On January 1, 2014, Bare Trees Company signed a three-year noncancelable lease with Dreams Inc. The lease calls for three payments of $62,258.09 to be made at each year-end. The lease payments include $3,000 of executory costs. The lease is nonrenewable and has no bargain purchase option. Ownership of the leased asset reverts to Dreams at the end of the lease period, at which time Bare Trees has guaranteed that the leased asset will be worth at least $15,000. The leased asset has an expected useful life of four years, and Bare Trees uses straight-line depreciation for financial reporting purposes. Bare Trees’ incremental borrowing rate is 9%, which is less than Dreams’ implicit rate of return on the lease.
1. Prepare an amortization schedule for the lease liability. Round the amount of the initial lease liability at January 1, 2014, to the nearest dollar. Round all amounts in the amortization table to the nearest cent.
2. Make the journal entry to record
(a) the lease on January 1, 2014;
(b) the lease payments on December 31, 2014 and 2015; and
(c) the leased asset’s depreciation in 2014 and 2015.
3. Assume that at the end of the lease term, the leased asset will be worth $16,000. Make the journal entry to account for the residual value guarantee.
4. Repeat requirement 3, but assume that the leased asset will be worth only $12,000 at the end of the lease term.