On 1/1/2005, JK Inc. (lessee) and EQ, Inc. entered into a non-cancellable lease that does not transfer title and does not contain a purchase option. The lease term is 3 years. The annual rental payments are $36,500, due at the beginning of each of the three years (each January 1). Estimated residual value is 4,300. The asset will be returned to the lessor on 12/31/2007.

 Additional information: 

Fair value of the leased property on 1/1/05: $115,000 

Estimated economic life of the property as of 1/1/05: 5 years 

Cost of the equipment for the lessor: 93,500 

Lessee’s incremental borrowing rate equals or exceeds the lessor’s implicit rate and implicit rate in the lease is 8%.

Requirement : 

Record the JE separately for the lessee and lessor on 1/1/05 and 12/31/05 under the following alternative situations:

a) If the lessee guarantees the $4,300 residual value.

b) If the lessee does NOT guarantee the $4,300 residual value.