On the First Day of Its Fiscal Year, Lessor, Inc

question 198

Multiple Choice

On the first day of its fiscal year, Lessor, Inc., leased certain property at an annual rental o $100,000 receivable at the beginning of each year for ten years.The first payment was received immediately.The leased property, which is new, had cost $650,000 and has an estimated useful life of thirteen years and no salvage value.
Lessor's borrowing rate is 8 percent.The present value of an annuity of $1 payable at the beginning of the period at 8 percent for ten years is 7.247.Lessor had no other costs associated with this lease.Lessor should have accounted for this lease as a sales-type lease, but it mistakenly treated the lease as an operating lease.What was the effect on net earnings during the first year of the lease by having treated this lease as an operating lease rather than as a sales-type lease?

• A)Understated
• B)The effect depends on the method selected for income tax purposes
• C)No effect
• D)Overstated

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Definitions:

Quasi-Contracts

Legal obligations created by courts where no true contract exists, to prevent unjust enrichment of one party at the expense of another.

Bilateral Contract

An agreement involving two parties where each side promises to perform a certain duty or pay a specified amount.

Negotiable Instruments

Financial documents that guarantee the payment of a specific amount of money, either on demand or at a set time, and are freely transferable from one party to another.

Recognizances

Formal acknowledgments or commitments, often recorded in legal documents, where an individual pledges to perform an act or adhere to an agreement.