Question

On December 31, 2018, Yard Art Landscaping leased a delivery truck from Branch Motors. Branch paid $40,000 for the truck. Its retail value is $45,114. The lease agreement specified annual payments of $11,000 beginning December 31, 2018, the beginning of the lease, and at each December 31 through 2021. Branch Motors' interest rate for determining payments was 10%. At the end of the four-year lease term (December 31, 2022) the truck was expected to be worth $15,000. The estimated useful life of the truck is five years with no salvage value. Both companies use straight-line amortization or depreciation. Yard Art guaranteed a residual value of $6,000. Yard Art's incremental borrowing rate is 9% and is unaware of Branch's implicit rate. A $1,000 per year maintenance agreement was arranged for the truck with an outside service firm. As an expedient, Branch Motors agreed to pay this fee. It is, however, reflected in the $11,000 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. How should this lease be classified by Yard Art Landscaping (the lessee)? 2. Calculate the amount Yard Art Landscaping would record as a right-of-use asset and a lease liability. 3. How should this lease be classified by Branch Motors (the lessor)? 4. Show how Branch Motors calculated the $11,000 annual lease payments. 5. Calculate the amount Branch Motors would record as sales revenue. 6. Prepare the appropriate entries for both Yard Art and Branch Motors on December 31, 2018. 7. Prepare an amortization schedule that describes the pattern of interest expense over the lease term for Yard Art. 8. Prepare an amortization schedule that describes the pattern of interest revenue over the lease term for Branch Motors. 9. Prepare the appropriate entries for both Yard Art and Branch Motors on December 31, 2019. 10. Prepare the appropriate entries for both Yard Art and Branch Motors on December 31, 2021 (the final lease payment). 11. Prepare the appropriate entries for both Yard Art and Branch Motors on December 31, 2022 (the end of the lease term), assuming the truck is returned to the lessor and the actual residual value of the truck was $4,000 on that date.

Answer 1

part 6

No.	date	General journal	debit	Credit
1	December 31, 2018	Leased equipment ((11000-1000)*3.53129)+(6000*0.70843)	39564
		Lease payable		39564
2	December 31, 2018	Lease payable	10000
		Prepaid maintenance expense	1000
		Prepaid maintenance expense		11000
3	December 31, 2018	Lease receivable	45114
		Cost of goods sold (40000-((15000-11000)*0.68301))	37268
		Sales revenue (((11000-1000)*3.48685)+(11000*0.68301))		42382
		Inventory of equipment		40000
4	December 31, 2018	Cash	11000
		Maintenance fees payable		1000
		Lease receivable		10000

present value of $1: n=4, i=9% = 0.70843

present value of an annuity due of $1: n=4, i=9% = 3.53129

present value of $1: n=4, i=10% = 0.68301

present value of an annuity due of $1: n=4, i=10% = 3.48685

Part 7

Dec. 31	payments	Effective interest (9%)	Decrease in balance	Outstanding balance
				39564
2018	10000		10000	29564
2019	10000	2661	7339	22225
2020	10000	2000	8000	14225
2021	10000	1280	8720	5505
2022	6000	495	5505	0

Payments = 11000-1000 = 10000

Effective interest = previous outstanding balance *9%

Decrease in balance = payments – effective interest

Outstanding balance = previous outstanding balance – decrease in balance