Flashcards in FAR 61 - Leases 2 - Depr/BPO & Residuals/Sales Leasbacks & Disclosures Deck (47):
T/F: Executory costs are excluded from both the capitalized lease accounts and the minimum lease payments, for both parties.
T/F: An unguaranteed residual value is not included in the computation of the lessor's implicit interest rate.
It is a part of the asset and is therefore is included.
T/F: Initial direct costs of leasing are immediately expensed by the lessee.
False. Initial direct costs of leasing begin to be recognized only after negotiations begin with a specific potential lessee.
T/F: Initial direct costs of leasing are accounted for only by the lessor.
T/F: The initial direct costs in an operating lease are capitalized and expensed on a straight-line basis.
T/F: Executory costs are the annual lease payments of an executory lease contract.
Executory costs are flow-through costs and do not affect lease capitalization. They aren't capitalized because they do not contribute to the asset's value beyond one year. They must be subtracted when determining the PV of the minimum lease payments and for determining the amounts to capitalize in the accounts.
T/F: Initial direct costs of leasing exclude advertising and searching for potential lessees.
Douglas Co. leased machinery with an economic useful life of 6 years. For tax purposes, the depreciable life is 7 years. The lease is for 5 years, and Douglas can purchase the machinery at fair market value at the end of the lease. What is the depreciable life of the leased machinery for financial reporting?
5 years. The lease will be treated as a capital lease for accounting purposes because the life of the lease (5 years) is at least 75% of the life of the asset (6 years)-5 years/6 years = 83%. Douglas will record the machinery as an asset (and related lease liability) and depreciate it over the periods benefited. Because Douglas neither obtains ownership of the machinery at the end of the lease nor has a written option to purchase the machinery at a bargain price, the equipment will be depreciated over the life of the lease, which is 5 years.
At the inception of a capital lease, the guaranteed residual value should be
A. Included as part of minimum lease payments at present value.
B. Included as part of minimum lease payments at future value.
C. Included as part of minimum lease payments only to the extent that guaranteed residual value is expected to exceed estimated residual value.
D. Excluded from minimum lease payments.
A. Only minimum lease payments are considered when evaluating the fourth criterion of capital leases: "Is the present value of minimum lease payments equal to or greater than 90% of the leased asset's market value?"
A guaranteed residual value is always included in the minimum lease payments of the lessor and also in the lessee's if the lessee guarantees it. It is so included because it is a collection or payment that is expected to be made under the terms of the lease.
T/F: Criteria 2, 3, and 4 are all met. The lessee depreciates the leased asset over the asset's total useful life.
Equation: (leased asset balance at inception - residual value)/# of years
T/F: The third party guarantee of residual would cause the present value of minimum lease payments for the lessor to exceed that of the lessee, assuming both parties used the same rate of interest.
T/F: A bargain purchase option is included in the net lease receivable at present value.
T/F: The lessee obtains the asset at the end of a capital lease. Salvage value at the end of the asset's useful life should be used for depreciation.
T/F: The lessee guarantees the residual value of the leased asset. Salvage value at the end of the lease term should be used for depreciation.
T/F: If a cash flow is included in a lessor's net lease receivable, then it must also be included in the minimum lease payments.
T/F: If a cash flow is included in a lessee's lease liability, then it must also be included in the minimum lease payments.
T/F: If a cash flow is included in a lessee's minimum lease payments, then it must also be included in the lease liability.
T/F: An unguaranteed residual value is not taken into account by the lessor when determining if the present value of minimum lease payments exceeds 90% of the fair value of the leased asset at inception.
T/F: The unguaranteed residual value is included in the gross lease receivable at nominal value and in the net lease receivable at present value.
T/F: If a cash flow is included in a lessor's minimum lease payments, then it must also be included in the net lease receivable.
T/F: The unguaranteed residual value is excluded from the minimum lease payments and the lessor's capitalized lease accounts.
it is only excluded from the minimum lease payments, COGS, and sales.
T/F: In a sales-type lease, the lessor includes a lessee guarantee of residual value in the gross lease receivable.
On January 1, 2005, Moul Mining Co. (lessee) entered into a 5-year lease for drilling equipment. Moul accounted for the acquisition as a capital lease for $120,000, which included a $5,000 bargain purchase option.
Moul expected to exercise the bargain purchase option at the end of the lease. Moul estimated that the equipment's fair value will be $10,000 at the end of its 8-year life. Moul regularly uses straight-line depreciation on similar equipment.
For the year ending December 31, 2005, what amount should Moul recognize as depreciation expense on the leased asset?
Depreciation expense = $13,750 = ($120,000 - $10,000)/8.
The bargain purchase option is included in the capitalized asset value because it is expected to be paid. Given that the asset will be purchased, the 8-year total useful life is used by the lessee for depreciation. The salvage value at the end of the asset's useful life is used for depreciation.
An asset with a market value of $100,000 is leased on 1/1/x1. The lease is a capital lease for both parties. Five annual lease payments are due each December 31 beginning 12/31/x1. The unguaranteed residual value on 12/31/x5, the last day of the lease term, is estimated at $40,000. The lessor's implicit interest rate is 8%. Compute the lessor's net lease receivable immediately after the first lease payment is received. Present value factors for 5 years at 8% are: 3.99271 and 0.68058.
$89,773. The lease payment (LP) is computed as: $100,000 = LP(3.99271) + $40,000(0.68058). Solving, LP = $18,227. The initial gross lease receivable balance is 5($18,227) $40,000 or $131,135. Unearned interest is recorded for $31,135 ($131,135 - $100,000) at inception. Interest revenue for the first year is $8,000 (= $100,000 x .08). The journal entry for the first lease payment is: dr. Cash $18,227, dr. unearned interest $8,000, cr. interest revenue $8,000, cr. lease receivable $18,227. The decrease in net lease receivable is $18,227 - $8,000 or $10,227. The ending net lease receivable at year end is $100,000 - $10,227 = $89,773.
T/F: Both the lessor and lessee include a bargain purchase option in their respective minimum lease payments.
T/F: A lease that is properly treated as a capital lease and that has a bargain purchase option is for an asset with a fair value equal to its book value. Both the lessee and lessor will capitalize the present value of the bargain purchase amount in their respective net lease liabilities and net lease receivables.
T/F: It is not possible for a lessor to recognize gross margin on a capital lease when there is a bargain purchase option.
T/F: The present value of a lessee guarantee of residual is deducted from both sales and cost of goods sold by the lessor in a sales type lease.
True if UNguaranteed residual value
T/F: The lessor estimates that the residual value of an asset under lease will be $4 million when it is returned by the lessee at the end of the term. The lessor included an option to purchase the asset for $1 million in the lease signed by the lessee and lessor. The lessor used the $4 million amount in its equation to compute the required monthly lease payment.
They should have used the $4 million + $1 million BPO = $5 million
On June 30, 2004, Lang Co. sold equipment with an estimated useful life of 11 years and immediately leased it back for 10 years. The equipment's carrying amount was $450,000; the sales price was $430,000; and the present value of the lease payments, which is equal to the fair value of the equipment, was $465,000. In its June 30, 2004 balance sheet, what amount should Lang report as deferred loss?
The loss on the sale is $20,000 ($450,000 carrying value - $430,000 sales price). But the fair value of the asset exceeds carrying value.
Thus, the firm has only an "artificial" loss. This loss will most likely be made up by lowering the lease payments on the leaseback. The entire loss is deferred. Whenever the market value exceeds carrying value, a "true" loss has not occurred on the sale and the loss is deferred.
Able sold its headquarters building at a gain and simultaneously leased back the building. The lease was reported as a capital lease.
At the time of sale, the gain should be reported as
A. Operating income.
B. An extraordinary item, net of income tax.
C. A separate component of stockholders' equity.
D. An asset valuation allowance.
D. When an asset is sold and then leased back, the lessee defers the gain (subject to certain exceptions, which do not apply in this question). The deferred gain is recorded as a contra account to the leased asset in a capital lease.
On January 1, 2005, Hooks Oil Co. sold equipment with a carrying amount of $100,000 and a remaining useful life of 10 years to Maco Drilling for $150,000.
Hooks immediately leased the equipment back under a 10-year capital lease with a present value of $150,000 and will depreciate the equipment using the straight-line method. Hooks made the first annual lease payment of $24,412 in December 2005.
In Hooks' December 31, 2005 balance sheet, the unearned gain on equipment sale should be
In a sale-leaseback, the seller-lessee defers the $50,000 gain on sale ($150,000 - $100,000) and amortizes the gain over the lease term. This is not a minor leaseback.
Therefore, the entire gain is deferred at the beginning of 2005. With a 10-year lease term, $5,000 ($50,000/10) of the gain is amortized each year. Therefore, at the end of 2005, the remaining unearned gain is $45,000 ($50,000 - $5,000 amortization).
In a capital or operating lease, the gain or loss is an integral part of the transaction and should be recognized over the term of the lease in most cases. When would a gain on a lease not be deferred?
When the term of the lease is less than 10% of the useful life.
Rig Co. sold its factory at a gain and simultaneously leased it back for 10 years. The factory's remaining economic life is 20 years. The lease was reported as an operating lease.
At the time of sale, Rig should report the gain as
A. Part of income from continuing operations.
B. An asset valuation allowance.
C. A separate component of stockholders' equity.
D. A deferred credit.
D. The gain or loss on a sale-leaseback is deferred and amortized over the term of the lease for both operating and capital leases. There is no information about present value of lease payments or fair value of the asset.
Because this is an operating lease, the deferred gain is treated as a deferred credit. If it were a capital lease, it would be treated as an asset valuation allowance.
T/F: An asset (book value, $200,000; market value, $170,000) is sold for $150,000 and then leased back. The portion of the loss to be recognized immediately is $30,000.
T/F: A lessor must report the components of the lease receivable including unguaranteed residual values.
T/F: When a gain on a sale-leaseback is deferred in an operating lease, the amortization of the gain reduces periodic rent expense.
T/F: The market price and selling price of an asset sold and leased back is $900. The carrying value is $600. The present value of the lease payments is $100. The lease is an operating lease. $100 of deferred gain should be reported on the sale.
T/F: When a gain on a sale-leaseback is deferred in a capital lease, the amortization of the gain reduces periodic depreciation expense.
T/F: The accounting procedures used by the lessor in a sale-leaseback capital lease are unaffected by the leaseback portion of the transaction.
Renwood, Inc. contracted for services to be provided over a period of time in return for 2,000 shares of Renwood's $5 par common stock when the service is completed. At the time, Renwood stock was selling for $10 per share. When the service was completed, Renwood's stock price was $12 per share. Therefore, Renwood
A. Recognizes $24,000 of expense.
B. Increases the common stock account $12,000.
C. Increases contributed capital in excess of par $10,000.
D. Credits a liability for $20,000.
C. The total owners' equity increase of $20,000 (2,000 shares x $10) is recorded at signing. Of that amount, the common stock account will receive $10,000 (2,000 shares x $5 par). Therefore, the remainder ($10,000) is allocated to contributed capital in excess of par. Subsequent changes in stock price do not change the total amount of OE recorded.
Early in 20x3, Shifter, Inc. wrote put options for 1,000 shares of its common stock. Purchasers of the options can sell Shifter stock back to Shifter for $20 per share on 12/31/x3. The estimated fair value of each option is $2 at the time of sale. At 12/31/x3, the share price is $15 and the options are exercised. As a result, Shifter
A. Recognizes a $3,000 loss.
B. Recognizes a $5,000 loss.
C. Increases the treasury stock account $20,000 upon purchase.
D. Decreases contributed capital $3,000.
A. Shifter paid $5,000 more for the treasury stock than its fair value: 1,000 shares x ($20 - $15). The $2,000 fee (1,000 x $2) offsets that loss yielding a net loss of $3,000.
Choose the correct statement concerning transactions involving the issuance of shares in payment of obligations for goods and services.
A. When the value of shares to be issued is fixed, the number of shares to be issued is variable.
B. When the value of shares to be issued is fixed, the number of shares to be issued is fixed.
C. When the number of shares to be issued is fixed, the expense to be recorded is variable.
D. When the number of shares to be issued is fixed, the issuing firm records a liability.
A. The value of the shares to be issued is the value of the contract or the agreed-upon value of the goods and services for the two parties. If the stock price changes between the time of contracting and the delivery of the goods or services, the number of shares changes in order to provide that fixed value.
A firm selling put options to sell the firm's stock
A. Increases owners' equity for the fair value of the options.
B. Does not recognize any change in its financial position at sale of the options.
C. Increases a liability for the fair value of the options.
D. Records an expense equal to the fair value of the options.
C. The liability will be extinguished when the option is exercised or when it expires.
T/F: International accounting standards are more consistent with respect to distinguishing debt and equity, compared with U.S. standards.
T/F: All redeemable preferred stock is reported as debt by the issuer.
They can only be reported as debt if they meet both of the following:
1. They are obligations to repurchase the firm's equity shares or are indexed to such an obligation
2. They require or may require the issuer to settle the obligation by transferring assets.