Question

Mid-South Auto Leasing leases vehicles to consumers. The attraction to customers is that the company can offer competitive prices due to volume buying and requires an interest rate implicit in the lease that is one percent below alternate methods of financing. On September 30, 2021, the company leased a delivery truck to a local florist, Anything Grows. The fiscal year for both companies ends December 31. The lease agreement specified quarterly payments of $7,500 beginning September 30, 2021, the beginning of the lease, and each quarter (December 31, March 31, and June 30) through June 30, 2024 (three-year lease term). The florist had the option to purchase the truck on September 29, 2023, for $15,000 when it was expected to have a residual value of $20,000. The estimated useful life of the truck is four years. Mid-South Auto Leasing's quarterly interest rate for determining payments was 3% (approximately 12% annually). Mid-South paid $61,000 for the truck. Both companies use straight-line depreciation or amortization. Anything Grows' incremental interest rate is 12%. Hint: A lease term ends for accounting purposes when an option becomes exercisable if it's expected to be exercised (i.e., a BPO). (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. Calculate the amount of selling profit that Mid-South would recognize in this sales-type lease. (Be careful to note that, although payments occur on the last calendar day of each quarter, since the first payment was at the beginning of the lease, payments represent an annuity due.) 2. Prepare the appropriate entries for Anything Grows and Mid-South on September 30, 2021. 3. Prepare an amortization schedule(s) describing the pattern of interest expense for Anything Grows and interest revenue for Mid- South Auto Leasing over the lease term. 4. Prepare the appropriate entries for Anything Grows and Mid-South Auto Leasing on December 31, 2021. 5. Prepare the appropriate entries for Anything Grows and Mid-South on September 29, 2023, assuming the purchase option was exercised on that date.

Answer 1

21 22 23 Quarterly Lease Payments P.V n = 8,1 =3% Present Value of Annual Lease Payment Add Present Value of BPO Price (15000*.78941) Present Value of Minimum Lease Payments 7500 7.23028 54227 11841 66068 24 25 26 27 28 Dealer Profit Sales (Present value of Lease payments) Less Cost price of Truck Profit on Sale 29 66,068 (61,000) 5,068 30 31 32 2. Prepare the appropriate entries for Anything Grows and Mid-South on September 30, 2021. 33 34 Anything Grows (Lessee) 35 Debit Credit 36 37 38 Date Account Title & Explanation 2021 30-Sep Leased equipment Lease liability (To record lease liability) 66,068 39 66,068 40

7,500 42 43 44 30-Sep Lease liability Cash (To record payment of lease) 7,500 Mid-South Auto Leasing (Lessor) Debit Credit 66,068 61,000 45 46 47 48 49 50 51 52 53 54 55 56 57 58 Account Title & Explanation Lease Receivable Cost of Goods Sold Sales Revenue Inventory (To record lease receivable and cost of Truck) 66,068 61,000 7,500 Cash lease Receivable (To record receipt of rent) 7,500

59 3. Prepare an amortization schedule(s) describing the pattern of interest expense for Anything Grows and interest revenue for Mid-South Auto Leasin 60 61 Amortization Schedule 62 Year Annual Lease Payments Interest @3% on outstanding Reduction in Balance (Col. 3) (Col. 2-Col.3) Outstanding Balance 63 64 65 7,500 66 1,757 5,743 30-09-2021 30-09-2021 31-12-2021 31-03-2022 30-06-2022 30-09-2022 67 68 7,500 7,500 7,500 7,500 7,500 7,500 7,500 7,500 15,000 1,585 1,407 1,225 1,036 69 66,068 58,568 52,825 46,910 40,817 34,542 28,078 21,420 14,563 (0) 70 5,915 6,093 6,275 6,464 6,658 6,857 14,563 31-12-2022 71 31-03-2023 72 30-06-2023 29-09-2023 842 643 437 73 74

75 4. Prepare the appropriate entries for Anything Grows and Mid-South Auto Leasing on December 31, 2021. 76 77 78 Anything Grows (Lessee) 79 Debit Credit 80 81 82 Date Account Title & Explanation 2021 31-Dec Depreciation Expense (66068/4*1/4 Accumulated Depreciation (To record Depreciation expense) 4,129 4,129 83 84 85 1,757 5,743 86 31-Dec Interest expense Lease payable Cash (to record cash payment) 87 7,500 88 89 90 Mid-South Auto Leasing (Lessor) 91 92 7,500 93 31-Dec Cash Lease receivable Interest revenue (to record cash received) 5,743 1,757 94 95

97 5. Prepare the appropriate entries for Anything Grows and Mid-South on September 29, 2023, assuming the purchase option was exercised on 98 99 Date Account Title & Explanation Debit Credit 100 2023 101 29-Sep Amortization Expense (66068)/4*3/4 12,388 102 Right-of-use Asset 12,388 103 (To record Depreciation expense) 104 105 29-Sep Interest expense 437 106 Lease payable 14,563 107 Cash 15,000 108 (to record cash payment) 109 110 Mid-South Auto Leasing (Lessor) 111 112 29-Sep Cash 15,000 113 Lease receivable 14,563 114 Interest revenue 437 115 (to record cash received)