Question

Exercise 21A-19 a-d

Blue Corporation leased equipment to Larkspur, Inc. on January 1, 2017. The lease agreement called for annual rental payments of $1,381 at the beginning of each year of the 3-year lease. The equipment has an economic useful life of 7 years, a fair value of $10,000, a book value of $8,000, and Blue expects a residual value of $7,500 at the end of the lease term. Blue set the lease payments with the intent of earning a 7% return, though Larkspur is unaware of the rate implicit in the lease and has an incremental borrowing rate of 9%. There is no bargain purchase option, ownership of the lease does not transfer at the end of the lease term, and the asset is not of a specialized nature.

Determine the nature of the lease to both Blue and Larkspur.

The lease is a/an financing operating lease to Larkspur.

The lease is a/an financing operating lease to Blue.

Prepare all necessary journal entries for Larkspur in 2017. (Credit account titles are automatically indented when the amount is entered. Do not indent manually. Round answers to 0 decimal places, e.g. 5,275.)

Date	Account Titles and Explanation	Debit	Credit
1/1/17
	(To record the lease)
1/1/17
	(To record lease liability)
12/31/17

How would the measurement of the lease liability and right-of-use asset be affected if, as a result of the lease contract, Larkspur was also required to pay $500 in commissions, prepay $750 in addition to the first rental payment, and pay $250 of insurance each year? (Round answers to 0 decimal places, e.g. 5,275.) Lease liability $ Right-of-use-asset $ SHOW LIST OF ACCOUNTS LINK TO TEXT LINK TO TEXT

Your answer is partially correct. Try again. Suppose, instead of a 3-year lease term, Larkspur and Blue agree to a one-year lease with a payment of $1,381 at the start of the lease. Prepare necessary journal entry for Larkspur in 2017. (Credit account titles are automatically indented when the amount is entered. Do not indent manually.) Date Account Titles and Explanation Debit Credit 1/1/17

Answer 1

Part 1

The lease is an operating lease to Larkspur

The lease is an operating lease to Blue Corporation

The lease term is only 43% (3 ÷ 7) which is less than 75% of the economic life of the asset.

No bargain purchase, no transfer of ownership

Asset is not specialized

The present value of periodic rental for lessor $3878 (1381*2.80802) and the present of value of periodic rental for lessee $3810 (1381*2.75911) do not meet test of 90% of fair value

P V of annuity due of 1 for n = 3, i = 7% is 2.80802

PV of annuity due of 1 for n = 3, i = 9% is 2.75911

Part 2

Part B

Date	Account Titles and Explanation	Debit	Credit
1/1/17	Right-of-Use Asset	3810
	Lease Liability		3810
	(To record the lease)
1/1/17	Lease Liability	1381
	Cash		1381
	(To record lease liability)
12/31/17	Lease Expense	1381
	Lease Liability ((3810-1381)*9%)		219
	Right-of-Use Asset (balancing figure)		1162

Part C

Lease liability

PV of annual rental payment	3810
PV of insurance payments ($250 X 2.75911)	690
Lease liability	$3120

Right-of-use asset

Initial measurement of lease liability	3120
Commissions paid	500
Prepaid rent	750
Right-of-use asset	$4370

Part D

Date	Account Titles and Explanation	Debit	Credit
1/1/17	Lease Liability	1381
	Cash		1381