Exhibit 20-5 The Baltimore, Inc. entered into a five-year lease with the Waugh Chapel Company on January 1, 2014. Baltimore, the lessor, will require that five equal annual payments of $25,000 be made at the beginning of each year. The first payment will be made on January 1, 2014. The lease contains a bargain purchase option price of $12,000, which the lessee may exercise on December 31, 2018. The lessee pays all executory costs. The cost of the leased property and its normal selling price are $95,000 and $118,236, respectively. Collectibility of the future lease payments is reasonably assured, and the lessor does not expect to incur any future costs related to the lease. Present value factors for a 7% interest rate are as follows:
-Refer to Exhibit 20-5. If Baltimore requires a 7% annual return, what is the correct amount that should be credited to Unearned Interest: Leases on January 1, 2014, by Baltimore? (Round the answer to the nearest dollar.)

Question

Exhibit 20-5 The Baltimore, Inc. entered into a five-year lease with the Waugh Chapel Company on January 1, 2014. Baltimore, the lessor, will require that five equal annual payments of $25,000 be made at the beginning of each year. The first payment will be made on January 1, 2014. The lease contains a bargain purchase option price of $12,000, which the lessee may exercise on December 31, 2018. The lessee pays all executory costs. The cost of the leased property and its normal selling price are $95,000 and $118,236, respectively. Collectibility of the future lease payments is reasonably assured, and the lessor does not expect to incur any future costs related to the lease. Present value factors for a 7% interest rate are as follows:  
-Refer to Exhibit 20-5. If Baltimore requires a 7% annual return, what is the correct amount that should be credited to Unearned Interest: Leases on January 1, 2014, by Baltimore? (Round the answer to the nearest dollar.)

Quizplus · Accepted Answer

To calculate the correct amount that should be credited to Unearned Interest: Leases on January 1, 2014, we need to determine the present value of the lease payments using a 7% interest rate. The lease payments are $25,000 per year for five years, so the total lease payments are $125,000 ($25,000 x 5).
Using the present value annuity factor for five periods at 7%, we calculate the present value of the lease payments to be $96,236. 
($25,000 x 4.10017 = $102,504 - $6,268, which is the present value of the final lease payment of $25,000 due at the end of the lease term).
Since the cost of the leased property is $95,000, the initial lease payment should cover the cost of the property plus the lessor's desired rate of return. Therefore, the correct amount that should be credited to Unearned Interest: Leases on January 1, 2014, by Baltimore is $18,764 ($96,236 - $95,000). The answer is B.

Exhibit 20-5 the Baltimore, Inc