On 10 December 20X0, Noel Inc. entered into a six-year equipment lease with Williams Ltd. The terms
Question:
On 10 December 20X0, Noel Inc. entered into a six-year equipment lease with Williams Ltd. The terms of the lease are as follows:
• The lease term will begin on 1 January 20X1.
• The fair value of the equipment at the inception of the lease is $120,000. The equipment’s expected useful life is six or seven years.
• Noel Inc.’s incremental borrowing rate is 11%.
• Lease payments are $25,000 per year, payable at the end of each lease year. That is, the first payment will be due by 31 December 20X1.
• Because of Noel Inc.’s shaky financial condition, Williams Ltd. determined the lease payments based on a 12% return, which is higher than Williams Ltd.’s normal return, Noel Inc. is aware of Williams Ltd.’s rate.
• Both Noel and Williams apply ASPE accounting standards.
Required:
1. Should Noel account for this lease as a capital lease or an operating lease? Explain fully and evaluate all guidelines.
2. How should Williams report this lease? Explain fully.
3. What anomaly arises under ASPE when the lessor is bearing a higher-than-normal risk of default by the lessee?
Step by Step Answer:
Intermediate Accounting Volume 2
ISBN: 9781260881240
8th Edition
Authors: Thomas H. Beechy, Joan E. Conrod, Elizabeth Farrell, Ingrid McLeod-Dick, Kayla Tomulka, Romi-Lee Sevel