On 1 July 2010, Otago Ltd leased a plastic-moulding machine from  Nelson Ltd. The machine cost Nelson $130,000 to manufacture and had a  fair value of $154,109 on 1 July 2010. The lease agreement contained the  following provisions:

Lease   term	4 years
Annual   rental payment, in advance on 1 July each year	$41,500
Residual   value at the end of the lease term	$15,000
Residual   guaranteed by the lessee	Nil
Interest   rate implicit in the lease	8%
The   lease is cancellable only with the permission of the lessor.

The expected useful life of the machine is 6 years. Otago Ltd intends  to return the machine to the lessor at the end of the lease  term. Included in the annual rental payment is an amount of $1,500 to  cover the costs of maintenance and insurance paid for by the lessor. The  machinery is to be depreciated using the straight-line method.

Required:

a)         Classify the lease as a finance lease or operating lease, and justify your answer.

b)         Prepare the lease schedule for the lessee. Round all figures to the nearest dollar.

c)         Prepare the lease schedule for the lessor. Round all figures to the nearest dollar.

d)         Prepare all relevant journal entries for the Otago Ltd and Nelson Ltd for the year ended 30 June 2011.