Geary Co. leased a machine to Dains Co. Assume the lease payments were made on the basis that the residual value was guaranteed and Geary gets to recognize all the profits. At the end of the lease term, before the lessee transfers the asset to the lessor, the leased asset and obligation accounts have the following balances: If, at the end of the lease, the fair value of the residual value is $9,800, what gain or loss should Geary record?

Question

Geary Co. leased a machine to Dains Co. Assume the lease payments were made on the basis that the residual value was guaranteed and Geary gets to recognize all the profits. At the end of the lease term, before the lessee transfers the asset to the lessor, the leased asset and obligation accounts have the following balances:  If, at the end of the lease, the fair value of the residual value is $9,800, what gain or loss should Geary record?

Quizplus · Accepted Answer

To calculate the gain or loss, we need to compare the carrying amount of the leased asset with its fair value at the end of the lease term. 
Carrying amount of the leased asset = $21,000 
Fair value of the residual value = $9,800

Therefore, the loss that Geary should recognize = Carrying amount of the leased asset - Fair value of the residual value 
= $21,000 - $9,800 
= $11,200

However, Geary can only recognize the profit, not the loss, which is limited to the amount of profits previously deferred. 
Therefore, the maximum amount of loss that Geary can recognize is limited to the total amount of profits previously deferred, which is $4,000.

Hence, the correct answer is C) $6,200 loss (limited to $4,000 profit previously deferred).

Geary Co Leased a Machine to Dains Co