Glaus Leasing Company agrees to lease machinery to Jensen Corporation on January 1, 20x0. The following information relates to the lease agreement.

1. As an incentive to sign the lease, Glaus paid Jensen $5,000 on the commencement date.
2. The term of the lease is 7 years with no renewal options, and the machinery has an estimated economic life of 9 years.
3. The carrying cost of the machinery in Glauss inventory is $525,000, and its selling price on January 1, 20x0, is $700,000.
4. At the end of the lease term the asset reverts to the lessor. The estimated residual value at that time is $100,000, but this is not guaranteed.
5. The lease agreement requires equal annual rental payments, beginning on January 1, 20x0.
6. Glaus desires a 10% rate of return on its investments. Jensens incremental borrowing rate is 11%, and the lessors implicit rate is unknown.

Instructions (Assume the accounting period ends on December 31.)

1. Discuss the nature of this lease for both the lessee and the lessor.
2. Calculate the amount of the annual rental payment required by Glaus.
3. Prepare the journal entries Jensen would make in 20x0 and 20x1 related to the lease arrangement.
4. Prepare the journal entries Glaus would make in 20x0 and 20x1.
5. Suppose the residual value was guaranteed rather than unguaranteed. How would this affect Glauss journal entry on January 1, 20x0?