International Accounting : Leases | 60 Questions with
Complete Answers |2023/2024
1. Rapp Co. leased a new machine to Lake Co. on January 1, year 1. The lease is an operating lease and
expires on January 1, year 6. The annual rental is $90,000. Additionally, on January 1, year 1, Lake paid
$50,000 to Rapp as a lease bonus and $25,000 as a security deposit to be refunded upon expiration of
the lease. In Rapp's year 1 income statement, the amount of rental revenue should be
a. $140,000
b. $125,000
c. $100,000
d. $90,000 -Answer- Correct Answer: C) $100,000
Notes
(c) In an operating lease, the lessor should recognize rental revenue on a straight-line basis. This means
that the lease bonus ($50,000) should be recorded as unearned revenue on 1/1/Y1, and recognized as
rental revenue over the five-year lease term. Therefore, year 1 rental revenue should be $100,000
[$90,000 + ($50,000 ÷ 5)]. The security deposit ($25,000) does not affect rental revenue. Since it is to be
refunded to the lessee upon expiration of the lease, it is recorded as a deposit, a long-term liability when
received.
2. Wall Co. leased office premises to Fox, Inc. for a five-year term beginning January 2, year 1. Under the
terms of the operating lease, rent for the first year is $8,000 and rent for years two through five is
$12,500 per annum. However, as an inducement to enter the lease, Wall granted Fox the first six months
of the lease rent-free. In its December 31, year 1 income statement, what amount should Wall report as
rental income?
a. $12,000
b. $11,600
c. $10,800
d. $8,000 -Answer- Correct Answer: C) $10,800
,Notes
(c) Rental revenue on operating leases should be recognized on a straight-line basis unless another
method more reasonably reflects the pattern of use given by the lessor. When the pattern of cash flows
under the lease agreement is other than straight-line, this will result in the recording of rent receivable
or unearned rent. Wall's total rent revenue [(1/2 × $8,000) + (4 × $12,500) = $54,000] should be
recognized on a straight-line basis over the five-year lease term ($54,000 × 1/5 = $10,800). Since cash
collected in year 1 is only $4,000 (one-half of $8,000, since the first six months are rent-free), Wall would
accrue rent receivable and rental revenue of $6,800 ($10,800 - $4,000) at year-end to bring the rental
revenue up to $10,800.
3. On January 1, year 1, Wren Co. leased a building to Brill under an operating lease for ten years at
$50,000 per year, payable the first day of each lease year. Wren paid $15,000 to a real estate broker as a
finder's fee. The building is depreciated $12,000 per year. For year 1, Wren incurred insurance and
property tax expense totaling $9,000. Wren's net rental income for year 1 should be
a. $27,500
b. $29,000
c. $35,000
d. $36,500 -Answer- Correct Answer: A) $27,500
5. On January 1, year 1, Glen Co. leased a building to Dix Corp. under an operating lease for a ten-year
term at an annual rental of $50,000. At inception of the lease, Glen received $200,000 covering the first
two years' rent of $100,000 and a security deposit of $100,000. This deposit will not be returned to Dix
upon expiration of the lease but will be applied to payment of rent for the last two years of the lease.
What portion of the $200,000 should be shown as a current and long-term liability, respectively, in Glen's
December 31, year 1 balance sheet? I. Current liability II. Long-term liability
a. I. $0 ; II. $200,000
b. I. $50,000 ; II. $100,000
c. I. $100,000 ; II. $100,000
d. I. $100,000 ; II. $50,000 -Answer- Correct Answer: B) I. $50,000 ; II. $100,000
Notes
, (b) At 1/1/Y1, Glen would record as a current liability unearned rent of $50,000, and as a long-term
liability unearned rent of $150,000. During year 1, the current portion of unearned rent was earned and
would be recognized as revenue. At 12/31/Y1, the portion of the long-term liability representing the
second year's rent ($50,000) would be reclassified as current, leaving as a long-term liability the
$100,000 representing the last two years' rent.
6. As an inducement to enter a lease, Graf Co., a lessor, granted Zep, Inc., a lessee, twelve months of free
rent under a five-year operating lease. The lease was effective on January 1, year 1, and provides for
monthly rental payments to begin January 1, year 2. Zep made the first rental payment on December 30,
year 1. In its year 1 income statement, Graf should report rental revenue in an amount equal to
a. Zero.
b. Cash received during year 1.
c. One-fourth of the total cash to be received over the life of the lease.
d. One-fifth of the total cash to be received over the life of the lease. -Answer- Correct Answer: D) One-
fifth of the total cash to be received over the life of the lease.
Notes
(d) Rental revenue on operating leases should be recognized on a straight-line basis unless another
method more reasonably reflects the pattern of use given by the lessor. When the pattern of cash flows
under the lease agreement is other than straight-line, this will result in the recording of rent receivable
or unearned rent. Therefore, even though Graf received only one monthly payment in year 1 (1/48 of the
total rent to received over the life of the lease), they would accrue as rent receivable and rent revenue
an amount sufficient to increase the rent revenue account to a balance equal to one-fifth of the total
cash to be received over the five-year life of the lease.
8. As an inducement to enter a lease, Arts, Inc., a lessor, grants Hompson Corp., a lessee, nine months of
free rent under a five-year operating lease. The lease is effective on July 1, year 1 and provides for
monthly rental of $1,000 to begin April 1, year 2. In Hompson's income statement for the year ended
June 30, year 2, rent expense should be reported as
a. $10,200
b. $9,000
Complete Answers |2023/2024
1. Rapp Co. leased a new machine to Lake Co. on January 1, year 1. The lease is an operating lease and
expires on January 1, year 6. The annual rental is $90,000. Additionally, on January 1, year 1, Lake paid
$50,000 to Rapp as a lease bonus and $25,000 as a security deposit to be refunded upon expiration of
the lease. In Rapp's year 1 income statement, the amount of rental revenue should be
a. $140,000
b. $125,000
c. $100,000
d. $90,000 -Answer- Correct Answer: C) $100,000
Notes
(c) In an operating lease, the lessor should recognize rental revenue on a straight-line basis. This means
that the lease bonus ($50,000) should be recorded as unearned revenue on 1/1/Y1, and recognized as
rental revenue over the five-year lease term. Therefore, year 1 rental revenue should be $100,000
[$90,000 + ($50,000 ÷ 5)]. The security deposit ($25,000) does not affect rental revenue. Since it is to be
refunded to the lessee upon expiration of the lease, it is recorded as a deposit, a long-term liability when
received.
2. Wall Co. leased office premises to Fox, Inc. for a five-year term beginning January 2, year 1. Under the
terms of the operating lease, rent for the first year is $8,000 and rent for years two through five is
$12,500 per annum. However, as an inducement to enter the lease, Wall granted Fox the first six months
of the lease rent-free. In its December 31, year 1 income statement, what amount should Wall report as
rental income?
a. $12,000
b. $11,600
c. $10,800
d. $8,000 -Answer- Correct Answer: C) $10,800
,Notes
(c) Rental revenue on operating leases should be recognized on a straight-line basis unless another
method more reasonably reflects the pattern of use given by the lessor. When the pattern of cash flows
under the lease agreement is other than straight-line, this will result in the recording of rent receivable
or unearned rent. Wall's total rent revenue [(1/2 × $8,000) + (4 × $12,500) = $54,000] should be
recognized on a straight-line basis over the five-year lease term ($54,000 × 1/5 = $10,800). Since cash
collected in year 1 is only $4,000 (one-half of $8,000, since the first six months are rent-free), Wall would
accrue rent receivable and rental revenue of $6,800 ($10,800 - $4,000) at year-end to bring the rental
revenue up to $10,800.
3. On January 1, year 1, Wren Co. leased a building to Brill under an operating lease for ten years at
$50,000 per year, payable the first day of each lease year. Wren paid $15,000 to a real estate broker as a
finder's fee. The building is depreciated $12,000 per year. For year 1, Wren incurred insurance and
property tax expense totaling $9,000. Wren's net rental income for year 1 should be
a. $27,500
b. $29,000
c. $35,000
d. $36,500 -Answer- Correct Answer: A) $27,500
5. On January 1, year 1, Glen Co. leased a building to Dix Corp. under an operating lease for a ten-year
term at an annual rental of $50,000. At inception of the lease, Glen received $200,000 covering the first
two years' rent of $100,000 and a security deposit of $100,000. This deposit will not be returned to Dix
upon expiration of the lease but will be applied to payment of rent for the last two years of the lease.
What portion of the $200,000 should be shown as a current and long-term liability, respectively, in Glen's
December 31, year 1 balance sheet? I. Current liability II. Long-term liability
a. I. $0 ; II. $200,000
b. I. $50,000 ; II. $100,000
c. I. $100,000 ; II. $100,000
d. I. $100,000 ; II. $50,000 -Answer- Correct Answer: B) I. $50,000 ; II. $100,000
Notes
, (b) At 1/1/Y1, Glen would record as a current liability unearned rent of $50,000, and as a long-term
liability unearned rent of $150,000. During year 1, the current portion of unearned rent was earned and
would be recognized as revenue. At 12/31/Y1, the portion of the long-term liability representing the
second year's rent ($50,000) would be reclassified as current, leaving as a long-term liability the
$100,000 representing the last two years' rent.
6. As an inducement to enter a lease, Graf Co., a lessor, granted Zep, Inc., a lessee, twelve months of free
rent under a five-year operating lease. The lease was effective on January 1, year 1, and provides for
monthly rental payments to begin January 1, year 2. Zep made the first rental payment on December 30,
year 1. In its year 1 income statement, Graf should report rental revenue in an amount equal to
a. Zero.
b. Cash received during year 1.
c. One-fourth of the total cash to be received over the life of the lease.
d. One-fifth of the total cash to be received over the life of the lease. -Answer- Correct Answer: D) One-
fifth of the total cash to be received over the life of the lease.
Notes
(d) Rental revenue on operating leases should be recognized on a straight-line basis unless another
method more reasonably reflects the pattern of use given by the lessor. When the pattern of cash flows
under the lease agreement is other than straight-line, this will result in the recording of rent receivable
or unearned rent. Therefore, even though Graf received only one monthly payment in year 1 (1/48 of the
total rent to received over the life of the lease), they would accrue as rent receivable and rent revenue
an amount sufficient to increase the rent revenue account to a balance equal to one-fifth of the total
cash to be received over the five-year life of the lease.
8. As an inducement to enter a lease, Arts, Inc., a lessor, grants Hompson Corp., a lessee, nine months of
free rent under a five-year operating lease. The lease is effective on July 1, year 1 and provides for
monthly rental of $1,000 to begin April 1, year 2. In Hompson's income statement for the year ended
June 30, year 2, rent expense should be reported as
a. $10,200
b. $9,000
