A. JEFFERSON COMPANY
On December 31, 2013, Jefferson Company leased a delivery truck from Branch Motors. Branch paid $35,000 for the truck. Its retail value is $37,731.
The lease agreement specified annual payments of $10,000 beginning December 31, 2013, the inception of the lease, and at each December 31 through 2016. Branch Motors' interest rate for determining payments was 11%, which has been communicated to Jefferson Company. At the end of the four-year lease term (December 31, 2017) the truck was expected to be worth $5,000, none of which is guaranteed. The estimated useful life of the truck is five years with no salvage value. Both companies use straight-line depreciation. Jefferson's incremental borrowing rate is 12%.
Collectibility of the lease payments by Jefferson Company is reasonable predictable and there are no costs to the lessor that are yet to be incurred.
Required:
1. How should this lease be classified by Jefferson (the lessee)? Why?
2. How should this lease be classified by Branch Motors (the lessor)? Why?
3. Prepare the appropriate entries for both Jefferson and Branch Motors on December 31, 2013 (the inception of the lease).
4. Prepare the appropriate entries for both Jefferson and Branch Motors on December 31, 2014.