Lecture18 spring 2009

Lecture18 spring 2009 - Lecture 18 Accounting for...

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Unformatted text preview: Lecture 18 Accounting for Leases (Western Power and Equipment) Goals of Today’s Class • What is a lease? • Criteria for Capital Leases • Criteria for Operating Leases • Example for Operating Lease • Example for Capital Lease • Disclosures for Western Power & Equipment (WP&E) The lease is a contractual agreement between a lessor and a lessee . Lessor – has equipment/property to lease (think landlord) Lessee – want to use equipment/property (think renter) • The lease gives the lessee the right to use specific property. • The lease specifies the duration of the lease and rental payments. • The obligations for taxes, insurance, and maintenance may be assumed by the lessor or the lessee. Leasing: Basics Leasing: Basics 1. Leases may not require any money down . 2. Lease payments are often fixed. 3. Leases reduce the risk of obsolescence to the lessee. 4. Leases may contain less restrictive covenants than other types of lending arrangements. 5. Leases may be a less costly means of financing. 6. Certain leases may not add to existing debt on the balance sheet . Advantages of Leasing Advantages of Leasing Capital Lease -- According to the FASB: a lease transferring substantially all of the benefits and risks of ownership should be capitalized . Transfer of ownership can be assumed only if there is a high degree of performance to the transfer, that is, the lease is non-cancelable . Operating Lease -- Leases that do not substantially transfers benefits and risks are operating leases . Two Types of Leases Two Types of Leases Example of an Operating Lease • Jerry of the Grateful Dead Hauling Company decides to lease a truck from John Lee Hooker's Truck Mart. The truck is estimated to have a cash purchase price of $16,000, a useful life of four years, and an estimated salvage value of $0. • On January 1, 2006, Jerry signs a two year lease, with annual payments of $5,000 to be made at the end of each year. At the end of the lease term, Jerry must return the truck to John Lee Hooker's. Question: Why does this agreement qualify as an operating lease? Each year, the journal entry for the lessee is: Lease Expense 5,000 Cash 5,000 That is, the annual lease payment is expensed in the year it is incurred -- there is no recognition of any asset or liability associated with the lease. Capital Leases – Capital Leases – Accounting by Lessee Accounting by Lessee A bargain purchase option • allows the lessee to buy the leased asset • at a price significantly lower than the asset’s fair value when the option is exercisable The difference between the option price, and the fair value (when the option is exercisable) as determined at the inception of the lease must render the option reasonably assured....
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This note was uploaded on 02/02/2012 for the course ACCT 101 taught by Professor Armstrong during the Spring '09 term at UPenn.

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Lecture18 spring 2009 - Lecture 18 Accounting for...

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