Ochlockonee Company on January 1, 20X1, enters into a five year noncancellable l
ID: 2528936 • Letter: O
Question
Ochlockonee Company on January 1, 20X1, enters into a five year noncancellable lease, with four renewal options of one year each, for equipment having an estimated useful life of ten years. The fair market value to the lessor, Lessor Corp., at the inception of the lease is S6,000,000. Ochlockonee's incremental borrowing rate is 8%. Ochlockonee uses the straight line method to depreciate its assets. The lease contains the attached provisions. REQUIRED: (1) What kind of lease is this to Ochlockonee Company? Explain the reason for your answer What should be considered the lease term? Explain your answer. (2) (3) What is the total amount of the minimum lease payments? Show supporting 4 What is the present value of the minimum lease payments? Round your (5) What journal entries would Ochlockonee Company record during the first calculations answer to the nearest whole dollar. year of the lease? Show supporting computations and round all answers to the nearest whole dollar. Provide a brief explanation for your entries.Explanation / Answer
1. What is the kind of the lease and reasons for the same.
Below is the summary of the lease terms.
Based on the above, it is obvious that the natur of lease is a financial lease as:
1. The taxes are borned by the lesee.
2. The lease term extends (though through renewals) to entire life of the aset
3. The lessor is assured to get a residual value which is greater than the expected market value of the asset.
4. The lease contract is non cancellable.
2. What should be considered lease term? Explain
As mentioned above, the renewal of the contract is mandated as per the terms of the initial contract and the lessor is assured of the residual value of the asset. Hence the lease term is to be considered as 10 years for accounting purposes.
3. What is total amount of minimum lease payments? Show supportings with calculations
Lease payments as per contract are $438,000 per half year for 10 years
Therefore, Minimum lease amount = $438,000 * 2 (2 instalments in a year) * 10 years = $8,760,000
4. What is pv amount of minimum lease payments? Round of your answer to nearest whole dollar
Minimum lease payment is the lowest amount that a lessee can expect to make over the lease period.
Minimum lease payments
5.Journal entries for lease:
A finance lease results in recognition of both an asset and a liability in the books of the lessee at the inception of the lease at amount equal to present value of minimum lease payments.
Lease asset A/c Dr $2,188,125
To Lease liability $2,188,125
On payment of first instalment on January 1st
Lease liability A/c Dr $368,000
Interest expense A/c Dr $32,000
(400000 * 8/100)
Property tax on equipment Dr $38,000
To Cash A/c $438,000
on Payment of second instalment on July 1st
Lease liability A/c Dr $368,000
Interest expense A/c Dr $32,000
(400000 * 8/100)
Property tax on equipment Dr $38,000
To Cash A/c $438,000
Life of asset 10 years Term of lease 10 years (5 years + 4 years mandatory renewal + 1 year extension) Nature of contract Non cancellable Value of equipment $ 6,000,000 Monthly rent including property tax $ 438,000 Assured residual value to be paid to lessor $ 200,000Related Questions
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