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Flashcards in PVE Deck (60):
1

In a lease that is recorded as a direct financing lease by the lessor, the difference between the gross investment in the lease and the sum of the present values of the components of the gross investment should be recognized as income 

Over the period of the lease using the interest method of amortization.

2

What is the cost basis of an asset acquired by lease which is accounted for as capital lease?

The present value of the minimum lease payments under the lease (exclusive of executory costs and any profit thereon) discounted at an appropriate rate.

3

Hiller Company manufactures equipment which is sold or leased. On December 31, year I, Hiller leased equipment to Drake Company for a 5-year period expiring December 31, year 6, at which date ownership of the leased asset is transferred to Drake. Equal payments under the lease are $20,000 and are due on December 31 of each year. The first payment was made on December 31, year I. Collectibility of the remaining lease payments is reasonably assured, and Hiller has no material cost uncertainties. The normal sales price of the equipment is $77,000 and Hiller's cost is $60,000. For the year ended December 31, year I, how much income should Hiller recognize from the lease transactions? 

$17,000

4

Howard Company sublet a portion of its warehouse for 5 years at an annual rental of $18,000, beginning on May I, year I. The tenant paid I year's rent in advance, which Howard recorded as a credit to unearned rental income. Howard reports on a calendar-year basis. The adjustment on December 31, year I, should be

a. No entry                              

b. Unearned rental income     $ 6,000

        Rental income                                   $ 6,000

c. Rental income                     $ 6,000

        Unearned rental income                   $ 6,000

d. Unearned rental income     $ 12,000

        Rental income                                   $ 12,000 

 Unearned rental income     $ 12,000

        Rental income                                   $ 12,000 

5

The lessee's balance sheet liability for capital lease would be periodically reduced by the total

Minimum lease payment less the portion of the minimum lease payment allocable to interest.

6

On January I, year I, Flip Corporation signed a 10-year noncancelable lease for certain machinery. The terms of the lease called for Flip to make annual payments of $30,000 for 10 years with title to pass to Flip at the end of this period. Accordingly, Flip accounted for this lease transaction as a capital lease of the machinery. The machinery has an estimated useful life of 15 years and no salvage value. Flip uses the straight-line method of depreciation for all of its fixed assets. The lease payments were determined to have a present value of $201,302 with an effective interest rate of 10%. With respect to this capitalized lease, Flip should record for year I 

Interest expense of $20,130 and depreciation expense of $13,420. 

7

Bain Co. entered into a 10-year lease agreement for a new piece of equipment worth $500,000. At the end of the lease, Bain will have the option to purchase the equipment. Which of the following would require the lease to be accounted for as a capital lease? 

The estimated useful life of the leased asset is 12 years. 

8

Rent was due the first day of Main, a pharmaceutical company, leased office space from Ash. Main took possession and began to use the building on July I, year I. each month. Monthly lease payments escalated over the 5-year period of the lease as follows:  

Period                                                     Lease payment

July I, year I - September 30, year I      $0 - rent abasement

October, I, year I- June 30, year 2            $17,500

July I, year 2 - June 30, year 3                   19,000 

July I, year 3 - June 30, year 4                   20,500

July I, year 4 - June 30, year 5                   23,000

July I, year 5 - June 30, year 6                   24,500

What amount would Main show as deferred rent expense at December 31, year 4?

$71,550

9

Which of the following is characteristic of capital lease?

a. The lease term is substantially less than the estimated economic life of the leased property.

b. The future obligation does not appear in the balance sheet of the lessee.

c. The present value of the minimum lease payments at the beginning of the lease term is or more of the fair value of the property at the inception of the lease.

d. The lease contains bargain-purchase option. 

The lease contains bargain-purchase option.

10

On January I, year I, Fast Co. entered into a two-year lease agreement with Ananz Co. to lease 10 new computers. The lease term begins on January I, year I and ends on December 31, year 2. The lease agreement requires Frost to pay Ananz two annual lease payments of $8,000. The present value of the minimum lease payments is $13,000. Which of the following circumstances would require Fast to classify and account for the arrangement as capital lease?

a. Fast Co. does not have the option of purchasing the computers at the end of the lease term.

b.  Ownership of the computers remains with Ananz Co. throughout the lease term and after the lease ends.

c. The economic life of the computers is three years.

d. The fair value of the computers on January I, year I, is $14,000.

The fair value of the computers on January I, year I, is $14,000.

11

When equipment held under an operating lease is subleased by the original lessee, the original lessee would account for the sublease as an

 Operating lease. 

12

The present value of the minimum lease payments should be used by the lessee in the determination of (n)

a. Capital lease liability 

b. Capital lease liability and Operating lease liability

c. Operating lease liability

d. Neither

Capital lease liability 

13

On January I, year I, Glen Co. leased a building to Dix Corp. for a 10-year term at an annual rental of $50,000. At inception of the lease, Glen received the first 2 years' rent of $100,000 and a security deposit of $100,000. This deposit will not be returned to Dix upon expiration of the lease but will be applied to payment of rent for the last 2 years of the lease. What portion of the $200,000 should be shown as a current and long-term liability, respectively, in Glen's December 31, year I balance sheet? 

    Current Liability    Long-term liability

a. $0                        $200,000

b. $50,000              $100,000

c. $100,000             $100,000

d. $100,000             $50,000

$50,000              $100,000

14

Conn Company purchased a new machine for $430,000 on January I, year I, and leased it to East the same day. The machine has an estimated 12-year life, and will be depreciated $40,000 per year. The lease is for a 3-year period expiring January I, year 4, at an annual rental of $85,000. Additionally, East paid $30,000 to Conn as a lease bonus to obtain the 3-year lease. For year I Conn incurred insurance expense of $8,000 for the leased machine. What is Conn's year I operating profit on this leased asset? 

$47,000 

15

On January I, year I, 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. Hocks made the first annual lease payment of $24,412 in December year I. In Hooks' December 31, year I balance sheet, the unearned gain on equipment sale should be 

$45,000 

16

On December 31, year I, Neal, Inc. leased machinery with a fair value of $105,000 from Frey Rentals Co. The agreement is a 6-year noncancelable lease requiring annual payments of $20,000 beginning December 31, year I. The lease is appropriately accounted for by Neal as a capital lease. Neal's incremental borrowing rate is 11%. Neal knows the interest rate implicit in the lease payments is 10%.

The present value of an annuity due of 1 for 6 years at 10% is 4.7908.

The present value of an annuity due of 1 for 6 years at 11% is 4.6959.

In its December 31, year I balance sheet, Neal should report lease liability of 

$75,816 

17

The lessee should amortize the capitalizable cost of the leased asset in manner consistent with the lessee's normal depreciation policy for owned assets for leases that

a. Neither

b. Transfer ownership of the property to the lessee by the end of the lease term

c. Contain a bargain purchase option and Transfer ownership of the property to the lessee by the end of the lease term

d. Contain a bargain purcahse option

Contain a bargain purchase option and Transfer ownership of the property to the lessee by the end of the lease term

18

A lease contains bargain purchase option. In determining the lessee's capitalizable cost at the beginning of the lease term, the payment called for by the bargain purchase option would 

 Be added at its present value.

19

Lease Y contains a bargain purchase option and the lease term is equal to 75% of the estimated economic life of the leased property. Lease Z contains a bargain purchase option and the lease term is equal to less than of the estimated economic life of the leased property. How should the lessee classify these leases?

    Lease Y                     Lease Z 

a. Operating lease         Operating lease

b. Operating lease         Capital lease

c. Capital lease              Capital lease

d. Capital lease             Operating lease 

 Capital lease              Capital lease

20

Benedict Company leased equipment to Mark, Inc. on January I, year 2. The lease is for an 8-year period expiring December 31, year 9. The first of 8 equal annual payments of $600,000 was made on January I, year 2. Benedict had purchased the equipment on December 29, year I, for $3,200,000. The lease is appropriately accounted for as a sales-type lease by Benedict. Assume that the present value at January I, year 2, of all rent payments over the lease term discounted at a 10% interest rate was $3,520,000. What amount of interest income should Benedict record in year 3 (the second year of the lease period) as a result of the lease?

$261,200 

21

Hines Company leased new machine from Ashwood Company on December 31, year I, under a lease with the following pertinent information:

Lease term                                   8 years

Annual rental payable at the  

beginning of each lease year       $ 50,000

Useful life of the machine            10 years

Present value of the 8 lease  

payments at 12/31/Y1                    $258,000

The machine reverts to Ashwood at lease expiration date and has a fair value of $280,000 at the inception of the lease. Hines uses the straight-line method of depreciation. For the year ended December 31, year 2, how much depreciation (amortization) should Hines record for the capitalized leased machine? 

$32,250

22

Arrow Company purchased a machine on January I, year I, for $1,440,000 for the purpose of leasing it. The machine is expected to have an 8-year life from date of purchase, no residual value, and be depreciated on the straight-line basis. On February I, year I, the machine was leased to Baxter Company for a 3-year period ending January 31, year 4, at a monthly rental of $30,000. Additionally, Baxter paid $72,000 to Arrow on February I, year I, as a lease bonus. What is the amount of income before income taxes that Arrow should report on this leased asset for the year ended December 31, year I? 

$172,000

23

For capital lease, the amount recorded initially by the lessee as liability should 

Not exceed the fair value of the leased property at the inception of the lease.

24

Koby Co. entered into a capital lease with a vendor for equipment on January 2 for seven years. The equipment has no guaranteed residual value. The lease required Koby to pay $500,000 annually on January 2, beginning with the current year. The present value of an annuity due for seven years was 5.35 at the inception of the lease. What amount should Koby capitalize as leased equipment? 

$2,675,000

25

On August I, year I, Kern Company leased a machine to Day Company for a 6-year period requiring payments of $10,000 at the beginning of each year. The machine cost $48,000, which is the fair value at the lease date, and has a useful life of 8 years with no residual value. Kern's implicit interest rate is 10% and present value factors are as follows:

Present value of an annuity due of $1 at

10% for 6 periods                                        4.791

Present value of an annuity due of $1 at

10% for 8 periods                                        5.868 

Kern appropriately recorded the lease as direct financing lease.  At the inception of the lease, the gross lease receivables account balance should be 

$60,000

26

Erdman Corp. signs a lease to rent equipment for ten years. The lease payments of $20,000 per year are due on January 2 each year. At the end of the lease term, Erdman may purchase the equipment for $500. The equipment is estimated to have a useful life of 10 years. Erdman prepares its financial statements in accordance with IFRS. Erdman should classify this lease as a

Finance lease. 

27

Steam Co. acquired equipment under a capital lease for six years. Minimum lease payments were $60,000 payable annually at year-end. The interest rate was with an annuity factor for six years of 5.0757. The present value of the payments was 5% equal to the fair market value of the equipment. What amount should Steam report as interest expense at the end of the first year of the lease?

$15,227 

28

When should lessor recognize in income nonrefundable lease bonus paid by lessee on signing an operating lease? 

Over the life of the lease. 

29

Rent received in advance by the lessor for an operating lease should be recognized as revenue 

In the period specified by the lease. 

30

Beal, Inc. intends to lease a machine from Paul Corp. Beal's incremental borrowing rate is 14%. The prime rate of interest is 8%. Paul's implicit rate in the lease is 10%, which is known to Beal. Beal computes the present value of the minimum lease payments using 

10%

31

On December 30, year I, Ames Co. leased equipment under a capital lease for 10 years. It contracted to pay $40,000 annual rent on December 31, year I, and on December 31 of each of the next 9 years. The capital lease liability was recorded at $270,000 on December 30, year I, before the first payment. The equipment's useful life is 12 years, and the interest rate implicit in the lease is 10%. Ames uses the straight-line method to depreciate all equipment. In recording the December 31, year 2, payment, by what amount should Ames reduce the capital lease liability? 

$17,000

32

On December I, year I, Branch Corporation leased office space for 10 years at monthly rental of $15,000. On that date Branch paid the landlord the following amounts:

Rent deposit                                      $ 15,000

First month's rent                                  15,000

Last month's rent                                  15,000

Installation of new walls and offices      96,000 

                                                          $ 141,000

The entire amount of $141,000 was charged to rent expense in year I. What amount should Branch have charged to expense for the year ended December 31, year 1? 

$15,800

33

What are the three types of period costs that lessee experiences with capital leases?

Interest expense, amortization expense, executory costs.

 

34

Wilburn Corp. signs an agreement to lease land and a building for 20 years. At the end of the lease, the property will not transfer to Wilburn. The life of the building is estimated to be 20 years. Wilburn prepares its financial statements in accordance with IFRS. How should Wilburn account for the lease? 

The land is recorded as an operating lease and the building is recorded as finance lease. 

35

Connor Corporation signed a lease on January I, year I, to rent equipment for 10 years. The lease was appropriately treated as a capital lease. On January I, year 4 Connor renegotiated the lease terms. The new lease agreement does not contain a bargain purchase option, nor transfer of title. The new lease terms are for a shorter length of time, which is not greater than 75% of the economic useful life of the asset. The present value of the minimum lease payments under the new agreement is less than of the fair market value of the leased asset. How should Connor account for the change in the lease agreement?

Treat the new lease as a sales-leaseback. 

36

Star Company leased new machine from Fox Company on December 31, year I, under lease with the following pertinent information: 

Lease term                                 10 years

Annual rental payable at the     

beginning of each year               $200,000

Useful life of the machine           15 years

Implicit interest rate                    10%

Present value of an annuity of

$1 in advance for 10 periods at

10%                                             6.76

Present value of $1 for 10

periods at 10%                             0.39

Star has the option to purchase the machine on December 31, year 11, by paying $250,000, which is significantly less than the $500,000 expected fair market value of the machine on the option exercise date. Assume that, at the inception of the lease, the exercise of the option appears to be reasonably assured. At the inception of the lease, Star should record a capitalized lease liability of 

$1,449,500

37

On January I, year I, Nobb Corp. signed a 12-year lease for warehouse space. Nobb has an option to renew the lease for an additional 8-year period on or before January I, year 5. During January year 3, Nobb made substantial improvements to the warehouse. The cost of these improvements was $540,000, with an estimated useful life of 15 years. At December 31, year 3, Nobb intended to exercise the renewal option. Nobb has taken a full year's amortization on this leasehold. In Nobb's December 31, year 3 balance sheet, the carrying amount of this leasehold improvement should be

$504,000

38

The Morn Company leased equipment to the Lizard Company on May I, year I. At that time the collectibility of the minimum lease payments was not reasonably predictable. The lease expires on May I, year 3. Lizard could have bought the equipment from Morn for $900,000 instead of leasing it. Morn's accounting records showed a book value for the equipment on May I, year I, of $800,000. Morn's depreciation on the equipment in year I was $200,000. During year I Lizard paid $240,000 in rentals to Morn. Morn incurred maintenance and other related costs under the terms of the lease of $18,000 in year I. After the lease with Lizard expires, Morn will lease the equipment to the Cold Company for another 2 years. The income before income taxes derived by Morn from this lease for the year ended December 31, year I, should be 

$ 22,000

39

Melville Company leased equipment from Rice Corporation on July I, year I, for an 8-year period expiring June 30, year 9. Equal payments under the lease are $600,000 and are due on July I of each year. The first payment was made on July I, year I. The rate of interest contemplated by Melville and Rice is 10%. The cash selling price of the equipment is $3,520,000 and the cost of the equipment on Rice's accounting records is $2,800,000. Assuming that the lease is appropriately recorded as a sales-type lease, what is the amount of profit on the sale and interest income that Rice should record for the year ended December 31, year I? 

$720,000 and $146,000

40

 On January I, year I, JCK Co. signed a contract for an 8-year lease of its equipment with a 10-year life. The present value of the 16 equal semiannual payments in advance equaled 85% of the equipment's fair value. The contract had no provision for JCK, the lessor, to give up legal ownership of the equipment. Should JCK recognize rent or interest revenue in year 2, and should the revenue recognized in year 2 be the same or smaller than the revenue recognized in year I?

  year 2 revenues    year 2 amount 

   recognized           compared to year 1 

a. Rent                     The same 

b. Rent                     Smaller

c. Interest                 The same

d. Interest                 Smaller 

Interest                 Smaller 

41

On 1/31/YI, Clay Company leased new machine from Saxe Corp. The following data relate to the lease transaction at its inception: 

Lease term                               10 years

Annual rental payable at

beginning of each lease

year                                          $50,000 

Useful life of machine           15 years

Implicit interest rate              10%

Present value of an annuity

of 1 in advance for 10

periods at 10%                         6.76

Present value of annuity of

1 in arrears for 10 periods

at 10%                                       6.15

Fair value of the machine     $400,000

The lease has no renewal option, and the possession of the machine reverts to Saxe when the lease terminates. At the inception of the lease, Clay should record  lease liability of 

$0

42

The lessee's net carrying value of an asset arising from the capitalization of lease would be periodically reduced by the

Depreciation/amortization of the asset. 

43

Dahlia, Inc. signed a lease to rent equipment on July I, year I. On January I, year 3, Dahlia decides that the equipment is no longer needed, and the company pays a $20,000 penalty to cancel the lease. How should the cost of termination be disclosed on Dahlia's income statement? 

Recognize the cost of termination as a part of income from continuing operations. 

44

During January year I, Vail Co. made long-term improvements to a recently leased building. The lease agreement provides for neither a transfer of title to Vail nor bargain purchase option. The present value of the minimum lease payments equals 85% of the building's market value, and the lease term equals 70% of the building's economic life. Should assets be recognized for the building and the leasehold improvements? 

a. Building and Leashold improvements

b. Leashold improvements

c. Building

d. Neither

Leashold improvements

45

Farm Co. leased equipment to Union Co. on July I, year I, and properly recorded the sales-type lease at $135,000, the present value of the lease payments discounted at 10%. The first of eight annual lease payments of $20,000 due at the beginning of each year was received and recorded on July 3, year I. Farm had purchased the equipment for $110,000. What amount of interest revenue from the lease should Farm report in its year I income statement?

$5,750 

46

In sale-leaseback transaction, gain resulting from the sale should be deferred at the time of the sale-leaseback and subsequently amortized when

I. The seller-lessee has transferred substantially all the risks of ownership.

II. The seller-lessee retains the right to substantially all of the remaining use of the paperty. 

II Only

47

Which of the following is criterion for lease to be classified as capital lease in the books of lessee?

a. The lease does not transfer ownership of the property to the lessee.

b. The lease term is equal to 65%, or more of the estimated useful life of the leased paperty.

c. The lease contains a bargain purchase option.

d. The present value of the minimum lease payments is 70% or more of the fair market value of the leased paperty. 

The lease contains a bargain purchase option. 

48

On January I of the current year, Tell Co. leased equipment from Swill Co. under a nine-year sales-type lease. The equipment had a cost of $400,000, and an estimated useful life of fifteen years. Semiannual lease payments of $44,000 are due every January I and July I. The present value of lease payments at 12% was $505,000, Which equals the sales price of the equipment. using the straight-line method, what amount should Tell recognize as depreciation expense on the equipment in the current year? 

$56,111

49

Bond Company leased equipment from Howe, Inc. on December 31, year I, for a 10-year period (the useful life of the asset) expiring December 30, year 11. Equal annual payments under the lease are $100,000 and are due on December 31 of each year. The first payment was made on December 31, year I, and the second payment was made on the due date. The present value at December 31, year I, of the minimum lease payments over the lease term discounted at 10% (the implicit rate computed by Howe and known by Sand) was $676,000. Bond's incremental borrowing rate was 12% at December 31, year I. The lease is appropriately accounted for as a capital lease by Bond. What should be the balance in Bond's liability under capital lease account at December 31, year 2?

$533,600

50

In lease that is recorded as a sales-type lease by the lessor, interest revenue 

Should be recognized over the period of the lease using the interest method. 

51

On January I, year I, Vick Company as lessee signed a 10-year noncancelable lease for a machine stipulating annual payments of $20,000. The first payment was made on January I, year I. Vick appropriately treated this transaction as a capital lease. The 10 lease payments have a present value of $135,000 at January I, year I, based on implicit interest of 10%. For the year ended December 31, year I, Vick should record interest expense of 

$11,500

52

Green Co. incurred leasehold improvement costs for its leased property. The estimated useful life of the improvements was 15 years. The remaining term of the nonrenewable lease was 20 years. These costs should be 

Capitalized and depreciated over 15 years.

53

On October I, year I, Dean Company leased office space at a monthly rental of $30,000 for 10 years expiring September 30, year Il. As an inducement for Dean to enter into the lease, the lessor permitted Dean to occupy the premises rent-free from October I to December 31, year I. For the year ended December 31, year I, Dean should record rent expense of 

$87,750

54

Able Co. leased equipment to Saker under noncancellable lease with transfer of title. revenue related to the lease? Will Able record depreciation expense on the leased asset and interest revenue related to the lease?

a. Depreciation expense and Interest revenue

b. Depreciation expense

c. Neither

d. Interest revenue

 Interest revenue

55

Barker Company leased new machine from Sell Company on July I, year I, under lease with the following pertinent information: 

 Lease term                           10 years

Annual rental payable at

the beginning of each

lease year                               $30,000

Useful life of the machine       12 years 

Implicit interest rate                 14%

Present value of an annuity

of $1 in advance for 10

periods at 14%                          5.95          

Present value of $1 for 10 

periods at 14%                          0.27

Barker has the option to purchase the machine on July I, year Il, by paying $40,000 which approximates the expected fair value of the machine on the option exercise date. On July I, year I, Barker should record a capitalized leased asset of   

 $178,500 

56

Seth Co. leased equipment to Wolf, Inc. on April I, year I. The lease is appropriately recorded as a direct financing lease by Seth. The lease is for an 8-year period expiring March 31, year 9. The first equal annual payment of $500,000 was made on April I, year I. Seth had purchased the equipment on January I, year I, for $2,800,000. The equipment has an estimated useful life of 8 years with no residual value expected. Seth uses straight-line depreciation and takes a full year's depreciation in the year of purchase. The cash selling price of the equipment is $2,934,000. Assuming an interest rate of 10%, what amount of interest income should Seth record in year I as a result of the lease?

$182,550 

57

Norris Co. leased office premises to Tom, Inc. for a five-year term beginning January 2, year I. Under the terms of the operating lease, rent for the first year is $8,000 and rent for years two through five is $13,000 per annum. Moreover, as an inducement to enter the lease, Norris granted Tom the first six months of the lease rent-free. In its December 31, year I income statement, what amount should Norris report as rental income?

$11,200

58

On December 31, year I, Bain Corp. sold machine to Ryan and simultaneously leased

Sales price                                          $360,000

Carrying amount                                   330,000

Present value of reasonable

rentals ($3,000 for 12 months 12%)          34,100

Estimated remaining useful life           12 years

In Bain's December 31, year I balance sheet, the deferred revenue from the sale of this machine should be

$0

59

Dahlia, Inc. signed a lease to rent equipment on July I, year I. On January I, year 3, Dahlia decides that the equipment is no longer needed, and the company pays a $20,000 penalty to cancel the lease. How should the cancellation be reported on Dahlia's financial statements?

Recognize the cost of termination at the fair value at the date the agreement is terminated. 

60

The profit on the sale should be In a sale-leaseback transaction, the seller-lessee retains the right to substantially all of the remaining use of the equipment sold. deferred and subsequently amortized by the lessee When the lease is classified as a(n)

a. Operating lease

b. Neither

c. Capital lease

d. Operating lease and Capital lease

Operating lease and Capital lease