On January 1, 20X1, Merchant Co. sold a tractor to Swanson Inc. and simultaneously leased it back for five years. The tractor’s fair value is $300,000, but its carrying value on Merchant’s books prior to the transaction was $200,000. The tractor has a seven-year remaining estimated useful life, and Merchant and Swanson both used 8% interest in evaluating the transaction. Merchant has agreed to make five payments of $57,976 beginning January 1, 20X1.

Required:

1. What type of a lease is this for Merchant and why?

2. Compute the amount of Merchant’s gain on the transaction.

3. Prepare the January 1, 20X1, entries on Merchant’s books to account for the sale and leaseback.

4. Explain how your answers would change if the tractor were so specialized that Swanson  has no alternative use for the asset at the end of the lease.