Problem: Lessor Company has a machine with a cost and fair value of $100,000 that it leases for a 10-year period to Lessee Company. The machine has a 12-year expected economic life. Payments are received at the beginning of each year. The machine is expected to have a $10,000 residual value at the end of the lease term. (Lessee is not guaranteeing the residual value.)
Q1. What would the lease payments be if Lessor wants to earn a 10% return on its net investment?
Q2. What lease obligation would Lessee report when the lease is signed?
Q3. What would be the interest revenue reported by Lessor and the interest expense reported by Lessee in the first year, assuming they both use the 10% discount rate?
Q4. How would the answers to requirements 2 and 3 change for Lessee if it guaranteed the residual value?