Question

On January 1, 2018, Allied Industries leased a high-performance conveyer to Karrier Company for a four-year period ending December 31, 2021, at which time possession of the leased asset will revert back to Allied. The equipment cost Allied $929,000 and has an expected useful life of five years. Allied expects the residual value at December 31, 2021, will be $313,000. Negotiations led to the lessee guaranteeing a $366,000 residual value.

Equal payments under the finance/sales-type lease are $213,000 and are due on December 31 of each year with the first payment being made on December 31, 2018. Karrier is aware that Allied used a 6% interest rate when calculating lease payments. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Required:

1. Prepare the appropriate entries for both Karrier and Allied on January 1, 2018, to record the lease.
2. Prepare all appropriate entries for both Karrier and Allied on December 31, 2018, related to the lease.

Answer 1

Answer 2

1. On January 1, 2018:

   Karrier Company:

   Lease asset (right-of-use asset) $805,100 Lease liability $805,100

   Allied Industries:

   Cash $805,100 Lease receivable $805,100

   Calculation of lease liability:

   Annual lease payment = $213,000 Number of payments = 4 Discount rate = 6%

   Lease liability = $213,000 x (1 - 1/(1+0.06)^4) / 0.06 = $805,100

2. On December 31, 2018:

   Karrier Company:

   Lease liability $213,000 Interest expense $48,306 Depreciation expense $186,180 Lease asset (right-of-use asset) $186,180

   Allied Industries:

   Cash $213,000 Lease receivable $161,112 Interest revenue $48,306 Residual value receivable $61,687

   Calculation of interest expense:

   Lease liability at beginning of year = $805,100 Annual lease payment = $213,000 Discount rate = 6%

   Interest expense = $805,100 x 0.06 = $48,306

   Calculation of depreciation expense:

   Cost of asset $929,000 Less: Residual value at end of lease $313,000 Less: Guaranteed residual value $366,000

   Depreciation base $250,000 Depreciation expense (4/5 x $250,000) $200,000 Depreciation expense for 2018 $186,180 (1/12 x $200,000 x 12)

   Calculation of lease receivable:

   Lease payments received $213,000 Interest revenue $48,306 Total lease revenue $261,306 Lease revenue recognized in 2018 $201,922 (4/5 x $261,306) Lease revenue recognized at inception $161,112 (1/5 x $805,100)

   Calculation of residual value receivable:

   Guaranteed residual value $366,000 Less: Present value at 6% $304,313 (PV of $366,000 for 3 years) Residual value receivable $61,687