Lease Accounting

Glaus Leasing Company (lessor) agrees to lease equipment to Jensen Corporation (lessee) on

January 1, 2020. The following information relates to the lease agreement.

The term of the lease is 7 years with no renewal option, and the machinery has an estimated economic life of 9 years. The machinery is not of a specialized nature.

• The cost of the machinery to Glaus is $525,000, and the fair value of the asset on January 1, 2020, is $700,000. At the end of the lease term, the asset reverts to the lessor and has a guaranteed residual value of $50,000. Jensen estimates that the expected residual value at the end of the lease term will be $50,000. Jensen amortizes all of its leased equipment on a straight-line basis.
• The lease agreement requires equal annual rental payments of $109,365, beginning on January 1, 2020.
• The collectability of the lease payments is probable.
• Glaus desires a 5% rate of return on its investments. Jensen's incremental borrowing rate is 6%, and assume that the lessor's implicit rate is unknown to the lessee.
• A. Lease Accounting for Lessee

Required: (Assume the accounting period ends on December 31.)

1. Apply all five classification tests and discuss the nature of this lease for Jensen Corporation (lessee.
2. Compute the value of the lease liability to the lessee.
3. Prepare the lease amortization schedule for the lessee.
4. Prepare journal entries Jensen would make on January 1, 2020.
5. Calculate the amortization expense and the interest expense and prepare the journal entries on December 31, 2020, January 1, 2021, and December 31, 2021 related to the lease arrangement.

. Suppose Jensen expects the residual value at the end of the lease term to be $40,000 but still guarantees a residual of $50,000. Compute the value of the lease liability at lease commencement.

B. Lease Accounting for Lessor

Required: (Assume the accounting period ends on December 31.)

1. Apply all five classification tests and discuss the nature of this lease for Glaus (lessor).
2. Compute the value of the lease receivable to the lessor.
3. Prepare the lease amortization schedule for the lessor.
4. Prepare journal entries Glaus would make on January 1, 2020.
5. Calculate the interest revenue and prepare the journal entries on December 31, 2020, January 1, 2021, and December 31, 2021 related to the lease arrangement.