On December 31, 2010, Shellhammer Co. sold 6-month-old equipment at fair value and leased it back. There was a loss on the sale. Shellhammer pays all insurance, maintenance, and taxes on the equipment. The lease provides for 8 equal annual payments, beginning December 31, 2011, with a present value equal to 80% of the equipment’s fair value and sales price. The lease’s term is 85% of the equipment’s useful life. There is no provision for Shellhammer to reacquire ownership of the equipment at the end of the lease term.

Instructions
(a) (1) Why is it important to compare an equipment’s fair value to its lease payments’ present value and its useful life to the lease term?
(2) Evaluate Shellhammer’s leaseback of the equipment in terms of each of the four criteria for determination of a finance lease.
(b) How should Shellhammer account for the sale portion of the sale-leaseback transaction at December 31, 2010?
(c) How should Shellhammer report the leaseback portion of the sale-leaseback transaction on its December 31, 2011, statement of financial position?