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# Accounting for leases (Essay Sample)

Instructions:
Luv Company enters into a non-cancelable lease agreement with Soap Company. The details of the agreement are as follows: Inception date Jan 1, 2011 Annual lease payment at beginning of each year, 18,000 starting Jan 1, 2011 Bargain-purchase option at the end of the lease \$4,000 Lease term 5 years Economic life of leased equipment 5 years Lessor's cost \$60,000 Fair value of asset \$70,000 Lessor's implicit rate 10% Lessee's implicit rate 10% Present value of annuity due i=10%, n=5 periods 4.16987 Present value i=10%, n=5 years 0.621 ***Soap company will receive the lease payments. The collectability of the lease payments is reasonably predictable and there are no uncertainties surrounding the costs to be incurred by Soap company—the lessor. -For Luv company—the lessee—what is the nature of the lease? What tests does it meet? -For Soap company—the lessor—what is the nature of the lease? -Prepare the amortization schedule for Luv Company for the 5-year term. -Prepare the journal entries on the books of Luv company—the lessee—for recording the lease and the recording of lease payment and expenses for 2011. Project Criteria: **Cover the lease from Luv company's perspective, nature of lease and the tests **Cover the lease from Soap company's perspective **Prepare the amortization schedule **Prepare the journal entries source..
Content:

Accounting for leases
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The decision to lease long term assets is an option available to firms, if this alternative has more benefits than purchasing the asset. For purposes of accounting for leases, leases can either be classified as capital or operating leases. Capital leases exist when there is a noncancellable lease transaction that meets four other categorization conditions. This could either include transfer of ownership to the lessee; there is a bargain purchase option. The term of the noncancellable lease is not less than 75% of expected economic life of asset. Lastly, the present values of the lease payments are more than 90% of the fair value of asset. If the conditions are not fulfilled then this is an operating lease (Nikolai et al., 2010).
FACTSTerm of lease5yearsannual payments\$18,000 Rate10%Life of asset5yearslease time/ life of asset= 100% which is greater than 75%Minimum lease payments\$18,000 present value annuity due factor4.16987Present Value of the MLP\$75,057.66 
Present Value of the MLP\$75,058.00 present value of bargain option\$2,484.00 Present value\$77,542.00 
FMV of the equipment at lease inception\$70,000 90% of FMV\$63,000 

Amortization scheduledateannual payments10% interestliability reductionbalance0\$ 77, 54211/1/2011\$18,000 \$18,000 \$59,542 21/1/2012\$18,000 \$5,954 \$12,046 \$47,496 31/1/2013\$18,000 \$4,750 \$13,250 \$34,246 41/1/2014\$18,000 \$3,425 \$14,575 \$19,671 51/1/2015\$18,000 \$1,967 \$16,033 \$3,638 \$362 (\$362)\$4,000 General JournalLuv Company( Lessee)YearDescriptionDebitCredit1/1/2011Leased asset\$ 77, 542 leased liability\$ 77, 542Being initial record of leased asset in 2011Lease liability\$18,000  cash\$18,000 To record payment made in 20112012interest expense5,954lease liability12,046 cash18,000To record lease payment made in 20122013interest expense4,750lease liability13,250 cash18,000To record lease payment made in 20132014interest expense3,425lease liability14,575 cash18,000To record lease payment made in 20142015interest expense1,967lease liability16,033 cash18,000To record lease payment made in 2014BPO interest362 BPO l...
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