Finance Lease Classification Quiz
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Questions and Answers

Which of the following is not a sufficient criterion for a lessee to classify a lease as a finance lease?

  • The lease term is greater than two-thirds of the economic life of the asset. (correct)
  • The lease transfers ownership of the leased asset to the lessee at the end of the lease term.
  • The lessee has the option of acquiring the asset during or at the end of the lease term at a bargain price.
  • The present value of the lease payments is substantially all of the fair value of the leased asset.
  • In an operating lease in which the asset's economic life and lease term are different, what is true?

  • The lessor amortizes the leased asset over the term of the lease.
  • The lessee amortizes the leased asset over the term of the lease at a straight-line amount.
  • The lessee amortizes the leased asset at an amount that increases each period. (correct)
  • The lessee amortizes the asset over its economic life.
  • On a five-year lease of equipment with a fair value of $485,100, how much interest revenue will Universal earn over the life of the lease?

    96,575

    What amount of interest revenue from the lease should Barr report in its 2021 income statement?

    <p>The interest is calculated based on the fair value of the asset.</p> Signup and view all the answers

    What is the total increase in earnings (pretax) on Grant's 2021 income statement?

    <p>94,500</p> Signup and view all the answers

    A lease is classified as a finance lease if the usual risks and rewards are retained by the lessor.

    <p>False</p> Signup and view all the answers

    Under IFRS, a lessee will reassess variable lease payments that depend on an index or a rate:

    <p>Only when the lessee remeasures the right-of-use asset and lease liability for other reasons.</p> Signup and view all the answers

    What will be the balance in the right-of-use asset after two years for Geron Co.?

    <p>320,000</p> Signup and view all the answers

    What is the balance in the right-of-use asset at December 31, 2021, for Natick Co.?

    <p>126,698</p> Signup and view all the answers

    What amount of interest revenue from the lease should King report in its 2021 income statement?

    <p>3.4 million</p> Signup and view all the answers

    What is the total increase in earnings (pretax) in King's 2021 income statement?

    <p>10.4 million</p> Signup and view all the answers

    What amount of total decrease in earnings (pretax) in Nichols' 2021 income statement would be recorded?

    <p>7,400,000</p> Signup and view all the answers

    What would be the total increase in earnings (pretax) on Crawford's 2021 income statement?

    <p>94,500</p> Signup and view all the answers

    Which of the following is required in order for a contract to contain an identified asset?

    <p>The property must be property, plant, or equipment (not inventory, intangibles, or natural resources).</p> Signup and view all the answers

    Which of the following is not required in order for a contract to contain a lease?

    <p>The asset must be explicitly identified in the contract.</p> Signup and view all the answers

    A gain resulting from a sale-leaseback transaction should:

    <p>Be deferred at the time of the sale-leaseback and subsequently amortized.</p> Signup and view all the answers

    Assuming a tax rate of 40%, what should List Corporation report net income of?

    <p>54,000</p> Signup and view all the answers

    The most common cause for variation in reported amounts for deferred taxes between U.S. GAAP and IFRS are:

    <p>The nontax differences between IFRS and U.S. GAAP.</p> Signup and view all the answers

    Study Notes

    Lease Classification Criteria

    • A lease is classified as a finance lease if the usual risks and rewards are transferred to the lessee.
    • The presence of options to purchase the asset at a bargain price or if the lease term exceeds two-thirds of the asset's economic life aren't sufficient alone for classification as a finance lease.

    Operating Lease Amortization

    • In an operating lease with different economic life and lease term, amortization is typically at an increasing amount each period.

    Interest Revenue Calculation

    • Universal Leasing Corp. expects a total interest revenue of $96,575 over five years from a lease with an annual payment of $116,334.
    • Barr Machinery must report interest revenue for 2021 as calculated from the present value of asset lease payments after accounting for received payments.

    Right-of-Use Asset Balances

    • In finance leases, the right-of-use asset is amortized on a straight-line basis, resulting in reduced book value over time.
    • After two years of a ten-year finance lease, a right-of-use asset balance reduced to $320,000 indicates annual amortization of $40,000.

    Operating Lease Amortization Considerations

    • In operating leases, the total balance of a right-of-use asset at year-end reflects interest expense and amortization adjustments, leading to specific year-end balances.

    Total Earnings Impact

    • A lease agreement that transfers control allows for reporting both interest revenue and selling profit as increases in pre-tax earnings.
    • For Nichols Fruits, the total increase in earnings due to leasing arrangements totaled $10.4 million, combining selling profit and interest revenue.

    Sale-Leaseback Transactions

    • Gains from sale-leaseback transactions where the seller retains usage rights are amortized over the lease term and deferred initially.

    Deferred Taxes Reporting

    • Differences between reported accounting income and taxable income arise from temporary differences, impacting reported net income.
    • The most common cause for variations in reported deferred tax amounts between U.S. GAAP and IFRS stems from non-tax differences.

    Identified Asset Criteria

    • For a lease to exist, the asset must be property, plant, or equipment, and cannot include substitutes during the lease period as identified benefits.
    • Not all contract assets need to be explicitly specified to qualify as a lease; customer benefits and control during the contract term are more critical factors.

    Tax Reporting

    • Taxable income adjustments due to temporary differences should reflect correctly on financial statements, yielding a net income of $54,000 at a 40% tax rate from a pretax income of $90,000.

    These notes encapsulate key principles and calculations related to leases, tax impacts, and financial reporting in clarity and brevity, essential for effective study sessions.

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    Description

    Test your knowledge on finance lease classifications with this quiz. Identify the criteria that do not qualify a lease as a finance lease based on ownership transfer, lease term, and payment present value. Perfect for accounting students!

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