Question

On January 1, 2017, Bill Inc. leases manufacturing equipment from Beatrix Corporation. The lease covers seven years and require annual lease payments of $51,000, beginning on January 1, 2017. The unguaranteed residual value at the end of seven years is $150,000. On january 1, 2017, the equipment has a fair value of $361,837 and an estimated life of 10 years. Bill's incremental borrowing rate is 9%. Bill's accounting year ends on December 31, and the company depreciates itss other equipment on a straight line basis. Bill accounts for leases under ASU 2016-02.

1. show why this is an operating lease for Bill inc.

2. prepare an ammortization table for the lease.

3. prepare bill's journal entries from the inception of the lease through december 31, 2018. be sure to make any necessary reclassifications to current liabilities at the end of each reporting period.

4. compute and label the amounts to be shown on the balance sheet and income statement for the years eded december 31, 2017, and december 31, 2018.

5. show how the income statemement and balance sheet would differ for 2017 and 2018 if the lease were treated as a finance lease.

Answer 1

1. Operating Lease is a lease which is not a finance lease.

Under a finance lease, lease period is almost equal to the economic life of an asset.

Here economic life is 10 years and lease period is 7 years.

2. Amortisation table

years Lease PVF9% PV amount

0 51000 1 51000

1-6 51000 4.4859 228780.9

total=279781 (rounded off)

Year	opening	Intt. Year end	paid lease	closing
0	279781	0.0	51000.0	228781.0
1	228781	20590.3	51000.0	198371.3
2	198371	17853.4	51000.0	165224.7
3	165225	14870.2	51000.0	129094.9
4	129095	11618.5	51000.0	89713.5
5	89713	8074.2	51000.0	46787.7
6	46788	4212.3	51000.0	0.0

3. Journal entries

Begining of year. 1. Operating lease Ac Dr. 279781

to Lease Payable A/c 279781

(Being lease recorded for payable and operating lease as asset)

2. lease payable a/c Dr. 51000

to Bank a/c 51000

(Being lease paid for the year)