Louise Corporation entered into a leasing arrangement with Wilder Leasing Corporation for a certain machine. Wilder’s primary business is leasing; it is not a manufacturer or dealer. Louise will lease the machine for a period of three years, which is 50% of the machine’s economic life. Wilder will take possession of the machine at the end of the initial 3-year lease. Louise does not guarantee any residual value for the machine.
Louise’s incremental borrowing rate is 10%, and the implicit rate in the lease is 81/2%. Louise has no way of knowing the implicit rate used by Wilder. Using either rate, the present value of the minimum lease payments is between 90% and 100% of the fair value of the machine at the date of the lease agreement.
Louise has agreed to pay all executory costs directly, and no allowance for these costs is included in the lease payments.
Wilder is reasonably certain that Louise will pay all lease payments, and because Louise has agreed to pay all executory costs, there are no important uncertainties regarding costs to be incurred by Wilder.
1. With respect to Louise (the lessee), answer the following:
(a) What type of lease has been entered into? Explain the reason for your answer.
(b) How should Louise compute the appropriate amount to be recorded for the lease or asset acquired?
(c) What accounts will be created or affected by this transaction, and how will the lease or asset and other costs related to the transaction be matched with earnings?
(d) What disclosures must Louise make regarding this lease or asset?
2. With respect to Wilder (the lessor), answer the following:
(a) What type of leasing arrangement has been entered into? Explain the reason for your answer.
(b) How should this lease be recorded by Wilder, and how are the appropriate amounts determined?
(c) How should Wilder determine the appropriate amount of earnings to be recognized from each lease payment?
(d) What disclosures must Wilder make regarding this lease?