Identify the type of lease involved and give reasons for your classification. Discuss the accounting

Identify the type of lease involved and give reasons for your classification. Discuss the accounting

Please complete all problems in excel showing all work.

Problem 1

Cleveland Inc. leased a new crane to Abriendo Construction

under a 5-year noncancelable contract starting January 1, 2014.
Terms of the lease require payments of

$33,000 each January 1, starting January 1, 2014. Cleveland will
pay insurance, taxes, and maintenance

charges on the crane, which has an estimated life of 12 years, a
fair value of $240,000, and a cost to Cleveland

of $240,000. The estimated fair value of the crane is expected to
be $45,000 at the end of the lease term.

No bargain-purchase or renewal options are included in the
contract. Both Cleveland and Abriendo adjust

and close books annually at December 31. Collectibility of the
lease payments is reasonably certain, and no

uncertainties exist relative to unreimbursable lessor costs.
Abriendo’s incremental borrowing rate is 10%,

and Cleveland’s implicit interest rate of 9% is known to Abriendo.

Instructions

(a)Identify the type of lease involved and give reasons for your classification.
Discuss the accounting

treatment that should be applied by both the lessee and the
lessor.

(b)Prepare all the entries related to the lease contract and leased
asset for the year 2014 for the lessee

and lessor, assuming the following amounts.

(1)Insurance $500.

(2)Taxes $2,000.

(3)Maintenance $650.

(4)Straight-line depreciation and salvage value $15,000.

(c)Discuss what should be presented in the balance sheet, the income
statement, and the related notes

of
both the lessee and the lessor at December 31, 2014.

Problem
2

The following facts pertain to a noncancelable lease agreement

between Faldo Leasing Company and Vance Company, a lessee.

Inception date January 1, 2014

Annual lease payment due at the beginning of

each year, beginning with January 1, 2014 $124,798

Residual value of equipment at end of lease term,

guaranteed by the lessee $50,000

Lease term 6 years

Economic life of leased equipment 6 years

Fair value of asset at January 1, 2014 $600,000

Lessor’s implicit rate 12%

Lessee’s incremental borrowing rate 12%

The lessee assumes responsibility for all executory costs, which
are expected to amount to $5,000 per year.

The asset will revert to the lessor at the end of the lease term.
The lessee has guaranteed the lessor a residual

value of $50,000. The lessee uses the straight-line depreciation
method for all equipment.

Instructions

(a)Prepare an amortization schedule that would be suitable for the
lessee for the lease term.

(b)Prepare all of the journal entries for the lessee for 2014 and
2015 to record the lease agreement, the

lease payments, and all expenses related to this lease. Assume the
lessee’s annual accounting period

ends
on December 31 and reversing entries are used when appropriate.

Problem 3

You are auditing the December 31, 2014, financial statements

of Hockney, Inc., manufacturer of novelties and party favors.
During your inspection of the company

garage, you discovered that a used automobile not listed in the
equipment subsidiary ledger is parked

there. You ask Stacy Reeder, plant manager, about the vehicle, and
she tells you that the company did not

list the automobile because the company was only leasing it. The
lease agreement was entered into on

January 1, 2014, with Crown New and Used Cars.

You decide to review the lease agreement to ensure that the lease
should be afforded operating lease

treatment, and you discover the following lease terms.

1.Noncancelable term of 4 years.

2.Rental of $3,240 per year (at the end of each year). (The present value
at 8% per year is $10,731.)

3.Estimated residual value after 4 years is $1,100. (The present
value at 8% per year is $809.) Hockney

guarantees the residual value of $1,100.

4.Estimated economic life of the automobile is 5 years.

5.Hockney’s incremental borrowing rate is 8% per year.

Instructions

You are a senior auditor writing a memo to your supervisor, the
audit partner in charge of this audit, to

discuss the above situation. Be sure to include (a) why you
inspected the lease agreement, (b) what you

determined about the lease, and (c) how you advised your client to
account for this lease. Explain every

journal entry that you believe is necessary to record this lease
properly on the client’s books. (It is also

necessary
to include the fact that you communicated this information to your client.)


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