On January 1, 2020, Ursula Limited agreed to a non-cancellable lease for a submarine, which the following information is available:

The asset is new at the inception of the lease term with a 16 year expected life and is worth $219,000.

Initial lease term is five years at $40,000 per year (includes $8,000 for insurance and maintenance), starting and paid on 1 January 2020.

At the end of the initial lease term, the lease is renewable at Ursula’s option for $20,000 per year (includes $5,000 for insurance and maintenance) for a further 8 years.

Any residual value is not guaranteed by Ursula Limited and the asset reverts back to the lessor at the end of any lease term.

The straight-line depreciation method is used for the leased asset.

Ursula Limited’s incremental borrowing rate is 8%.  The rate implicit in the lease is unknown.   

Ursula can rent a submarine that is 8 years old today for approximately $ 35,000 per year.

Ursula Limited has a 31 December fiscal year-end.

Required:

Is this an operating lease or a financing lease?  Explain.

Prepare an amortization schedule for the first two years.

Prepare all necessary entries for 2020.