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Leases with answers Practice exercises for students to
efficiently motivated
Financial Accounting and Reporting (Ateneo de Naga University)
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PRACTICAL ACCOUNTING 1 – REVIEW
LEASES 2019
PROF. U.C. VALLADOLID
Multiple Choice
Identify the letter of the choice that best completes the statement or answers the question.
1. Rapp Co. leased a new machine to Lake Co. on January 1, year 1. The lease is an operating
lease and expires on January 1, year 6. The annual rental is 90,000. Additionally, on January 1,
year 1, Lake paid 50,000 to Rapp as a lease bonus and 25,000 as a security deposit to be
refunded upon expiration of the lease. In Rapp’s year 1 income statement, the amount of rental
revenue should be
a. 140,000
b. 125,000
c. 100,000
d. 90,000
2. Wall Co. leased office premises to Fox, Inc. for a five-year term beginning January 2, year 1.
Under the terms of the operating lease, rent for the first year is 8,000 and rent for years two
through five is 12,500 per annum. However, as an inducement to enter the lease, Wall granted
Fox the first six months of the lease rent-free. In its December 31, year 1 income statement,
what amount should Wall report as rental income?
a. 12,000
b. 11,600
c. 10,800
d. 8,000
3. On January 1, year 1, Wren Co. leased a building to Brill under an operating lease for ten years
at 50,000 per year, payable the first day of each lease year. Wren paid 15,000 to a real estate
broker as a finder’s fee. The building is depreciated 12,000 per year. For year 1, Wren incurred
insurance and property tax expense totaling 9,000. Wren’s net rental income for year 1 should
be
a. 27,500
b. 29,000
c. 35,000
d. 36,500
4. Ozz Company, a lessor, leased an equipment under an operating lease. The lease term is 5
years and the lease payments are made in advance on January 1 of each year as shown in the
following schedule:
4
January 1, 2017
1,000,000
January 1, 2018
1,000,000
January 1, 2019
1,400,000
January 1, 2020
1,700,000
January 1, 2021
1,900,000
Total rentals
7,000,000
1. What is the rent income for 2017?
a. 1,000,000
b. 1,400,000
c. 2,000,000
d. 1,500,000
2. On December 31, 2018, what amount should be recognized as accrued rent receivable?
a. 700,0000
b.800,000
c.400,000
d. 0
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5. On January 1, 2019, an entity leased a building from a lessor with the following pertinent
information.
Annual rental payable at the end of each year
1,000,000
Initial direct cost paid
400,000
Lease incentive received
100,000
Leasehold improvement
200,000
Purchase option that is reasonably certain to be exercised
500,000
Lease term
5 years
Useful life of building
8 years
Implicit interest rate
10%
PV of an ordinary annuity of 1 for 5 periods at 10%
3.79
Present value of 1 for 5 periods at 10%
0.62
1. What is the cost of the right of use asset?
a. 4,500,000
b. 4,400,000
c. 4,700,000
d. 4,600,000
2. What is the lease liability on December 31, 2019?
a. 3,510,000
b. 3,169,000
c. 3,950,000
d. 3,719,000
6. At the beginning of the current year, Joshtin Company leased a machinery with the following
information:
Annual rental payable at the end of each year
Residual value guarantee
Payment to lessor to obtain a long-term lease
Cost of dismantling and restoring the asset as required
by contract at present value
Annual executory cost paid by lessee
Lease term
Useful life of machinery
Implicit interest rate
Present value of an ordinary annuity of 1 at 10% for 4 periods
Present value of 1 at 10% for 4 periods
1. What is the initial lease liability?
a. 3,510,000
b. 3,170,000
c. 4,010,000
d. 4,000,000
2. What is the cost of right use asset?
a. 4,200,000
b. 4,250,000
c. 3,810,000
d. 3,900,000
3. What is the depreciation for current year?
a. 462,500
b. 925,000
c. 850,000
d. 965,000
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1,000,000
500,000
300,000
390,000
50,000
4 years
8 years
10%
3.17
0.68
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4. What is the lease liability at year-end?
a. 2,510,000
b. 3,159,000
c. 2,861,000
d. 3,620,000
7. Jerome Company entered into a ten-year non-cancelable lease requiring year-end payments of
P 1,200,000 on January 01, 2018. The incremental borrowing rate is 15%, while the lessor’s
implicit interest rate is 10%. Present value factors for an ordinary annuity for ten periods are
6.145 at 10% and 5.019 at 15%. An initial direct cost of P 150,000 in negotiating and securing
the leasing arrangement was paid on the same day. Ownership of the property remains with the
lessor at expiration of the lease. There is no purchase option. The leased property has an
estimated economic life of 12 years.
1. What amount should be financed initially as cost of the right of use asset?
a. 7,245,000
b. 7,524,000
c. 7,750,000
d. 6,850,000
2.
What amount should be recognized initially as lease liability?
a. 7,245,000
b. 6,145,000
c. 7,345,000
d. 7,374,000
3.
What is annual depreciation of the right of use asset?
a. 834,500
b. 614,100
c. 752,400
d. 734,500
8. An entity recorded the cost right of use asset at P4,500,000. The underlying asset had a useful
life of 8 years and the lease term is 5 years. The asset is expected to have a fair value of
P1,500,000 at the end of 5 years and a fair value of P500,000 at the end of 8 years.
The lease agreement provided for the transfer of title of the underlying asset to the lessee at the
end of the lease term.
What amount of depreciation expense should be recorded for the first year of the lease?
a. 900,000
b. 800,000
c. 600,000
d. 500,000
9. On January 1, 2022, Kaila Company and the lessor agreed to amend the original terms of the
lease by reducing the lease payment to 50,000 and increasing the implicit rate to 9%.
The lease liability has a carrying amount of 200,000 on January 1, 2022.
The present value of an ordinary annuity of 1 at 9% for 3 periods is 2.5313.
What is the decrease or increase in lease liability for 2022?
a. 73,435 increase
b. 73,435 decrease
c. 50,000 increase
d. 50,000 decrease
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10. On January 1, year 1, Babson, Inc. leased two automobiles for executive use. The lease
requires Babson to make five annual payments of 13,000 beginning January 1, year 1. At the
end of the lease term, December 31, year 5, Babson guarantees the residual value of the
automobiles will total 10,000. The lease qualifies as a finance lease. The interest rate implicit in
the lease is 9%. Present value factors for the 9% rate implicit in the lease are as follows:
For an annuity due with five payments
For an ordinary annuity with five payments
Present value of 1 for five periods
4.240
3.890
0.650
Babson’s recorded finance lease liability immediately after the first required payment should be
a. 48,620
b. 44,070
c. 35,620
d. 31,070
11. On December 30, year 1, Rafferty Corp. leased equipment under a finance lease. Annual lease
payments of 20,000 are due December 31 for ten years. The equipment’s useful life is ten
years, and the interest rate implicit in the lease is 10%. The finance lease obligation was
recorded on December 30, year 1, at 135,000, and the first lease payment was made on that
date. What amount should Rafferty include in current liabilities for this finance lease in its
December 31, year 1 balance sheet?
a. 6,500
b. 8,500
c. 11,500
d. 20,000
12. On January 2, year 1, Nori Mining Co. (lessee) entered into a five-year lease for drilling
equipment. Nori accounted for the acquisition as a finance lease for 240,000, which includes a
10,000 bargain purchase option. At the end of the lease, Nori expects to exercise the bargain
purchase option. Nori estimates that the equipment’s fair value will be 20,000 at the end of its
eight-year life. Nori regularly uses straight-line depreciation on similar equipment. For the year
ended December 31, year 1, what amount should Nori recognize as depreciation expense on
the leased asset?
a. 48,000
b. 46,000
c. 30,000
d. 27,500
13. On January 1, 2019, Mess Company entered to a ten-year non-cancelable lease agreement to
lease a building from Keep Company. The agreement required equal annual payments at the
end of each year. The fair value of the building at the beginning of the lease is P3,949,500,
while the carrying amount to Keep Company is P3,458,000. The building has estimated useful
life of 10 years. The title of the building will be transferred to Mess at the end of the lease. The
incremental borrowing rate of Mess Company is 12%. Keep Company set the annual rental to
insure 10% rate of return. The implicit rate of the lessor is known by the lessee. The annual
lease payment includes P35,000 executory costs.
1. What is the minimum annual lease payment?
a. 642,718
b. 500,000
c. 562,734
d. 480,000
2. What is the total annual lease payment?
a. 515,000
b. 535,000
c. 597,734
d. 677,718
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14. Angel Company entered into a finance lease on January 1, 2018. The lessee guaranteed the
residual value of the asset under the lease estimated to be P1,200,000 on January 1, 2021, the
end of the lease term.
Annual lease payments are P1,000,000 due each December 31, beginning December 31,
2018.The last payment is due December 31, 2022.
The remaining useful life of the asset was six years at the commencement of the lease.
Both the lessor and the lessee used 10% as the interest rate. The PV of 1 at 10% for 5 periods
is .62, and the PV of an ordinary annuity of 1 at 10% for 5 periods is. 3.79.
1. What is the net lease receivable of the lessor at the commencement of the lease?
a. 4,534,000
b. 3,790,000
c. 4,990,000
d. 2,590,000
2. What is the gross investment in the lease?
a. 5,000,000
b. 6,200,000
c. 3,800,000
d. 5,744,000
3. What is the total unearned interest income?
a. 2,410,000
b. 1,666,000
c. 1,210,000
d.
466,000
4. What is the interest income for 2018?
a. 379,000
b. 620,000
c. 453,400
d. 500,000
15. An entity is a dealer in equipment and uses leases to facilitate the sale of its product. The entity
expects a 12% return. At the end of the lease term, the equipment will revert to the lessor.
On January 1, 2019, an equipment is leased to a lessee with the following information:
Cost of equipment to the entity
Fair value of equipment
Residual value – unguaranteed
Initial direct cost
Annual rental payable in advance
Useful life and lease term
Implicit interest rate
PV of 1 at 12% for 8 periods
PV of an ordinary annuity of 1 at 12% for 8 periods
PV of an annuity due of 1 at 12% for 8 periods
First lease payment
1. What is the gross investment in the lease?
a. 7,800,000
b. 7,200,000
c. 6,600,000
d. 6,900,000
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3,500,000
5,500,000
600,000
200,000
900,000
8 years
12%
0.40
4.97
5.56
January 1, 2019
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2. What is the net investment in the lease?
a. 5,004,000
b. 5,244,000
c. 5,500,000
d. 5,740,000
3. What is the total financial revenue?
a. 2,196,000
b. 2,796,000
c. 2,556,000
d. 1,956,000
4. What amount should be recognized as interest income for 2019?
a. 600,480
b. 492,480
c. 536,760
d. 521,280
5. What amount of cost of goods sold should be recognized in recording the lease?
a. 3,260,000
b. 3,500,000
c. 3,740,000
d. 3,460,000
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Sale and leaseback (IFRS 16)
1. At year-end, Bain Company sold a machine with 12-year useful life to another entity and
simultaneously leased it back for one year.
Sale price
Carrying amount
Present value of reasonable lease rentals
(3,000 for 12 months @ 12%)
360,000
330,000
34,100
What amount of gain on right transferred should be reported in the current year?
a. 34,100
b. 30,000
c. 4,100
d. 0
2. At the beginning of current year, East Company sold an equipment with remaining life of 10
years and immediately leased it back for 4 years at the prevailing market rental.
Sale price at fair value
Carrying amount of equipment
Annual rental payable at the end of each year
Implicit interest rate
Present value of an ordinary annuity of 1 at 10% for
Four periods
1. What is the initial lease liability?
a. 2,536,000
b. 3,200,000
c. 3,000,000
d. 0
2. What is the cost of right of use asset?
a. 1,902,000
b. 2,598,000
c. 2,536,000
d. 0
ROUA = C.A. of asset x lease liability (adj)
F.V. of Asset
3. What is the gain on right transferred to the buyer-lessor?
a. 866,000
b. 634,000
c. 750,000
d. 0
Recog. Gain = Total Gain x Rights transferred to buyer/lessor
F.V. of Asset
4. What is the annual depreciation of the right of use asset?
a. 475,500
b. 190,200
c. 634,000
d. 253,600
5. What is the net annual rental income of the buyer-lessor?
a. 800,000
b. 200,000
c. 600,000
d. 400,000
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6,000,000
4,500,000
800,000
10%
3.17
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3. At the beginning of current year, Simple Company sold a building with remaining life of 20 years
and immediately leased it back for 5 years.
Sale price at above fair value
20,000,000
Fair value of building
18,000,000
Carrying amount of building
10,800,000
Annual rental payable at the end of each year
1.500,000
Implicit interest rate
12%
Present value of an ordinary annuity of 1 at 12% for five periods 3.60
1. What is the initial lease liability?
a. 5,400,000
b. 3,400,000
c. 7,500,000
d. 7,400,000
2. What is the cost of right of use asset?
a. 2,040,000
b. 4,000,000
c. 2,000,000
d. 3,000,000
ROUA = C.A. of asset x lease liability (adj)
F.V. of Asset
3. What is the gain on right transferred to the buyer-lessor?
a. 7,200,000
b. 1,500,000
c. 5,600,000
d. 5,840,000
Recog. Gain = Total Gain x Rights transferred to buyer/lessor
F.V. of Asset
4. What is the gross rental income of the buyer-lessor?
a. 1,500,000
b. 2,000,000
c.
944,444
d.
555,596
5. What is the depreciation of the building of the buyer-lessor?
a. 1,000,000
b. 1,500,000
c.
900,000
d.
500,000
4. At the beginning of current year, Hazel Company sold a machine and immediately leased it
back. The following data pertain to the sale and leaseback transaction:
Sale price at below fair value
Fair value of machine
Carrying amount of machine
Annual rental payable at the end of each year
Remaining life of machine
Lease term
Implicit interest rate
Present value of an ordinary annuity of 1 at 6%
For 3 periods
4,000,000
4,500,000
3,600,000
500,000
10 years
3 years
6%
2.67
1. What is the initial lease liability?
a. 1,335,000
b. 1,500,000
c. 4,000,000
d. 5,000,000
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2. What is the cost of right of use asset?
a. 3,600,000
b. 1,468,000
c. 1,800,000
d. 2,880,000
ROUA = C.A. of asset x lease liability (adj)
F.V. of Asset
3. What is the gain transferred to the buyer-lessor?
a. 900,000
b. 720,000
c. 533,000
d. 500,000
Recog. Gain (loss) = Total Gain (loss) x Rights transferred to buyer/lessor
F.V. of Asset
4. What is the net annual rent income of the buyer-lessor?
a. 500,000
b. 150,000
c. 250,000
d. 100,000
5. At the beginning of current year, World Company sold a machine and immediately leased it
back. The following data pertain to the sale and leaseback transaction:
Sale price at fair value
Carrying amount of machine
Annual rental payable at the end of the year
Implicit interest rate
Present value of an ordinary annuity of 1 at 6% for 5 periods
5,000,000
6,000,000
500,000
6%
4.21
1. What is the initial lease liability?
a. 2,500,000
b. 2,105,000
c. 3,000,000
d. 0
2. What is the cost of right of use asset?
a. 2,105,000
b. 2,526,000
c. 2,895,000
d. 1,500,000
ROUA = C.A. of asset x lease liability (adj)
F.V. of Asset
3. What is the loss on right transferred to the buyer-lessor?
a. 508,200
b. 500,000
c. 579,000
d. 0
Recog. Gain (loss) = Total Gain (loss) x Rights transferred to buyer/lessor
F.V. of Asset
4. What is the net annual rent income of the buyer-lessor?
a. 373,700
b. 200,000
c. 500,000
d. 250,000
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6. At the beginning of current year, Judy Company sold a building with remaining useful life of 30
years and immediately leased it back for 5 years.
Sale price at below fair value
Fair value of building
Carrying amount of building
Annual rental payable at the end of each year
Implicit interest rate
Present value of an ordinary annuity of 1 at 12% for 5 periods
18,000,000
20,000,000
24,000,000
1,000,000
12%
3.60
1. What is the initial lease liability?
a. 3,600,000
b. 4,000,000
c. 4,800,000
d. 0
2. What is the cost of right of use of asset?
a. 3,000,000
b. 2,880,000
c. 5,760,000
d. 6,720,000
ROUA = C.A. of asset x lease liability (adj)
F.V. of Asset
3. What is the loss on right transferred?
a. 4,000,000
b. 2,880,000
c. 4,320,000
d. 6,000,000
Recog. Gain (loss) = Total Gain (loss) x Rights transferred to buyer/lessor
F.V. of Asset
4. What is the net annual rent income of the buyer-lessor?
a. 400,000
b. 200,000
c. 300,000
d. 100,000
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Sale and leaseback
Answer Section
1. ANS:
B
Sale price
Carrying amount
Gain on right transferred
360,000
330,000
30,000
IFRS 16, paragraph 5, provides that a lessee is permitted to make an accounting policy
election to apply the operating lease model if the lease is short-term or if the underlying
asset is of low value.
A short-term is a lease that has a term of twelve months or less at the commencement
date.
2. ANS:
1.A
Initial lease liability (800,000 x 3.17)
2,536,000
2.A
ROUA = C.A. of asset x lease liability(adj)
F.V. of Asset
(2,536,000 / 6,000,000 x 4,500,000)
1,902,000
The cost of right of use asset is equal to a fraction whose numerator is the initial lease
liability and whose denominator is the fair value of the asset multiplied by the carrying
amount of the asset.
3. A
Selling Price = Fair Value
Fair value or sale price
Carrying amount
Total gain on sale
6,000,000
4,500,000
1,500,000
Fair value
Right retained by seller-lessee equal to lease liability
Right transferred to buyer-lessor
6,000,000
(2,536,000)
3,464,000
Recog gain = Total gain X Rights transferred to buyer
FV of Asset
Gain to be recognized (3,464,000 / 6,000,000 x 1,500,000)
866,000
The gain or loss on right transferred is equal to a fraction whose numerator is the right
transferred to the buyer-lessor and whose denominator is the fair value of the asset
multiplied by the total gain or loss on sale.
The right transferred to the buyer-lessor is equal to the fair value of the asset minus the
initial lease liability.
4. A
Depreciation of right of use asset (1,902,000 / 4)
5. B
Annual rental
Depreciation of equipment purchased
(6,000,000 / 10 years)
Net rental income of buyer-lessor
475,500
800,000
(600,000)
200,000
The buyer-lessor shall apply the operating lease model because the lease term of 4
years is only 40% of the useful life of the asset.
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3. ANS:
1. A
Initial lease liability (1,500,000 x 3.60)
5,400,000
2. A
Selling Price > Fair Value
Note: Excess Selling Price is an adjustment (deducted) to lease liability.
Sale price
Fair value
Excess sale price – additional financing
20,000,000
18,000,000
2,000,000
Present value of rentals
5,400,000
Excess SP over FV- additional financing
(2,000,000)
Present value related to lease liability
3,400,000
Note: Excess Selling Price is an adjustment (deducted) to lease liability.
ROUA = CA of ASSET X Lease liab(net)
FV of ASSET
Cost of right of use asset
(3,400,000 / 18,000,000 x 10,800,000)
2,040,000
IFRS 16, paragraph 101, provides that if the sale price does not equal the fair value of
the underlying asset, the seller-lessee shall make adjustment to measure the sale price
at fair value.
Any excess sale price over fair value shall be accounted for us additional financing
provided by the buyer-lessor to seller-lessee.
3. D
Fair value
Carrying amount
Total gain on sale
18,000,000
(10,800,000)
7,200,000
Fair value
Right retained by seller-lessee equal to lease liability
Right transferred to buyer-lessor
18,000,000
( 3,400,000)
14,600,000
Recog. gain = Total Gain x Rights transferred to buyer/lessor
F.V. of Asset
Gain to be recognized
(14,600,000 / 18,000,000 x 7,200,000)
5,840,000
4. A
Gross Rental Income
Present value Fraction
Rental income
3,400,000
34/54 x 1.5
Financial Asset
2,000,000
20/54 x 1.5
Total present value(MLP) 5,400,000
Allocation
944,444
555,556
1,500,000
5. C
Depreciation of building of buyer-lessor
(18,000,000 / 20 years)
900,000
4. ANS:
1. A
Initial lease liability (500,000 x 2.67)
2. B
Fair Value > Selling Price
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1,335,000
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Note: The excess FV is an adjustment(added) to lease liability.
Fair Value
Sale price
Excess fair value – prepayment of rental
4,500,000
4,000,000
500,000
Initial lease liability
1,335,000
Excess fair value – prepayment of rental
500,000
Total lease liability
1,835,000
Note: The excess FV is an adjustment (added) to lease liability.
ROUA = CA of Asset x
lease liab(adj) / FV of Asset
Cost of right of use asset
(1,835,000 / 4,500,000 x 3,600,000)
1,468,000
3. C
Fair value
Carrying amount
Total gain on sale
4,500,000
3,600,000
900,000
Fair value
Right retained by seller-lessee equal to lease liability
Right transferred to buyer-lessor
4,500,000
1,835,000
2,665,000
Recog. Gain = Rights transferred to lessor/FV of Asset x Gain
Gain to be recognized (2,665,000 / 4,500,000 x 900,000)
4. D
Annual rental
Depreciation of machine of buyer-lessor
(4,000,000 / 10 years)
Net annual rental income
533,000
500,000
(400,000)
100,000
Note: 1. excess FV over SP is added to leased liab
2. excess SP over FV is deducted to lease liab
5. ANS: SP = FV
1. B
Initial lease liability (500,000 x 4.21)
2,105,000
2. B
ROUA = Lease liab. / FV of Asset x CA of Asset
Cost of right of use asset
(2,105,000 / 5,000,000 x 6,000,000)
2,526,000
3. C
Sale price
Carrying amount
Total loss on sale
5,000,000
6,000,000
(1,000,000)
Fair value
Right retained by seller-lessee equal to lease liability
Right transferred to buyer-lessor
5,000,000
2,105,000
2,895,000
Recog. loss = Rights transferred to lessor / FV of Asset x Total loss
(2,895,000 / 5,000,000 x 1,000,000)
579,000
4. D
Depreciation of machine of buyer-lessor
(5,000,000 / 20 years)
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250,000
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Annual rent income
Depreciation of buyer-lessor
Net annual rent income
500,000
(250,000)
250,000
6. ANS: FV > SP
1. A
Initial lease liability (1,000,000 x 3.60)
3,600,000
2. D
Initial lease liability
Excess fair value (20,000,000 – 18,000,000)
Total lease liability
note: excess FV over SP is added to lease liab
3,600,000
2,000,000
5,600,000
ROUA = Lease liab(adj) / FV of Asset x CA of Asset
Cost of right of use asset
(5,600,000 / 20,000,000 x 24,000,000)
6,720,000
3. B
Fair value of building
Carrying amount
Total loss
20,000,000
24,000,000
(4,000,000)
Fair value of building
Right retained equal to total lease liability
Right transferred to buyer-lessor
20,000,000
( 5,600,000)
14,400,000
Recog. loss = Rights transferred to lessor / FV of Asset x Total loss
(14,400,000 / 20,000,000 x 4,000,000)
4. A
Annual rent income
Depreciation of buyer-lessor (18,000,000 / 30 years)
Net annual rent income
2,880,000
1,000,000
( 600,000)
400,000
Notes to leaseback:
Annual Rental x A1 = Lease liability
Present value of rentals
xx
Excess SP over FV- additional financing
(xx)
Lease liability(adj)
xx
Note: Excess Selling Price is an adjustment (deducted) to lease liability.
Initial lease liability
Excess fair value over SP - prepayments
Lease liability(adj)
note: excess FV over SP is added to lease liab
xx
xx
xx
Lease liab. = Rights retained by seller/lessee
ROUA = CA of ASSET X Lease liab(net)
FV of ASSET
Fair value of Asset
Carrying amount
Total gain on sale
Note: SP is adjusted to FV
xx
(xx)
xx
Fair value of Asset
Right retained by seller-lessee equal to lease liability
Right transferred to buyer-lessor
xx
Recog. Gain(loss) = Total Gain(loss) x Rights transferred to buyer/lessor
F.V. of Asset
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(xx)
xx