P Company enters into a lease agreement with L Co$.$ on Jan $1,1998,$ to lease a machine to be used

in its manufacturing operations. The following data pertain to this agreement.

a$.$ The term of the noncancelable lease is $5$ years, with no residual value at the end of the lease term.

Payments of $$18,142\mathrm{.}95$ are due on Jan. $1$ of each year. The first payment in advance is paid on

Jan. $1,1998.$

b$.$ The fair value of the machine on Jan $1,1996$ is $$80,000.$ The machine has an economic life of $5$ years,

with salvage value of $$7,000$ none of which is guaranteed. The machine reverts to the lessor upon the

termination of the lease.

c$.$ P pays executory costs of $$900$ to Rock Insurance Co$.$ and $$1,600$ to County for property taxes.

d$.$ P$\text{'}$s incremental borrowing rate is $12\%$ and the lessor's is $10\%$ and is known to lessee.

Is this a capital lease or operating lease. Why?

Instructions: Prepare journal entries on the books of the lessee through the first two years of lease.

The accounting period of $P$ and $L$ Company ends on December $31.$