CHAPTER 12 Financial Reporting for Leases
56. What is the financing profit of Blue Manufacturing on a leased lathe?
a. $7,000
b. $8,500
c. $10,500
d. $17,500
57. Under ASC 840, the lessor’s treatment of leases is guided according to Type I and Type II character-
istics. Type I characteristics are linked to
a. the critical event criteria for expense recognition.
b. the critical event criteria for revenue recognition.
c. measurement of collectibility for revenue recognition.
d. measurement of historical cost.
58. Under ASC 840, the lessor’s treatment of leases is guided according to Type I and Type II character-
istics. Type II characteristics are linked to
a. the critical event criteria for expense recognition.
b. the critical event criteria for revenue recognition.
CHAPTER 12 Financial Reporting for Leases
c. measurement of collectibility for revenue recognition.
d. measurement of historical cost.
59. On Ray’s books, this lease is treated as a/an
a. operating lease.
b. ordinary capital lease.
c. direct financing capital lease.
d. sales-type capital lease.
60. On Ford’s books, this lease is treated as a/an
a. operating lease.
b. capital lease.
c. direct financing capital lease.
d. sales-type capital lease.
61. Ford uses which one of the following interest rates to record this lease?
a. Use 9.0% because it is the lessee’s incremental borrowing rate.
b. Use 10.0% because it is the implicit lease rate of return to the lessor.
c. Use 8.5% because it is the lesser of the implicit rate and Ray’s incremental borrowing rate.
d. Use 9.0% because it is the lesser of the implicit rate and Ford’s incremental borrowing rate.
62. Assuming that the lease is a capital lease for Ray, which one of the following interest rates will
Ray use to record this lease?
a. Use 8.5% because it is the lessor’s incremental borrowing rate.
b. Use 9.0% because it is the lessee’s incremental borrowing rate.
c. Use 10.0% because it is the implicit lease rate of return to the lessor.
d. Use 8.5% because it is the lesser of the implicit rate and Ray’s incremental borrowing rate.
Use the following to answer questions 63 – 68:
REFERENCE: Ref. 12_04
Morey Corporation leases a tractor from Equity Leasing with a five-year non-cancelable lease on Janu-
ary 1, 2018 under the following terms:
[QUESTION]
REFER TO: Ref. 12_04
63. For Equity Leasing, this is treated as a/an
a. operating lease.
b. ordinary capital lease.
c. direct financing capital lease.
d. sales-type capital lease.
64. For Morey, this lease is treated as a/an
a. operating lease.
b. capital lease.
c. direct financing capital lease.
d. sales-type capital lease.
65. Equity records this lease with which one of the following journal entries?
a. DR Net investment in leased assets 102,607.95
CR Equipment 102,607.95
b. DR Net investment in leased assets 131,898.70
CR Equipment 102,607.95
CR Unearned financing income—
Leases 29,290.75
c. DR Accounts receivable—Lease 131,898.70
CR Cash 26,379.74
CR Equipment 105,518.96
d. DR Gross investment in leased assets 131,898.70
CR Equipment 105,518.96
CR Cash 26,379.74
66. Which of the following entries will Morey prepare to record the lease of the tractor on January 1,
2018?
a. DR Leased equipment 102,607.95
CR Obligation under capital lease 102,607.95
b. DR Leased equipment 131,898.70
CR Cash 26,379.74
CR Obligation under capital lease 105,518.96
c. DR Leased equipment 131,898.70
CR Cash 131,898.70
d. DR Rent expense 26,379.74
CR Cash 26,379.74
67. Which of the following entries will Equity Leasing prepare to record the receipt of the first pay-
ment on December 31, 2018?
a. DR Cash 26,379.74
CR Financing income—Leases 26,379.74
b. DR Cash 26,379.74
CR Net investment in leased asset 17,145.02
CR Financing income-Leases 9,234.72
c. DR Cash 26,379.74
CR Leased equipment 26,379.74
d. DR Cash 26,379.74
CR Net investment in leased asset 26,379.74
68. With which of the following entries will Morey prepare for the second payment December 31,
2019?
a. DR Obligation under capital lease 26,379.74
CR Cash 26,379.74
b. DR Obligation under capital lease 17,145.02
DR Interest expense 9,234.72
CR Cash 26,379.74
c. DR Obligation under capital lease 18,688.08
CHAPTER 12 Financial Reporting for Leases
DR Interest expense 7,691.66
CR Cash 26,379.74
d. DR Obligation under capital lease 7,691.66
DR Investment in leased asset 18,688.08
CR Cash 26,379.74
Lessor’s Books
Year Payment Interest (9%) Principal Remaining
Received (Financing Income) Reduction Principal
0 $102,607.95
1 $ 26,379.74 $ 9,234.72 $ 17,145.02 85,462.99
2 26,379.74 7,691.66 18,688.08 66,774.85
3 26,379.74 6,009.74 20,370.00 46,404.85
4 26,379.74 4,176.44 22,203.30 24,201.55
5 26,379.74 2,178.19* 24,201.55 -0-
Totals $131,898.70 $ 29,290.75 $102,607.95 *rounded
Use the following to answer questions 69 and 70:
REFERENCE: Ref. 12_05
Hatfield Corporation leases a tractor from Star Leasing with a five-year non-cancelable lease on Janu–
ary 1, 2018 under the following terms. Hatfield accounts for leases under ASC 840 guidance.
1. Five payments of $26,379.74 (a 9% implicit rate) due at the end each year.
2. The fair value of the tractor is $100,000.
3. The lease is nonrenewable and the tractor reverts to Star at the end of the lease term.
4. The tractor has a six-year economic life.
5. Hatfield has an excellent credit rating.
6. Star offers no warranty on the tractor other than the manufacturer’s two-year warranty that is
handled directly with the manufacturer.
69. If Hatfield’s incremental borrowing rate is 11% and the implicit rate is not known to the lessee,
what interest rate will Hatfield use to account for this lease?
a. 9%
b. 10%
c. 11%
d. Cannot be determined from information given.
70. With which one of the following entries will Hatfield prepare to record the payment on Decem-
ber 31, 2018?
a. DR Obligation under capital lease 16,379.74
DR Interest expense 10,000.00
CR Cash 26,379.74
b. DR Obligation under capital lease 10,000.00
DR Interest expense 16,379.74
CR Cash 26,379.74
c. DR Obligation under capital lease 26,379.74
CR Cash 26,379.74
d. DR Interest expense 26,379.74
CR Cash 26,379.74
71. On January 1, 2018 Lessee Company entered into a five-year lease which required annual pay-
ments of $60,000. The first payment was due at the inception of the lease. The present value of the
minimum lease payments to record the lease was $250,192; the applicable discount rate was 10%.
Lessee Company treated the lease as a capital lease under ASC 840. What is the balance of Lessee
Company’s lease liability as of December 31, 2018?
a. $209,211
b. $275,211
c. $190,192
d. $149,211
72. On January 1, 2019, Lessee Company entered into a five-year lease which required annual pay-
ments of $120,000. The first payment was due at the inception of the lease. The present value of the
minimum lease payments to initially record the lease was $500,384; the applicable discount rate was
10%. Lessee Company treated the lease as a finance lease under ASC 842. What is the balance of
Lessee Company’s lease liability immediately after the January 1, 2020 payment was made?
a. $430,422
b. $260,384
c. $298,422
d. $380,384
73. On January 1, 2018, Lessee Corporation entered into a ten-year lease. Lessee follows ASC 840
guidance for lease accounting. The lease terms required annual year-end payments of $160,000. The
lease agreement does not contain either a bargain purchase option or a transfer of title. The fair value
of the equipment at the inception of the lease was $1,100,000; estimated life of the leased assets was
CHAPTER 12 Financial Reporting for Leases
fourteen years. Lessee Corporation’s incremental borrowing rate was 10%; the implicit rate of inter-
est, known to the lessee, was 12%. Applicable time value of money values are as follows:
Ten-year, 10% ordinary annuity 6.144
Ten-year, 12 % ordinary annuity 5.650
Ten-year, 10% annuity due 6.759
Ten-year, 12% annuity due 6.328
Lessee Corporation should initially capitalize the lease at what amount?
a. $0, the lease should not be capitalized
b. $983,040
c. $1,081,440
d. $904,000
74. On January 1, 2018, Lessor Corporation entered into a lease which was treated as a sales-type
lease by Lessor Corporation. Lessor follows ASC 840 guidance for lease accounting. The leased
asset’s book value within Lessor Corporation’s financial statements was $350,000 as of January 1,
2018. The lease required the lessee to make ten annual payments of $50,000; the first payment was
due at the beginning of the lease term and each January 1 thereafter. The present value of the mini-
mum lease payments was $362,345. The implicit rate of interest, known to the lessee, was 8%, while
the lessee’s incremental borrowing rate was 10%. The increase in Lessor Corporation’s net income
for the year ended December 31, 2018 was approximately
a. $12,345.
b. $37,333.
c. $41,333.
d. $24,988.
75. The difference in the lessor’s income recognition over the life of the lease, between an operating
lease and a capital lease is
a. zero.
b. the amount of the interest revenue.
c. the financing revenue minus the depreciation.
d. the depreciation expense.
76. Which of the following is not a qualifier for a lease to be considered a finance lease under ASC
842?
a. The lease grants an option to purchase that is reasonably certain to occur.
b. The lease transfers ownership at the end of the lease.
c. The asset is not a specialized asset and will have alternative use to the lessor.
d. The lease term is for the major part of the remaining economic life of the asset.
77. Under ASC 842 for lease accounting, which statement below is not accurate?
a. Finance leases show separate amounts for amortization and interest expense.
b. Lease expense is shown in the operating section of the statement of cash flows.
c. Operating leases show total lease expenses as a single line item.
d. Lease expense is shown in the financing section of the statement of cash flows.
78. Under ASC 842 for lease accounting, the operating lease right-of-use asset equals
a. the operating lease liability.
b. the operating lease liability + prepaid rent under ASC 840.
c. the operating lease liability + prepaid rent under ASC 840 – accrued rent under ASC 840.
d. the same as a capital lease liability under ASC 840.
79. Which of the following is correct with respect to ASU 842 for lease accounting?
a. It retained the distinction between operating and finance leases for lessees.
b. It is mandatory for fiscal years beginning after December 15, 2018 and may not be adopted ear-
ly.
c. It requires the lessee to record a prepaid asset and a lease liability.
d. It allows the lessee to decide what borrowing rate to use to value the lease obligation.
80. Which of the following statement is not correct with respect to accounting for operating leases
under ASC 842?
a. The new standard is similar to an ASC 840 capital lease on the balance sheet.
b. The new standard is similar to an ASC 840 operating lease on the income statement.
c. The new standard is not similar to an ASC 840 operating lease on the income statement.
d. The new standard is similar to an ASC 840 operating lease on the statement of cash flows.
81. Which of the following statements is not correct for sale-and-leaseback transactions under the
new ASC 842 accounting guidance for leases?
a. Seller-lessees have higher motivation to enter into a finance lease under ASC 842 than they did
under ASC 840.
b. If the seller-lessee has the option to repurchase the asset at less than fair value of the asset at
time of exercise, the transaction is not treated as a sale.
c. If control of the asset has not been given up, the transaction is not a sale.
d. The changes in ASC 842 give seller-lessees less incentive to enter into sale-and-leaseback trans-
actions.
82. Which of the following is not defined as qualitative information under ASC 842?
a. Renewal and purchase options.
b. Maturity information.
c. Lease covenants and restrictions.
d. Residual value guarantees.
83. Which of the following statements pertaining to lease accounting under ASC 840 is not correct?
a. The lessee will depreciate a leased asset either over the lease term or the leased asset’s useful
life dependent upon which of the required lease capitalization criteria is (are) met.
CHAPTER 12 Financial Reporting for Leases
b. The lessee ignores a guaranteed salvage value when calculating depreciation expense associat-
ed with a capital lease.
c. The lessor’s annual income will decrease over time regardless of whether the lease is a sales–
type lease or a direct financing lease.
d. The manufacturer’s or dealer’s profit recorded by the lessor is the same whether or not the re-
sidual value is guaranteed by the lessee.
84. Which of the following statements pertaining to lease accounting is not correct under ASC 840
lease accounting?
a. For a particular lease agreement, the amount of interest expense recorded by the lessee can be
different than the amount of interest revenue recorded by the lessor during the same time peri-
od.
b. The current ratio will be decreased over the lease term if a lessor treats a lease as a capital lease
rather than an operating lease.
c. It is very challenging for different firms to treat virtually identical leases dissimilarly due to the
fact that the required lease capitalization criteria are difficult to circumvent.
d. The required disclosures pertaining to operating leases require the lessee to disclose what the
impact on the financial statements would have been if the lease would have been treated as a
capital lease.
85. Under ASC 840 lease accounting, if a company sells an asset for a profit of $175,000 and imme-
diately leases it back under a capital lease, the gain is recognized
a. immediately as an ordinary gain.
b. immediately as a gain to include in discontinued operations.
c. over the life of the lease in proportion to the rental payment.
d. over the life of the lease using the same rate and life used to amortize the leased asset.
86. Under lease accounting for a leveraged lease, the lessor must treat the lease as a/n
a. operating lease.
b. ordinary capital lease.
c. direct financing capital lease.
d. sales-type capital lease.
87. Which item below is not an accurate description of lessor disclosures under ASC 842?
a. Disclosure includes qualitative and quantitative information.
b. Disclosure includes the same maturity information required under ASC 840.
c. Disclosure includes operating lease income only for amounts that are variable payments.
d. Disclosure includes the profit or loss associated with a sales type lease.
88. Which of the following does not properly describe the presentation by the lessor under ASC
842?
a. Sales type lease assets are presented as combined with other assets of the same category.
b. For operating leases, income is presented on a straight-line basis on the income statement.
c. A lease used as a method of selling manufactured products will include selling profit as the dif-
ference between revenue and cost of goods sold.