direct finance lease q

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1. A lessor leases property to a lessee. This contract meets the requirements for being recorded as a capital lease. The lessor is trying to determine whether this lease should be accounted for as a direct financing lease or a sales-type lease. Which of the following statements is not true? A The total amount of profit will be more if it is a sales-type lease than if it is a direct financing lease. B If the lessor is either a manufacturer or a dealer in this particular item, the lease is recorded as a sales-type lease. C In a direct financing lease, all profit is recognized as interest revenue over the life of the lease. D In a sales-type lease, a normal amount of profit is recognized at the time that the contract begins. 2. The Jones Company only buys and then leases assets. It is neither a manufacturer nor a dealer of any items. On January 1, Year One, Jones buys equipment for $34,000 in cash. This asset is immediately leased for 8 years, its entire life. Annual payments are $5,800 to be made each January 1 beginning on January 1, Year One. Assume that the implicit interest rate profit built into the contract by Jones was 10 percent. However, the lessee's incremental borrowing rate was only 8 percent per year. What amount of income should Jones recognize for Year One? A $2,256 B $2,820 C $3,400 D $4,060 3. On December 31, Year One, the Master Company buys a truck for $42,000 and leases it to another company for its entire six year life. This is to be properly reported as a direct financing lease. The implicit rate is 10 percent per year and payments are assumed to be $8,800 each with the first payment made immediately. On the December 31, Year Two, balance sheet, what is reported by Master as the net receivable balance? A $27,720 B $28,600 C $31,400 D $36,520 4. On January 1, Year One, Carter Company buys machinery for $23,000 and leases it to Wilson for the entire five-year life of the asset for annual payments of $5,500 each. The first payment is made immediately. The implicit interest rate built into the contract is 10 percent per

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Page 1: Direct Finance Lease Q

1. A lessor leases property to a lessee. This contract meets the requirements for being recorded as a capital lease. The lessor is trying to determine whether this lease should be accounted for as a direct financing lease or a sales-type lease. Which of the following statements is not true?

A The total amount of profit will be more if it is a sales-type lease than if it is a direct financing lease. B If the lessor is either a manufacturer or a dealer in this particular item, the lease is recorded as a sales-type lease. C In a direct financing lease, all profit is recognized as interest revenue over the life of the lease. D In a sales-type lease, a normal amount of profit is recognized at the time that the contract begins.

2. The Jones Company only buys and then leases assets. It is neither a manufacturer nor a dealer of any items. On January 1, Year One, Jones buys equipment for $34,000 in cash. This asset is immediately leased for 8 years, its entire life. Annual payments are $5,800 to be made each January 1 beginning on January 1, Year One. Assume that the implicit interest rate profit built into the contract by Jones was 10 percent. However, the lessee's incremental borrowing rate was only 8 percent per year. What amount of income should Jones recognize for Year One?

A $2,256 B $2,820 C $3,400 D $4,060

3. On December 31, Year One, the Master Company buys a truck for $42,000 and leases it to another company for its entire six year life. This is to be properly reported as a direct financing lease. The implicit rate is 10 percent per year and payments are assumed to be $8,800 each with the first payment made immediately. On the December 31, Year Two, balance sheet, what is reported by Master as the net receivable balance?

A $27,720 B $28,600 C $31,400 D $36,520

4. On January 1, Year One, Carter Company buys machinery for $23,000 and leases it to Wilson for the entire five-year life of the asset for annual payments of $5,500 each. The first payment is made immediately. The implicit interest rate built into the contract is 10 percent per year. The contract is properly recorded as a direct financing lease. What amount of interest revenue will Carter recognize for Year Two?

A $1,375 B $1,390 C $1,405 D $1,430

5. Danville Corporation buys a truck for $52,000 and leases it to Viceroy for 8 years. At the end of that time, Viceroy can buy the truck for $7,000 in cash. Which of the following is not true?

A If this purchase option is viewed as a bargain, Danville should record the $7,000 as a future cash flow in accounting for the lease even though it is not guaranteed. B Unless the purchase option is viewed as a bargain, Danville cannot account for this lease as a capital lease.

Page 2: Direct Finance Lease Q

C The purchase option cannot be viewed as a bargain unless it is significantly below the expected fair value of the truck on that date. D If this purchase option is viewed as a bargain, Danville �s profit to be recognized in the first year will be increased.

6. The Wake Corporation buys assets based on the requirements of its clients which it then leases to them. It never sells any of these items. The leases are always for the entire life of the asset with title passing automatically to the lessee at that time. Wake always determines its payments to earn an annual interest rate of 10 percent. On January 1, Year One, one of these clients requested a particular type of machine with a ten year life. It was bought for $67,600 by Wake and leased to this client for annual payments of $10,000 each with the first payment made immediately. The second payment will be made on January 1, Year Two. What is the net receivable that Wake will report on its December 31, Year One balance sheet?

A $57,600 B $60,900 C $63,360 D $64,360

7. On January 1, Year One, AnnaLee Company buys a warehouse for $800,000 and is in the process of leasing it to Ziton Company for four out of its five year life. AnnaLee normally has an implicit rate of 10 percent whereas Ziton has an incremental borrowing rate of 8 percent. Assume the payment amounts have been computed appropriately. For these computations assume that the present value of $1 in four years at 8 percent annual interest is .72 and at 10 percent is .66. Assume that the present value of an ordinary annuity of $1 for four years at 8 percent annual interest is 3.27 and at 10 percent is 3.10. Assume that the present value of annuity due of $1 for four years at 8 percent annual interest is 3.55 and at 10 percent is 3.46. Payments are set to be $210,000 per year with the payments to begin immediately. The lessee has an option to buy the asset at the end of the lease for $70,000 which is viewed as a bargain. It is a direct financing lease. What is the total increase in net income that AnnaLee will report in Year One?

A $59,000 B $62,000 C $67,000 D $70,000

8. On January 1, Year One, Company A agrees to lease a truck from Ford for five years, the truck's entire life. This arrangement is viewed as a capital lease. Payments will be exactly $10,000 per year with the first payment made immediately and the second on January 1, Year Two and so on. A reasonable interest rate is 10 percent. The present value of a single amount of $1 in five years at an annual rate of 10 percent is .630. The present value of an annuity due of $1 for five years at an annual rate of 10 percent is 3.81. What liability is reported by Company A on its December 31, Year One balance sheet?

A $28,100 B $30,910 C $31,740 D $40,000