Question

The lease agreement specified quarterly payments of $6,500 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 $13,000 when it was expected to have a residual value of $19,000. 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 $51,000 for the truck. Both companies use straight-line depreciation or amortization. Anything Grows’ incremental interest rate is 12%.

Required:
a. 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.)
b. Prepare the appropriate entries for Anything Grows and Mid-South on September 30, 2021.
c. 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.
d. Prepare the appropriate entries for Anything Grows and Mid-South Auto Leasing on December 31, 2021.
e. 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

a) sales revenue 75,760

cost of good sold 51,000

gross profit: 24,760

b)

LESSOR ENTRIES:

lease receivable 69,260 debit

cash 6,500 debit

sales revenue 75,760 credit

--to record sale on lease--

cost of good sold 51,000 debit

Inventory 51,000 credit

--to record cost--

LESEE ENTRIES:

equipment 75,760 debit

lease liability 69,260 credit

cash 6,500 credit

Lease Schedule:

`\left[\begin{array}{cccccc}Time&Beg&Cuota&Interest&Amort&Ending\\0&75760&6500&&6500&69260\\1&69260&6500&2078&4422&64838\\2&64838&6500&1945&4555&60283\\3&60283&6500&1808&4692&55591\\4&55591&6500&1668&4832&50759\\5&50759&6500&1523&4977&45782\\6&45782&6500&1373&5127&40655\\7&40655&6500&1220&5280&35375\\8&35375&6500&1061&5439&29936\\9&29936&6500&898&5602&24334\\10&24334&6500&730&5770&18564\\11&18564&6500&557&5943&12621\\12&12621&13000&379&12621&0\\\end{array}\right]`

December 31st, 2021 (1st payment)

LESEE ENTRIES:

lease liability 4,422 debit

interest expense 2,078 debit

cash 6,500 credit

--to record payment--

depreciation expense 3,547.5 debit

acc depreciation 3,547.5 credit

--to record depreciation--

LESSOR ENTRIES:

cash 6,500 debit

lease receivables 4,422 credit

interest revenue 2,078 credit

e) option exercised:

LESEE ENTRIES:

lease liability 12,621 debit

interest expense 379 debit

cash 13,000 credit

--to record purchase option--

LESSOR ENTRIES:

cash 13,000 debit

lease receivables 12,621 credit

interest revenue 379 credit

--to record purchase option--

Explanation:

We solve for the present value of the lease:

Present Value of Annuity-due

`C * (1-(1+r)^(-time) )/(rate) = PV\\`

C $6,500

time 12

rate 0.03

`6500 * (1-(1+0.03)^(-12) )/(0.03) = PV\\`

PV $66,642.0567

+ 13,000 purchase option on June 2024:

PRESENT VALUE OF LUMP SUM

`(Maturity)/((1 + rate)^(time) ) = PV`

Maturity 13,000.00

time 12.00

rate 0.03

`(13000)/((1 + 0.03)^(12) ) = PV`

PV 9,117.94

Total lease receivables: 66,642.06 + 9,117.94 = 75,760

a) sales revenue 75,760

cost of good sold 51,000

gross profit: 24,760

d) depreciation on equipment:

(75,760 - 19,000) / 4 year = 14,190 per year

we divide by four as only a quarter of the year past:

14,190 / 4 quarter = 3,547.5

It is the lesee which does the depreicaiton as the Truck possesion belong to it.