Leases Solutions

Leasing permits the Of the full Cast Of the (including land and residual value). Thus providing a possible tax advantage. 2. Leasing may be more flexible in that the lease agreement may contain less restrictive provisions than the bond indenture. G. Leasing permits ICC% financing of assets. 4, Leasing may permit more rapid changes in equipment. Reduce the risk of obsolescence.

And pass the risk in residual value to the lesser or a third party. S. Leasing may have favorable tax advantages. 6. Potential of off-abeyance-sheet financing with certain types of leases.Assuming that funds are readily available through debt tenanting, there may not great advantages (in addition to the above-mentioned) to Signing nonchalance. Long-term lease.

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One of the usual advantages of leasing is its availability when other debt financing is unavailable (b) Possible disadvantages of leasing: I, In an ever-increasing inflationary economy, retaining title to assets may be desirable as a hedge against inflation. Interest rates fur leasing often are higher and a profit factor may be included in addition. G. Name CASE’S, owning the asset provides unique advantages, Such as hen bonus depreciation is permitted. (c) Since a long-term unconscionable lease which is used as a financing device generally results in the capitalization of the leased assets and recognition of the lease commitment in the balance sheet, the comparative effect is not very different from purchase and ownership Assets leased under such terms would be capitalized at the present value of the future lease payments; this value is probably somewhat equivalent to the purchase price of the assets.Bonds sold at par would be nearly equivalent to the present value of the future ease payments; in neither case would interest be capitalized. The amounts presented in the balance sheet would be quite comparable as would the general classifications; the specific labels (leased assets and lease liability) would be different.

**3. Lessees have available two lease accounting methods: (a) the operating method and (b) the capital. Lease method. Lender the operating method, the leased asset remains the property of the lesser with the payment off lease rental recognized as rental expense.

Generally the lesser pays the insurance, taxes, and maintenance costs related to the leased asset, under the capital-lease teeth, the lessee treats the lease transaction as if an asset were being purchased on credit; therefore, the lessee: (1) sets up an asset and a related liability and (2) recognizes depreciation of the asset, reduction to the liability, and interest expense. Questions Chapter 21 (Continued) Ballard Company’s rental of warehousing space on a short-term and sporadic basis is seldom construed as the acquisition of an asset or even a financing arrangement.The contract consists mainly of services which are to be performed proportionately by the lesser and the lessee-?the rent to be paid by he lessee is offset by the service to be performed by the lesser. While a case can be made for the existence of an acquisition of some property rights, the accounting treatment would be to record only the periodic rental payments as they are made and to allocate rent expense to the periods in which the benefits are received.NO asset would be capitalized in this case, and a liability for lease payments would be recorded only to the extent that services received from the lesser exceeded the rentals paid; that is, the rent payment is overdue. This lease should be reported as an operating lease. *5.

Minimum rental payments are the periodic payments made by the lessee and received by the lesser. These payments may include executors costs such as maintenance, taxes, and insurance. Minimum lease payments are payments required or expected to be made by the lessee.

They include minimum rental payments less executors costs, a bargain purchase option, a guaranteed residual value, and a penalty for failure to renew the lease. The present value tooth minimum lease payments is capitalized by the lessee. The distinction between a direct-financing lease and a sales-type lease is the resent or absence of a manufacturers or dealers profit. A sales-type lease involves a manufacturer’s or dealer’s profit, and a direct-financing lease does not. The profit is the difference between the fair value of the leased property at the inception of the lease and the lesson’s cost or carrying value.Under the operating method, rent expense (and a compensating liability) accrues day by day to the lessee as the property is used. The lessee assigns rent to the periods benefiting from the use Of the asset and ignores in the accounting any commitments to make future payments. Appropriate accruals are made if he accounting period ends between cash payment dates.

* Under the capital-lease method, the lessee treats the lease transactions as if the asset were being purchased on an installment basis: a financial transaction in which an asset is acquired and an liability is created.The asset and the liability are stated in the lessee’s balance sheet at the lower of: (1) the present value of the minimum lease payments (excluding executors costs) during the lease term or (2) the fair value of the leased asset at the inception of the lease. The present value of the lease payments is computed using the lessee’s incremental rowing rate unless the implicit rate used by the lesser is lower and the lessee has knowledge of it.The effective-interest method is used to allocate each lease payment between a reduction of the lease obligation and interest expense, If the lease transfers ownership or contains a bargain-purchase option, the asset is depreciated in a manner consistent with the lessee’s normal depreciation policy on assets owned, using the economic life of the asset and allowing for salvage value. If the lease does not transfer ownership or contain a bargain- purchase option, the leased asset is amortized over the lease term.

Prom the standpoint Of the lesser, leases may be classified for accounting purposes as: (a) operating leases, (b) direct-financing leases, and (c) sales-type leases. From the standpoint Of lessons, a capital lease meets one or more Of the following four criteria: 1. The lease transfers ownership, 2. The lease contains a bargain-purchase option, 3. The lease term is equal to 75% or more of the estimated economic life of the property, 4.

The present value of the minimum lease payments (excluding executors costs) equals or exceeds of the fair value of the property, And meet both of the following criteria: .Collectivity tooth payments required from the lessee is reasonably predictable, and Questions Chapter 21 (Continued) 2. No important uncertainties surround the amount of unremarkable costs yet to be incurred by the lesser, Capital leases are classified as direct-financing leases or sales-type leases. All other leases are classified as operating leases.

The distinction for the lesser between a direct-financing lease and a sales-type lease is the presence or absence of a manufacturer’s or dealer’s profit or loss. *10.Fifth lease transaction satisfies the necessary criteria to be classified as a erect-financing lease, the lesser records a “lease receivable’ for the leased asset. The lease receivable is the present value Of the minimum lease payments. Minimum lease payments include the rental payments (excluding executor/ costs), bargain-purchase option (if any), guaranteed residual value (if any) and penalty for failure to renew (if any). In addition, the present value of the unguarded residual value (if any) must also be included. *11. Ender the operating method, each rental receipt of the lesser is recorded as rent revenue on the use of an item carried as a fixed asset.

The fixed asset is depreciated in the normal manner, with the depreciation expense of the period being matched against the rent revenue, The amount of revenue recognized in each accounting period is equivalent to the amount of rent receivable according to the provisions of the lease. In addition to the depreciation charge, maintenance costs and the cost of any other services rendered under the provisions of the lease that pertain to the current accounting period are charged against the recognized revenue. 12. Walker Company can use the sales-type lease method if at the inception of he lease a manufacturer’s or dealer’s profit (or loss) exists and the lease meets one or more of the following four criteria: (I) The lease transfers Ownership Of the property to the lessee, (2) The lease contains a bargain-purchase option, (3) The lease term is equal to 75% or more Of the estimated economic life Of the property leased, (4) The present value Of the minimum lease payments (excluding executors costs) equals or exceeds 30% of the fair value of the leased property.Both of the following criteria must also be met: (1) Collectivity of the payments required from the lessee is reasonably eradicable, and (2) No important uncertainties surround the amount of unremarkable costs yet to be incurred by the lesser. *13.

Methuen Corporation should recognize the difference between the fair value (normal sales price) to the leased property at the inception to the lease and its cost or carrying amount (book value) as gross profit in the period the sales-type lease begins and the assets are transferred to the lessee.The balance of the transaction is treated as a direct-financing lease (i. E. , interest revenue is earned over the lease term). *14. The lease agreement between Alice Folly, M. D.

ND Brownian Realty, Inc. Appears to be in substance a purchase of property. Because the lease has a bargain-purchase option which transfers ownership of the property to the lessee, the lease is a capital lease.Additional evidence of the capital lease character is that the lesser recovers all costs plus a reasonable rate of return on investment.

As a capital lease, the property and the related liability should be recorded at the discounted amount of the future lease payments with that amount being allocated between the land and the building in proportion to their fair values at the inception of the lease.The building should be depreciated over its estimated useful life. *15. (a) (1) The lessee’s accounting for a lease with an unguarded residual value is the same as the accounting for a lease with no residual value in terms of the computation of the minimum lease payments and the capitalized value of the leased asset and the lease liability, That is, unguarded residual values are not included in the lessee’s minimum lease payments.Questions Chapter 21 (Continued) (2) A guaranteed residual value affects the lessee’s computation of the minimum lease payments and the capitalized amount of the leased asset and the ease liability, The capitalized value is affected initially by the presence of a guaranteed residual value since the present value of the lease liability is now made up of two components-?the periodic lease payments and the guaranteed residual value. The amortization of the lease obligation will result in a lease liability balance at the end of the lease period which is equal to the guaranteed residual value.Upon termination of the lease, the lessee may recognize a gain or loss depending on the relationship between the actual residual value and the amount guaranteed. B) (1) & (2) The amount to be recovered by the lesser is the same whether the residual value is guaranteed or unguarded.

Therefore, the amount Of the periodic lease payments as set by the lesser is the same whether the residual value is guaranteed or unguarded. *16. If the estimate of the residual value declines, the lesser must recognize a loss to the extent of the decline in the period of the decline.Taken literally, the accounting for the entire transaction must be revised by the lesser using the changed estimate. The lease receivable is reduced by the amount of the decline n the estimated residual value. Upward adjustments of the estimated residual value are not made. *17. If a bargain-purchase option exists, the lessee must increase the present value of the minimum lease payments by the present value of the option price.

A bargain purchase option also affects the depreciable life of the leased asset since the lessee must depreciate the asset over its economic life rather than the term of the lease.If the lessee fails to exercise the option, the lessee Vile recognize a loss to the extent of the net book value of the leased asset in the period that the option expired. *18. Initial direct costs are the incremental costs incurred by the lesser that are directly associated with negotiating, consummating and initially processing leasing transactions. Gore Operating leases, the lesser should defer initial direct costs and allocate them over the lease term in proportion to the recognition of rent revenue.In a sales-type lease transaction, the lesser expenses the initial direct costs in the year of incurred (i. E. , the year in which profit on the sale is recognized).

In a direct-financing lease, initial direct costs should be added to the et investment in the lease and amortized over the life of the lease as a yield adjustment. *19. Lessees and lessons should disclose the future minimum rental payments required as of the date of the latest balance sheet presented, in the aggregate, and for each of the five succeeding fiscal years. 20. The term “sale-leaseback” describes a transaction in which the owner of property sells such property to another and immediately leases it hack from the new owner. The property is sold generally at a price equal to or less than current fair value and leased back for a term approximating the property’s useful life for ease payments sufficient to repay the buyer for the cash invested plus a reasonable return on the buyer’s investment.

The purpose of the transaction is to raise money with certain property given as security.For accounting purposes the sale-leaseback should be accounted for by the lessee as a capital lease if the criteria are satisfied and by the lesser as a purchase and a direct-financing lease if the criteria are satisfied. Any income or loss experienced by the seller-lessee from the sale of the assets that are leased back should be deferred and amortized over the lease term (or the economic life if either criteria (I) a bargain- arches option or (2) a transfer of ownership occurs at the end of the lease is satisfied) in proportion to the amortization Of the leased assets.