.Solutions to  Chapter 10 Lease Problems – more than I originally assigned, the additions are purely optional

.10.25    (FedUp Delivery Services; preparing lessee’s journal entries for an operating and a capital lease.)

 

a.    This lease is a capital lease because the present value of the lease payments of $22,581 (= $750 X 30.10751) exceeds 90 percent of the market value of the leased asset (.90 X $24,000 = $21,600).  The life of the lease is less than 75 percent of the life of the leased property and the property reverts to GM at the end of the lease period, so the lease fails these criteria for a capital lease.

 

b.    Time of Signing Lease

        No Entry.

        End of Each Month

        Rent Expense............................................................................            750

            Cash..............................................................................................                                750

        To record monthly rental expense and payment.

 

c.     Time of Signing Lease

        Leased Asset........................................................................       22,581

            Lease Liability............................................................................                          22,581

        To record capital lease.

 

        End of First Month

        Interest Expense (= .01 X $22,581)..................................       225.81

        Lease Liability....................................................................       524.19

            Cash..............................................................................................                          750.00

        To record interest expense and cash payment .. for

        first month; the book value of the lease liability is

        now $22,056.81 (= $22,581.00 – $524.19).

 

        Depreciation Expense........................................................       627.25

            Accumulated Depreciation.......................................................                          627.25

        To record depreciation expense for the first month

        of $627.25 (= $22,581/36).

 

        End of Second Month

        Interest Expense (= .01 X $22,056.81)............................       220.57

        Lease Liability....................................................................       529.43

            Cash..............................................................................................                          750.00

        To record interest expense and cash payment for

        the second month.

 

        Depreciation Expense........................................................       627.25

            Accumulated Depreciation.......................................................                          627.25

        To record depreciation expense for the second month.

 

10.38     (Effects of leases on statement of cash flows.)

 

a.    The journal entry to record this transaction is:

 

      Depreciation Expense ...................................................      10,000

            Accumulated Depreciation ......................................                         10,000

 

        Because this entry does not involve a debit or credit to the Cash account, Line (9) does not change.  Depreciation expense reduces net income, so Line (1) decreases by $10,000.  The recognition of depreciation expense does not affect cash, so Line (2) increases by $10,000.

 

b.    The journal entry for this transaction is:

 

      Cash .................................................................................      19,925

            Rent Revenue .............................................................                         19,925

 

        The debit to Cash results in an increase of $19,925 in Line (9).  The credit to Rent Revenue increases Line (1), net income, by $19,925.

 

c.     The journal entry to record this transaction is:

 

        Rent Expense .................................................................      19,925

            Cash .............................................................................                         19,925

 

        The credit to Cash results in an decrease of $19,925 in Line (9).  The debit to Rent Expense reduces Line (1), net income, by $19,925.

 

d.    The journal entry for this transaction is:

 

      Leased Asset  ..................................................................    100,000

            Lease Liability ...........................................................                       100,000

 

        This transaction does not involve a change in cash, so Line (9) does not change.  The entry does not affect net income, so Line (1) does not change.  This transaction is an investing and financing activity that would not appear in the statement of cash flows but in a supplementary schedule or note to the financial statements.

 

e.     The journal entry to record this transaction is:

 

        Interest Expense ...........................................................      15,000

        Lease Liability ................................................................        4,925

            Cash  ............................................................................                         19,925

 

        This entry results in a reduction in Cash, so Line (9) decreases by $19,925.  Line (1) decreases by $15,000 for interest expense and Line (7) increases by $4,925 for the reduction in the lease liability.  Thus, $15,000 of the reduction in cash appears in the operating section and $4,925 appears in the financing section of the statement of cash flows.

 

10.40     (Wal-Mart Stores; financial statement effects of operating and capital leases.)

 

a.    Interest Expense (= .11 X $1,694.2) .......................             186.4

        Lease Liability (Plug) ................................................              18.3

            Cash (Given) ..........................................................                               204.7

 

b.    Rent Expense .............................................................             249.3

            Cash .........................................................................                               249.3

 

c.     January 31, Year 9

        Leased Asset ..............................................................           1,586.5

            Lease Liability .......................................................                            1,586.5

        To capitalize operating leases.

       

        January 31, Year 10

        Interest Expense (= .12 X $1,586.5) .......................             190.4

        Lease Liability ...........................................................               58.9

            Cash .........................................................................                               249.3

        To record interest expense and cash payment

        on capitalized operating leases.

 

        Depreciation Expense ...............................................             105.8

            Accumulated Depreciation ..................................                               105.8

        To record depreciation expense on capitalized

        operating leases; $105.8 = $1,586.5/15.


10.41     (American Airlines; financial statement effect of operating and capital leases.)

 

(Amounts in Millions)

a.    Capital Lease Liability, December 31, Year 10.............................. $   2,233

        Interest Expense for Year 11 (= .08 X $2,233).........................................          179

        Cash Payment for Year 11.........................................................................        (268)

        New Leases Signed during Year 11 (Plug)......................................          259

        Capital Lease Liability, December 31, Year 11.............................. $   2,403

 

b.    Leasehold Asset, December 31, Year 10........................................... $   1,716

        New Leases Capitalized during Year 11 (from Part a.).........................          259

        Depreciation Expense for Year 11 (Plug).........................................           (97)

        Leasehold Asset, December 31, Year 11........................................... $   1,878

 

c.     December 31, Year 11

        Interest Expense ..............................................................          179

        Lease Liability ...................................................................            89

            Cash ................................................................................                            268

 

        Depreciation Expense ......................................................              97

            Accumulated Depreciation .........................................                              97

 

        Leased Asset .....................................................................         259

            Lease Liability ..............................................................                            259

 

d.    December 31, Year 11

        Rent Expense .....................................................................           946

            Cash ................................................................................                            946

 

e.     December 31, Year 10

        Leased Asset .....................................................................         7,793

            Lease Liability ..............................................................                         7,793

        To capitalize operating leases as if they were capital leases.

 

        December 31, Year 11

        Interest Expense (= .10 X $7,793) .................................          779

        Lease Liability ...................................................................   167

            Cash ................................................................................                            946

        To record interest expense and cash payment       for

        capitalized operating leases.

 

        Depreciation Expense ......................................................   354

            Accumulated Depreciation .........................................                            354

        To record depreciation for Year 11; ($354 = $7,793/22).

 

        Leased Asset .....................................................................   538

            Lease Liability ..............................................................                            538

        To record present value of new leases; $7,793 + X

        – $167 = $8,164; X = $538.

 

10.42     (Carom Sports Collectibles Shop; comparison of borrow/buy with operating and capital leases.)

 

a.    $100,000/3.79079 = $26,379.725 = $26,380.

 

      Carom Sports Collectibles Shop Amortization Schedule

                 Start                                                                        End of

               of Year        Interest                                                    Year

  Year     Balance          (10%)       Payment      Reduction      Balance

       1         $ 100,000        $  10,000        $  26,380           $  16,380           $  83,620

       2               83,620              8,362            26,380               18,018               65,602

       3               65,602              6,560            26,380               19,820               45,782

       4               45,782              4,578            26,380               21,802               23,980

       5               23,980              2,398            26,380               23,982                        (2)

 

b.    (1)   Asset—Computer System.

               Asset Contra—Accumulated Depreciation on Computer System.

               Liability—Bonds Payable and Interest Payable.

       (2)   None.

       (3)   Asset—Leased Computer System.

               Asset Contra—Accumulated Depreciation.

               Liability—Lease Liability.

 

c.     $150,000 = $100,000 + (.10 X $100,000 X 5).

 

d.    (1)   Operating: $131,900 = $26,380 X 5.

       (2)   Capital:      $131,900.

 

f.     (1)   $30,000 = $20,000 depreciation plus $10,000 bond interest.

       (2)   Operating-lease Method:       $26,380.

               Capital-lease Method:            $30,000 = $20,000 amortization +          $10,000  lease interest.

 

g.    (1)   $30,000.

       (2)   Operating:   $26,380.

               Capital:        $22,400 (or $22,398) = $20,000 + $2,400.

 

                CAROM SPORTS COLLECTIBLES SHOP SUMMARY

                                            (Not Required)

                               Year 1   Year 2    Year 3    Year 4    Year 5     Total

Plan 1

   Depreciation

      Expense ............   $ 20,000   $ 20,000   $ 20,000   $ 20,000   $ 20,000     $ 100,000

   Interest

      Expense ............      10,000      10,000      10,000      10,000      10,000           50,000

         Total ...............   $ 30,000   $ 30,000   $ 30,000   $ 30,000   $ 30,000     $ 150,000

Plan 2 (Operating)

   Lease Expense ...   $ 26,380   $ 26,380   $ 26,380   $ 26,380   $ 26,380     $ 131,900

Plan 2 (Financing)

   Depreciation

      Expense ............   $ 20,000   $ 20,000   $ 20,000   $ 20,000   $ 20,000     $ 100,000

   Interest

      Expense ............      10,000        8,362        6,560        4,578        2,400*         31,900

         Total ...............   $ 30,000   $ 28,362   $ 26,560   $ 24,578   $ 22,400     $ 131,900

      *Plug to correct for rounding errors.  By computations, this number is $2,398 = $26,380/1.10.

 

10.43     (IBM and Adair Corporation; accounting for lease by lessor and lessee.)

a.    January 1, Year 11

      Cash .................................................................................      10,000

            Note Payable ..............................................................                         10,000

      Computer ........................................................................      10,000

            Cash .............................................................................                         10,000

        December 31, Year 11

      Depreciation Expense ...................................................        3,333

            Accumulated Depreciation ......................................                            3,333

 

        Interest Expense (.08 X $10,000)  ...............................           800

        Note Payable (Plug) ......................................................        3,080

            Cash ($10,000/2.57710)  ..........................................                            3,880

        December 31, Year 12

      Depreciation Expense ...................................................        3,333

            Accumulated Depreciation ......................................                            3,333

 

      Interest Expense [.08 X ($10,000 – $3,080)]   ...........           554

        Note Payable (Plug) ......................................................        3,326

            Cash .............................................................................                            3,880

 

b.    January 1, Year 11

        No entry.

      December 31, Year 11

      Rent Expense .................................................................        3,810

            Cash .............................................................................                            3,810

        December 31, Year 12

      Rent Expense .................................................................        3,810

            Cash .............................................................................                            3,810

 

c.     January 1, Year 11

      Leased Asset  ..................................................................      10,000

            Lease Liability ...........................................................                         10,000

        December 31, Year 11

      Depreciation Expense ...................................................        3,333

            Accumulated Depreciation ......................................                            3,333

        Interest Expense (.07 X $10,000)  ...............................           700

        Lease Liability (Plug) ....................................................        3,110

            Cash ($10,000/2.62432)  ..........................................                            3,810

        December 31, Year 12

      Depreciation Expense ...................................................        3,333

            Accumulated Depreciation ......................................                            3,333

      Interest Expense [.07 X ($10,000 – $3,110)]   ...........           482

        Lease Liability (Plug) ....................................................        3,328

            Cash .............................................................................                            3,810

 

d.    January 1, Year 11

      Computer ........................................................................      10,000

            Sales Revenue ............................................................                         10,000

      Cost of Goods Sold .........................................................        6,000

            Inventory ....................................................................                            6,000

 

e.     January 1, Year 11

      Computer Equipment ...................................................        6,000

            Inventory ....................................................................                            6,000

        December 31, Year 11

      Depreciation Expense ...................................................        2,000

            Accumulated Depreciation ......................................                            2,000

      Cash .................................................................................        3,810

            Rent Revenue .............................................................                           3,810

 

        December 31, Year 12

      Depreciation Expense ...................................................        2,000

            Accumulated Depreciation ......................................                            2,000

      Cash .................................................................................        3,810

            Rent Revenue .............................................................                           3,810

 

f.     January 31, Year 11

      Lease Receivable ...........................................................      10,000

            Sales Revenue ............................................................                         10,000

      Cost of Goods Sold .........................................................        6,000

            Inventory ....................................................................                            6,000

        December 31, Year 11

      Cash .................................................................................        3,810

          Interest Revenue (see Part c.)  ...............................                               700

            Lease Receivable .......................................................                            3,110

        December 31, Year 12

      Cash .................................................................................        3,810

          Interest Revenue (see Part c.)  ...............................                               482

            Lease Receivable .......................................................                            3,328

 

g.  Lessee                                    Year 11    Year 12   Year 13Total

      Borrow and Purchase

      Depreciation Expense ............      $   3,333    $   3,333     $   3,334   $  10,000

      Interest Expense .....................              800            554             286         1,640

                                                                 $   4,133    $   3,887     $   3,620   $  11,640

     Operating Lease

      Rent Expense ...........................      $   3,810    $   3,810     $   3,810   $  11,430

     Capital Lease

      Depreciation Expense ............      $   3,333    $   3,333     $   3,334   $  10,000

      Interest Expense .....................              700            482             248         1,430

                                                                 $   4,033    $   3,815     $   3,582   $  11,430

 

h.  Lessor                                    Year 11 Year 12 Year 13 Total

      Sale

      Sales Revenue .........................      $ 10,000    $      --          $      --        $  10,000

      Cost of Goods Sold ...................          (6,000)           --                  --             (6,000)

                                                                 $   4,000    $      --          $      --        $    4,000

     Operating Lease

      Rent Revenue ..........................      $   3,810    $   3,810     $   3,810   $  11,430

      Depreciation Expense                       (2,000)       (2,000)        (2,000)       (6,000)

                                                                 $   1,810    $   1,810     $   1,810   $    5,430

     Capital Lease

      Sales Revenue .........................      $ 10,000    $      --          $      --        $  10,000

      Cost of Goods Sold ...................          (6,000)           --                 --             (6,000)

      Interest Revenue ....................              700            482             248         1,430

                                                                 $   4,700    $      482     $      248   $    5,430