345.66 -- £78,588.88 £3,593.90 £73,094.93 “Rounding is €.02. 419 (b) Right-of-Use Asset 73,094.98 Lease Liability 73,094.98 44149 Lease Liability 25,562.96 Cash 25,562.96 @ 2018 Way Geto, FAS, We, Soutera Warual (For natvcio Use Orly 2-15EXERCISE 21.15 (Continued) 12/31/19 Interest Expens: 2,376.60 Lease Liabili 2,376.60 Depreciation Expense. 24,364.99 Right-of-Use Asset. (24,364.99 (€73,094.98 + 3) Asizo Lease Liability .. 2,376.60 Interest Expense... 2,376.60 Interest Expens: 2,376.60 Lease Liability .. 23,186.36 Cash 25,562.96 12/31/20 Interest Expensi 1,217.30 Lease Liabil 1,217.30 Depreciation Expense... 24,364.99 Right-of-Use Asset. 24,364.99 Note to instructor: 1. The lessor sets the annual rental payment as follows: Fair value of leased asset to lessor €80,000.00 Less: Present value of unguaranteed residual value €7,000 X .86900 (present value of 1 at 4% for 3 periods) 6,223.00 Amount to be recovered through lease payments €73,777.00 Five periodic lease payments. €73,777.00 + 2.88609" €25,562,96 “Present value of annuity-due of 1 for 3 periods at 4%. 0:8 Besa aM CUmuty: Menara, Tm TEt8 ARCHED: AnBIVEG AIGA RE Wa, AICHA FE: MenUvONG AICPA PE: we 7150EXERCISE 21.16 (20-25 minutes) (a) The calculation for the present value of lease payments is as follows: €4,892 Annual rental payment X%_3.72325 PV of annuity-due of 1 for n= 4, |= 5% €18,214 PV of periodic rental payments The lessee applies the finance lease method, based on the following amortization schedule. DONAHUE SA Lease Amortization Schedule Annuity-Due Basis Reduction Annual Interest (5%) on of Lease Date Payment Liability Liability Lease Liability 4419, €18,214 4119 €4,892 € o €4,892 13,322 4/1/20 4,892 666 4,228 9,096 4/1/24 4,892 455 4,437 4,669 1/1122 4,892 233 4,659 -0- @ 2010 Winey Minsc, FAS. 3x, Seutons Manual (Fer instructor Use Only) 2151EXERCISE 21.16 (Continued) (b) 4449 Right-of-Use Asser 18,214 Lease Liability 18,214 Lease Liability .. 4,892 Cash 4,892 Interest Expense .. 666 Lease Liability 666 Depreciation Expense (€18,214 = 4} 4,554 Right-of-Use Asset... 4,554 12/31/20 Interest Expense .. 455 Lease Liability 465 Depreciation Expense (€18,214 + 4 4,554 Right-of-Use Asset... 4,554 4/1/20 Lease Liability . 4,892 Cash... 4,892 {c) Initial direct costs do not affect the value of the lease liability, but they do change the value of the right-of-use asset. The initial measurement of the right- of-use asset will be increased for any initial direct costs. As a result, the calculation of the right-of-use asset is as follows: €18,214 Initial measurement of lease liability (Calculated in part a) + 750 Initial direct costs €78.964 —_—Right-of-use asset To demonstrate how this impacts the amortization of the right-of-use asset, below are the tables associated with the lease in this situation: 21-52 Copyright® 2078 Wiley Kieao, IFAS, Sie, Solitons Manaal (For insrackor UsEXERCISE 21.16 (Continued) DONAHUE SA Lease Amortization Schedule Annuity-Due Basis Reduction Annual Interest (5%) on of Lease Date Payment Liability Liability AAs 4a €4,892 € 0 €4,892 4/1120 4,892 666, 4,226 ANZA 4,892 455 4,437 41122 4,892 233 4,659 tis Right-of-Use Asset. 18,964 Gash... Lease Liability Lease Liabilit 4,892 Cash... Interest Expense .. 666 Lease Liability Depreciation Expense (€18,964 + 4) 4,741 Right-of-Use Asset... Lease Liability €18,214 13,322 9,096 4.659 -O- 750 18,214 4,992 666 4744 (d) With fully guaranteed residual value by Donahue the initial measurement of ‘the right-of-use asset and lease liability would not change, as the company expects the residual value to be equal to the guaranteed residual value. Therefore, no amount is probable to be owed under the guarantee, and no amount needs to be accounted for in the initial lease liability by Donahue. Copyrge@ 2018 Wiay Kinse, RS, He, Sckitens Manual (Por instructor Use Only) 73EXERCISE 21.16 (Continued) {e) A bargain renewal option would cause Donahue to take the additional year {and payment) into account when determining how to classify the lease and the initial measurement of the lease liability and right-of-use asset. However, for purposes of the classification, Donahue need not know the value of the bargain renewal option, as the additional year of lease term causes the lease term to be 5 years, which is greater than 75% of the useful life of the asset. (5 + 6 = 83%). Thus, Donahue classifies the lease as a finance lease and accounts for it in the same way as described in part (b). The only difference is the present value of the bargain renewal option must be included in the initial measurement of the lease liability, as it is probable that it will be paid. hy AACE Ane, Ach Raha, AICPA: Reparing. AACR PC ae EXERCISE 21.17 (25-30 minutes) (a) Fair value of leased asset to lessor €25,000 Less: Present value of unguaranteed residual value €8,250 X 82270 (Present value of 1 at 5% for 4 periods) 6.787 Amount to be recovered through lease payments €18,213 Four periodic lease payments €18,213 + 3.72325" €4,892 “Present value of annuity-due of 1 for 4 periods at 5%. (b) Cash..... 4,892 Unearned Lease Revenue 4,892 Unearned Lease Revenu 4,892 Lease Revenue 4,892 Depreciation Expense..... 3,333 Accumulated Depreci Equipment (€20,000 = 6} 3,333 2158 Salons Mancal (For etwctor UnEXERCISE 21.17 (Continued) (c) Even though the expected residual value declined, the fact that Donahue has guaranteed a residual value of €8,250 leads Rauch to calculate rental Payments based on the same amount as if a residual value of $8,250 were unguaranteed. That is, Rauch will look to recover through the lease payments: whatever portion of the fair value of the asset it does not recover through the receipt of a residual value at the end of the lease term. Thus, all else being equal, Rauch would demand the same amount in lease payments from Donahue as it would under the original facts of the question. Note to Instructor: The explanation above assumes all else being equal. However, because Donahue guarantees the residual value, it is possible that Rauch would compensate this reduction in risk with a lower interest rate used in computing the payments, and the payments would therefore be lower in value. In addition, the guarantee of the entire residual value of the asset would make the lease a sales-type lease for Rauch. (a) A fully guaranteed residual value by Donahue would cause the lease to be classified as a sales-type lease by Rauch. As a result, Rauch would recognize sales revenue and a lease receivable at the commencement of the lease for the entire fair value of the asset, as well as derecognize the asset and recognize cost of goods sold. Rauch would then recognize lease revenue for any interest accrued on the lease receivable over the lease term, and amortize the lease receivable over the term as well. Upon receipt of the asset again at the end of the lease term, Rauch would derecognize the remaining lease receivable, and record ‘the asset as inventory at its fair value, along with any cash payment required to be collected if the fair value is less than the guaranteed residual value. {e) A bargain renewal option also would cause the lease to be classified as a sales-type lease by Rauch, as it would cause the lease term to be 83% (5 + 6 = 83%) of the economic life of the asset. Thus, the accounting for the lease by Rauch would be essentially the same as explained in part (d). However, as sales revenue, Rauch would only recognize the present value of the lease payments and bargain renewal option. That is, it would need to find the amount of residual value expected at the end of the lease term, and reduce both sales revenue and cost of goods sold by the present value of the residual value. In addition, at the end of the lease term, Rauch could potentially recognize a gain or loss on the lease, as the value of the residual value it receives could potentially be higher or lower than the lease receivable it needs to remove upon the return of the asset. LS 84, Sinem AP Oetouy Hite, Tint, AUER dna, AEP: am Fo: Rating AICPA PCa Seuters Warusl (Fer instuetsr Use Only 2155 B18 Wey Kiese, FAS, 3“EXERCISE 21.18 (20-30 minutes) Humphrey's Restaurants (Seller-Lessee! Gash... 680,000 pment Gain on Sale of Equipment Right-of-Use Asse Lease Liability .. (€115,970 X 2.; 322,775 Lease Liability 115,970 Cash... HUMPHREY'S RESTAURANTS NV Lease Amortization Schedule Annuity-Due Basis Reduction Annual Interest (8%) on of Lease Date Payment Liability Liability Le: 4119 419 = -€115,970 €0 115,970 1/1/20 115,970 16,544 99,426 4/1241 115,970 6,591" 107,379 “Rounded by €1. 12/31/19 Interest Expense. 16,544 Lease Liability . Depreciation Expense (322,775 + 3).. Right-of-Use Asset.. 107,592 i156 Copyright® 2078 Wey Kinso, FAS, Sie, Sobtions Manual 600,000 80,000 322,775 115,970 ase Liability £322,775 206,805 107,379 0 16,544 107,592EXERCISE 21.18 (Continued) Liquidity Finance (Buyer-Lessor)* 444g Equipment. 680,000 Cash 680,000 Cash.. 115,970 Unearned Lease Revenui 115,870 12/3149, Unearned Lease Revenue 145,970 Lease Revenue 115,970 Depreciation Expense... 68,000 Accumulated Depreciation - Equipment (€680,000 = 10)... 68,000 “Lease should be treated as an operating lease because the lease does not meet any of the sales-type classification tests. 10:4 moun: AP, mast: beers, Tae: 2630, ANCHE Anat AICPA BE: Maa, Ar “EXERCISE 21.19 (20-30 minutes) (a) The situation described is a simple sale of equipment. Only one entry for the sale of the equipment is required: 4443 Cash. 520,000 400,000 Gain on Disposal of Equipment 420,000 (b) The situation described is known as a failed sale. That is, the terms of the lease meet the criteria to be classified as a finance lease to the lessee {lease term > 75% of economic life, present value of lease payments > 90% of fair value of the asset). Under a finance lease, the lessee is deemed to have taken control of the asset. However, since the sale and the lease occur on the same day, the seller/lessee is deemed to never have given up control in the first place, and the lease is viewed simply as a financing arrangement. The present value of the lease payments is $520,000 [$67,342.42 x 7.72173"], which is 100% of the fair value of the asset. “Present value of an ordinary annuity for 10 years at 5%. WIE Wiey Wiese, FAS, fie, Seutiane Marval (For ratucter Use Only 257EXERCISE 21.19 (Continued) Cash.... 520,000.00 Note Payable 520,000.00 12/31/49 Interest Expense ($520,000 X 5%) 26,000.00 Note Payable 441,342.42 Cash 67,342.42 (c) The situation described is considered a saleleaseback agreement for financial reporting purposes. That is, the terms of the lease meet the criteria to be classified as an operating lease to the lessee (lease term < 75% of economic life, present value of lease payments < 90% of fair value of the asset). Under an operating lease, the lessee is not deemed to take control of the asset. However, upon the sale of the asset, the seller-lessee does relinquish control of the asset, and thus can recognize any gain on the sale. The lease is accounted for as a normal operating lease. Anis Cash Equipment Gain on Disposal of Equipmen Right-of-Use Asset Lease Liability ($67,342.42 X 2.85941") “Present value of an annuity-due for 3 periods at 5%. Lease Liability Cash. Te Copynght ® 2018 Wiey Kissa, IFRS, Sle, Soktions Manual 520,000 400,000 120,000 192,669.63 192,559.69 67,342.42 67,342.42EXERCISE 21.19 (Continued) ZARLE INC. Lease Amortization Schedule Annuity-Due Basis. Reduction Annual Interest (5%) on of Lease Date Payment Liability Liability Lease Liability qAMg $192,559.59 4419 $67,342.42 $0 $67,342.42 425,217.17 1/1120 67,342.42 6,260.86 61,081.56 64,135.61 1024 67,342.42 3,206.81" 64,135.61 0 “Rounded $.03 12/34/19 Interest Expense... 7 6,260.86 Lease Liability. 6,260.86 Depreciation Expense ($192,559.59 + ‘3h 64,186.53 Right-of-Use Asset. 64,186.53 Loom, Boom: A, moa: Moca, Tine 2068, AAC HE: Aye, A oc mepoctng, ACPA RS: Nae @20e Wisy Meee RS Se, SeusersWarus) Fer ineoueter Us 255TIME AND PURPOSE OF PROBLEMS Problem 21.1 (Tima 25-35 minutes) Purpose—to provide an understanding of the joumal entries to be recorded by the lessee given a guaranteed residual value. Journal entries for vo periods are required Problem 21.2 (Time 20-30 minutes) Purpose—to develop an understanding of tha accounting by tha iessee for a lease. The student is raquired to expiain the relationship between the capitalized amount of leased equipment and the leasing arrangement ‘The student is asked to prepare the lessee's journal entries at the date of commencement, for depreciation of ‘the leased asset, and for the first lease payment, as well as to indicate the amounts that should be reported on ‘the lassee's statement of financial position. Problem 21.3 (Time 25-30 minutes) Pubese—io develop an understanding of the accounling for a lessee in an annuily-due arrangement. The Student is required to prepare the lease amortizabon schedule for the entire term of the lease and all the necessary journal entnes for the leese through the first two lease payments. The student is also asked to indicate the amounts that would be reported on the lessee's Statement of francial position. Problem 21.4 (Tima 20-30 minutes) Purpose—to develop an understanding of the accounting for 2 lessee in an annuily-due arrangement. The student is required to prepare all the joumal entnes, with supportive computations, which the lessee would ave made to record the lease for the first period of ihe lease. Problem 21.5 (Time 20-25 minutes) Purpose—to develop an understanding of the accounting principles used in a lease with a bargain purchase option for the lasses. The student is required to discuss tne nature of the lease and make joumal entries for the lessee Problem 21.6 (Time 20-25 minutes) Purpose—to develop an understanding of the accounting principles used in a finance (sales-type) lease for both ine lessee and the lessor. The student is required to discuss the nature of the lease and make journal entries for both the lessee and the lessor. Problem 21.7 (Time 30-49 minutes) Purpose—to develop an understanding of a sales-type lease with a quaranieed residual value. The student discusses the classification of the lease and computes the lease receivable al commencement of lease, sales pric, and cost of ponds sold, The student prepares @ 10-yeer amortization schedule and all of the lessors Journal entries for the first year. Problem 21.8 (Time 30-40 minutes) Purpase—to develop an understanding of a lease with a guaranteed residual value. The student computes the ‘amount of the initial liabiity and right-of-use asset (with initial direct costs). The student prepares 3 10-year amortzation schedule and all of the lessee’s joumal entries for the frst year 2160 Copyright® 2018 Wiley Kiezo, FAS, Sie SokrionsManasi (For iemacter Use Orly)Problem 21.9 (Time 30-40 minutes) Purpose—to davelop an understanding of the accounting treatment accorded a sales-type lease involving an unguaranteed residual value. The shident is requied to discuss the nature of the lease with regard to the lessor and to compute the lease receivable, the sales price, and the cost of goods sold The student is also required to construct a 10-year lease amortization schedule for the leasing arrangement. and to prepare the: lessar's joumal entnes tor the first year of the lease contract. Problem 21.10 (Time 30-40 minutes) Purpose—to develop an understanding of lessee accountng for a finance lease with an unguaranteed residual Value. The stident computes the amount of the initial liability. The student prepares a 10-year amortization schedule and all of the lessee's journal entries for the first year Problem 21.11 (Tima 30-40 minutes) Pufpose—to develop an understanding of how residual. vaqiéé affect the adtounting for ie lessee and the lessor. The student must undersiand both the accounting for 2 quarenieed and unguarenteed residual value and possible classification by the lessor as a finarice lease, Problem 21.12 (Time 35-45 minutes) Purpose—to develop an understanding of the accounting procedures involved in @ finance (seles-type) leasing arrangement. Tha students required to discuss the nature of this lease transacton from tha viewpoint of bath ‘the lessee and lesser. The student is alS0 requested to plepare the journal entries to record the lease for both ‘the lessee (including iniial direct costs) and lessor plus illustrate the items and amounts that wauld be reported on the statement of financial position at the end of the first year for the lessee and the lessor. Problem 21.15 (Time 30-40 minutes) Purpose—to provide an understanding of how lease information is reported on the statement of financial Position and income statement for three different years in regard to the lessee. In addition, the year-end month is changed in ordar to Nelp provide an understanding of the complications invaWwed with parkal penoas. Problem 21.14 (Time 30-40 minutes) Purpose— The student is required to identify the type of lease mvoived, explain the respacbve reasons for their dassification, and discuss the accounting treatment that should be applied for both the lessee and lessor. The student is also asked to prepare the journal entries to refiect the first year of this lease contract for both the lessee and lessor Problem 24.15 (Time 20-30 minutes) Pumose— The student is required to identify the type of lease invoived, explain the respective reasons for their dassification, and discuss the accounting treatment that should be applied for both the lessee and lessor. The ‘student i also asked to prepare the journal enties to refect the first year of this lease Contract for both the lessee and lessor and to discuss the disclosures required of the lessee and lessor, ‘Copp © 2018 Winey Wiese, FRE, Sie, Souteors Warual (For matuctor Use Orly) 21Bt