[5 POINTS TOTAL] Emma Leasing Company agrees to lease equipment to Clea corporation on January 1, 2017.
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[5 POINTS TOTAL] Emma Leasing Company agrees to lease equipment to Clea corporation on January 1, 2017. The following information relates to the lease agreement.
- The term of the lease is 12 years with no renewal option, and the machinery has an estimated economic life of 16 years.
- The cost of the machinery is $330,000, and the fair value of the asset on January 1, 2017, is $475,000.
- At the end of the lease term, the asset reverts to the lessor and has a guaranteed residual value of $40,000. Clea estimates that the expected residual value at the end of the lease term will be $40,000. Clea amortizes all its leased equipment on a straight-line basis.
- The lease agreement requires equal annual rental payments, beginning on January 1, 2017.
- The collectability of the lease payments is probable.
- Emma desires a 4% rate of return on its investments. Cleas incremental borrowing rate is 5%, and the lessors implicit rate is known to Clea.
- Both lessor and lessee have December 31 fiscal year ends.
ANSWER THE FOLLOWING
- What type of lease is this to the lessee and lessor. Explain why.
- Calculate the amount of the annual rental payment. Ignore minor rounding.
- Prepare the journal entries Clea would make in 2017 and 2018 related to the lease arrangement.
- Prepare the journal entries Emma would make in 2017 and 2018 related to the lease arrangement.
- At the end of the lease term, when Clea is returning the asset to Emma, Clea and Emma learn that asset is only worth $30,000 (Clea guaranteed $40,000). What entry would Emma make upon the return of the asset?
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