
1)
Sales-type lease
Finance lease is a parallel type of direct financing whereby the owner (lessor) purchases the equipment to lease it and received the interest revenue over the period of lease for equipment, apart from the recognition of profit from sale of equipment.
Purchase option reasonably certain to be exercised before lease term
If the purchase option is reasonably certain to be exercised before lease term, the lease term ends for accounting purpose. The lease payments includes only periodic cash payments stated in the lease agreement that occur preceding to the date a BPO becomes exercisable.
To Calculate: the amount of selling profit that MS Company would recognize in this sales type lease.
1)

Explanation of Solution
Amount ($) | |
Present value of quarterly lease payments (1) | 21,691 |
Add: Present value of BPO price (2) | 4,736 |
Present value of lease payments | 26,427 |
Table (1)
Working note:
Use the present value factor 7.23028 (Present value annuity factor of $1 for 8 years
Calculate the present value of quarterly lease payments:
Calculate the present value of Bargain Purchase Option (BPO) price:
The exercise of the option present at the beginning of the lease seems to be reasonably certain, payment of option price of $6,000 is expected to occur when the option becomes exercisable at the end of 8th quarter.
Correspondingly, the lease agreement specifies that the bargain purchase option becomes exercisable before the specified lease term ends. Since bargain purchase option is expected to be exercised, the lease term ends for the accounting purpose when the option becomes exercisable.
(2)
To Prepare: the appropriate entries for AG Company (Lessee) and MS Company (Lessor) on September 30, 2016.
(2)

Explanation of Solution
Prepare
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
September 30 | Right-of-use asset Table (1) | 26,427 | ||
Lease Payable | 26,427 | |||
(To record the lease payable) | ||||
September 30 | Lease payable | 3,000 | ||
Cash | 3,000 | |||
(To record the quarterly lease payments) |
Table (2)
Prepare journal entries for MS Company (Lessor)
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
September 30 | Lease Receivable | 26,427 | ||
Cost of goods sold | 25,000 | |||
Sales revenue | 26,427 | |||
Equipment | 25,000 | |||
(To record the lease receivable) | ||||
September 30 | Cash | 3,000 | ||
Lease receivable | 3,000 | |||
(To record the quarterly lease payments received) |
Table (3)
(3)
To Prepare: amortization schedule for AG Company (Lessee) and MS Company (Lessor)
(3)

Explanation of Solution
Here the lessee and lessor both use same discount rate, therefore the amortization schedule is same for both persons.
Prepare amortization schedule as follows:
Lease Amortization Schedule | ||||
A | B | C | D | E |
Date | Lease Payment ($) | Effective Interest (3% × Outstanding balance) ($) |
Payment Reduction ($) (B –C) |
Outstanding Balance ($) (E –D) |
9/30/2016 | 26,427 | |||
9/30/2016 | 3,000 | 3,000 | 23,427 | |
12/31/2016 | 3,000 | 703 | 2,297 | 21,130 |
3/31/2017 | 3,000 | 634 | 2,366 | 18,764 |
6/30/2017 | 3,000 | 563 | 2,437 | 16,327 |
9/30/2017 | 3,000 | 490 | 2,510 | 13,816 |
12/31/2017 | 3,000 | 414 | 2,586 | 11,231 |
3/31/2018 | 3,000 | 337 | 2,663 | 8,568 |
6/30/2018 | 3,000 | 257 | 2,743 | 5,825 |
9/29/2018 | 6,000 | 175 | 5,825 | 0 |
30,000 | 3,573 | 26,427 |
Table (4)
The amortization table is prepared to present the pattern of interest expenses throughout the period. The schedule shows the lease balance and effective interest change over the 8-quarterly term period of lease using effective interest rate of 3%. Each lease payment after the first payment includes both the interest and amount that represents the reduction of outstanding balance. At the end of the lease period, the outstanding balance becomes zero.
(4)
To Prepare: appropriate entries for AG Company (Lessee) and MS Company (Lessor) as on December 31, 2016.
(4)

Explanation of Solution
Prepare journal entries for AG Company (Lessee)
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
December 31 | Amortization expense (3) | 1,652 | ||
Right-of-use asset | 1,652 | |||
(To record amortization expense.) | ||||
December 31 | Interest expense | 703 | ||
Lease payable | 2,297 | |||
Cash | 3,000 | |||
(To record the quarterly lease payments and interest expense) |
Table (5)
Working note:
Calculate the amortization expense for the asset
Prepare journal entries for MS Company (Lessor)
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
December 31 | Cash | 3,000 | ||
Lease receivable | 2,297 | |||
Interest revenue | 703 | |||
(To record interest revenue.) |
Table (6)
(5)
To Prepare: the appropriate entries for AG Company (Lessee) and MS Company (Lessor) as on September 29, 2018 (Assuming purchase option was exercise on that date)
(5)

Explanation of Solution
Prepare journal entries for AG Company (Lessee)
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
December 31 | Amortization expense (4) | 4,955 | ||
Right-of-use asset | 4,955 | |||
(To record amortization expense.) | ||||
December 31 | Interest expense | 174 | ||
Lease payable | 5,826 | |||
Cash | 6,000 | |||
(To record the quarterly lease payments and interest expense) |
Table (7)
Working note:
Calculate the amortization expense for the asset
Prepare journal entries for MS Company (Lessor)
Date | Account Title and Explanation | Post Ref | Debit ($) | Credit ($) |
2016 | ||||
December 31 | Cash | 6,000 | ||
Lease receivable | 5,826 | |||
Interest revenue | 174 | |||
(To record interest revenue.) |
Table (8)
Want to see more full solutions like this?
Chapter 15 Solutions
INTERMEDIATE ACCOUNTING
- Please help me solve this general accounting question using the right accounting principles.arrow_forwardPlease explain the solution to this general accounting problem with accurate explanations.arrow_forwardI need help with this financial accounting problem using accurate calculation methods.arrow_forward
- Grouper Corporation purchased machinery on January 1, 2025, at a cost of $264,000. The estimated useful life of the machinery is 4 years, with an estimated salvage value at the end of that period of $31,400. The company is considering different depreciation methods that could be used for financial reporting purposes. (a) Prepare separate depreciation schedules for the machinery using the straight-line method, and the declining-balance method using double the straight-line rate.arrow_forwardYour company reported the following financial data for the year: • Net sales: $1,200,000 • Average total assets: $800,000 • Operating income: $90,000 • Required rate of return: 10% What is the asset turnover for the year? a) 1.25 times b) 1.50 times c) 1.80 times d) 2.00 timesarrow_forwardPlease explain the solution to this general accounting problem with accurate principles.arrow_forward
- Can you provide the valid approach to solving this financial accounting question with suitable standards?arrow_forwardCan you solve this general accounting question with the appropriate accounting analysis techniques?arrow_forwardI need guidance with this general accounting problem using the right accounting principles.arrow_forward
- I am searching for the accurate solution to this general accounting problem with the right approach.arrow_forwardI am looking for the correct answer to this general accounting problem using valid accounting standards.arrow_forwardI am looking for the correct answer to this general accounting question with appropriate explanations.arrow_forward
- AccountingAccountingISBN:9781337272094Author:WARREN, Carl S., Reeve, James M., Duchac, Jonathan E.Publisher:Cengage Learning,Accounting Information SystemsAccountingISBN:9781337619202Author:Hall, James A.Publisher:Cengage Learning,
- Horngren's Cost Accounting: A Managerial Emphasis...AccountingISBN:9780134475585Author:Srikant M. Datar, Madhav V. RajanPublisher:PEARSONIntermediate AccountingAccountingISBN:9781259722660Author:J. David Spiceland, Mark W. Nelson, Wayne M ThomasPublisher:McGraw-Hill EducationFinancial and Managerial AccountingAccountingISBN:9781259726705Author:John J Wild, Ken W. Shaw, Barbara Chiappetta Fundamental Accounting PrinciplesPublisher:McGraw-Hill Education





