E 15–4 Direct financing

lease; lessor ● LO5 E 15–5 Sales-type lease; lessor ● LO6 E 15–6 Lease classification ● LO3 E 15–7 Capital lease ● LO5 E 15–8 Capital lease; lessee; balance sheet and income statement effects

Required:

1. Determine the present value of the lease payments at June 30, 2011 (to the nearest $000) that Georgia- Atlantic uses to record the leased asset and lease liability.

2. What pretax amounts related to the lease would Georgia-Atlantic report in its balance sheet at December 31, 2011?

3. What pretax amounts related to the lease would Georgia-Atlantic report in its income statement for the year ended December 31, 2011?

On June 30, 2011, Georgia-Atlantic, Inc., leased a warehouse facility from IC Leasing Corporation. The lease agreement calls for Georgia-Atlantic to make semiannual lease payments of $562,907 over a three-year lease term, payable each June 30 and December 31, with the first payment at June 30, 2011. Georgia-Atlantic’s incremental borrowing rate is 10%, the same rate IC used to calculate lease payment amounts. IC purchased the warehouse from Builders, Inc. at a cost of $3 million.

Required:

1. What pretax amounts related to the lease would IC report in its balance sheet at December 31, 2011? 2. What pretax amounts related to the lease would IC report in its income statement for the year ended

December 31, 2011?

On June 30, 2011, Georgia-Atlantic, Inc., leased a warehouse facility from Builders, Inc. The lease agreement calls for Georgia-Atlantic to make semiannual lease payments of $562,907 over a three-year lease term, payable each June 30 and December 31, with the first payment at June 30, 2011. Georgia-Atlantic’s incremental borrowing rate is 10%, the same rate Builders used to calculate lease payment amounts. Builders constructed the warehouse at a cost of $2.5 million.

Required:

1. Determine the price at which Builders is “selling” the warehouse (present value of the lease payments) at June 30, 2011 (to the nearest $000).

2. What pretax amounts related to the lease would Builders report in its balance sheet at December 31, 2011? 3. What pretax amounts related to the lease would Builders report in its income statement for the year ended

December 31, 2011?

Airway Leasing entered into an agreement to lease aircraft to Ouachita Airlines. Consider each of the following, a–e, to be independent scenarios.

a. The agreement calls for ownership of the aircraft to be transferred to Ouachita Airlines at the end of the lease term.

b. The fair value of the aircraft is expected to be $500,000 at the end of the lease term. Ouachita has the option to purchase the aircraft at the end of the lease term for $90,000.

c. The aircraft has a useful life of 20 years, and the term of the lease is 14 years.

d. The present value of the lease payments is $8,900,000 and the fair value of the leased aircraft is $10,000,000. e. The aircraft was manufactured to meet specifications provided by Ouachita to optimize the exclusively

regional nature of its flights.

Required:

1. In each scenario, indicate whether Ouachita would classify the lease as an operating lease or capital lease under U.S. GAAP. Assume the lease agreement has not met any of the other criteria of a capital lease. Provide brief explanations.

2. In each scenario, indicate whether Ouachita would classify the lease as an operating lease or finance lease under IAS 17. Assume the lease agreement has not met any of the other indicators of a finance lease. Provide brief explanations.

Each of the three independent situations below describes a capital lease in which annual lease payments are payable at the beginning of each year. The lessee is aware of the lessor’s implicit rate of return.

Situation

1 2 3

Lease term (years) 10 20 4

Lessor’s rate of return (known by lessee) 11% 9% 12%

Lessee’s incremental borrowing rate 12% 10% 11%

Fair value of leased asset $600,000 $980,000 $185,000

E 15–9

Direct financing lease; lessor; balance sheet and income statement effects ● LO5 E 15–10 Sales-type lease; lessor; balance sheet and income statement effects ● LO6 E 15–11 IFRS; lease classification ● LO3 LO11 E 15–12 Lessor calculation of annual lease payments; lessee calculation of asset and liability ● LO5

Required:

For each situation, determine:

a. The amount of the annual lease payments as calculated by the lessor. b. The amount the lessee would record as a leased asset and a lease liability.

(Note: This is a variation of the previous exercise modified to assume lease payments are at the end of each period.)

Each of the three independent situations below describes a capital lease in which annual lease payments are pay- able at the end of each year. The lessee is aware of the lessor’s implicit rate of return.

Situation

1 2 3

Lease term (years) 10 20 4

Lessor’s rate of return 11% 9% 12%

Lessee’s incremental borrowing rate 12% 10% 11%

Fair value of leased asset $600,000 $980,000 $185,000

Required:

For each situation, determine:

a. The amount of the annual lease payments as calculated by the lessor. b. The amount the lessee would record as a leased asset and a lease liability.

Each of the four independent situations below describes a capital lease in which annual lease payments are payable at the beginning of each year. Determine the annual lease payments for each:

Situation

1 2 3 4

Lease term (years) 4 7 5 8

Lessor’s rate of return 10% 11% 9% 12%

Fair value of leased asset $50,000 $350,000 $75,000 $465,000

Lessor’s cost of leased asset $50,000 $350,000 $45,000 $465,000

Residual value:

Guaranteed by lessee 0 $ 50,000 0 $ 30,000

Unguaranteed 0 0 $ 7,000 $ 15,000

Each of the four independent situations below describes a direct financing lease in which annual lease payments of $100,000 are payable at the beginning of each year. Each is a capital lease for the lessee. Determine the following amounts at the inception of the lease:

A. The lessor’s:

1. Minimum lease payments 2. Gross investment in the lease 3. Net investment in the lease B. The lessee’s:

4. Minimum lease payments 5. Leased asset

6. Lease liability

Situation

1 2 3 4

Lease term (years) 7 7 8 8

Lessor’s and lessee’s discount rate 9% 11% 10% 12%

Residual value:

Guaranteed by lessee 0 $50,000 0 $40,000

Unguaranteed 0 0 $50,000 $60,000

For each of the three independent situations below determine the amount of the annual lease payments. Each describes a capital lease in which annual lease payments are payable at the beginning of each year. Each lease agreement contains an option that permits the lessee to acquire the leased asset at an option price that is sufficiently lower than the expected fair value that the exercise of the option appears reasonably certain.

E 15–13