You are an audit senior for Burns & Allen, LLP. One of the audit partners receiv

Question

You are an audit senior for Burns & Allen, LLP. One of the audit partners received a call from Brenda Parker, CFO of a publicly traded client, Toys For U (“Toys”). Toys is a retailer with 25 locations and is expanding each year. Toys leases retail space on long-term leases ranging from 10 to 15 years. Most of the leases have multiple renewal options. Under current rules, the arrangements are reported as operating leases. Brenda read that changes are coming to reporting for leases and wants to prepare for the changes that will be required. The audit partner at your firm, Erica Dalton, has asked you to prepare a memo to the Toys for U audit file explaining the proposed changes to accounting for leases. She asked that you include an example in the memo.

Write a memo to the “Toys R U Audit File.” Be sure to include the following:

Brief description of current reporting rules for leases

Description of proposed reporting rules for leases

Example of application of proposed rules for a lesseeAssume the following lease terms:

Identifiable Asset: Facility (building) lease

Term 10 years – assume no renewal option

Monthly lease payments beginning at $125,000 per month over the ten year lease term

The risk free rate is 2%, Toys R U borrows at an incremental rate of 6%, and the lessor rate is unavailable

Assume the lease commences on January 1, 2021 and the first payment is due February 1, 2021

Include the following journal entries:

Recording of lease related asset and liability at lease inception – use “Capitalized Lease Asset” and “Capitalized Lease Liability” as account titles

Recording of the monthly expense for the first two months – do each month separately

Attach an Excel worksheet to your memo with the following:

Calculation of the amount of the capitalized lease asset and related lease liability

An amortization schedule for the lease term

Explanation / Answer

Current reporting rule is operating lease: Operating lease is the lease which transfer thr right to use of an asset but not transfer of ownership of asset .so the rental cost is shown as operating expense.

monthly lease =125000 over 10 yrs = pv for 10yrs of 6%

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