On January 1, 2020, a machine was purchased for $900,000 by Young Co. The machine is expected to have an 8-year life with no residual value. It is to be depreciated on a straight-line basis. The machine was leased to St. Ledger Inc. for 3 years on January 1, 2020, with annual rent payments of $150,955 due each December 31, though St. Ledger was required to prepay the last year’s rent on the commencement date. The machine is expected to have a residual value at the end of the lease term of $562,500, though this amount is unguaranteed.

Instructions

a. Record the journal entries St. Ledger would record for 2020 on this lease, assuming its incremental borrowing rate is 6% and the implicit rate is unknown.

b. Suppose the lease was only for one year (only one payment of the same amount at the commencement of the lease), with a renewal option at market rates at the end of the lease, and St. Ledger elects to use the short-term lease exception. Record the journal entries St. Ledger would record for 2020 on this lease.

c. How much should Young report as income before income tax on this operating lease for 2020?