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effect of lease on reported income mdash lessee and lessor on february 20 2008 topha 692668

Effect of Lease on Reported Income—Lessee and Lessor

On February 20, 2008,Topham Inc. purchased a machine for $1,200,000 for the purpose of leasing it. The machine is expected to have a 10 year life, no residual value, and is depreciated on the straight line basis to the nearest month. The machine was leased to Lutts Company on March 1, 2008, for a 4 year period at a monthly rental of $22,000. Assume that the lease payments are made at the end of the month and that the appropriate interest rate is 12% compounded monthly. There is no provision for the renewal of the lease or purchase of the machine by the lessee at the expiration of the lease term. Topham paid $60,000 of commissions associated with negotiating the lease in February 2008.

1. What expense should Lutts record as a result of the lease transaction for the year ended December 31, 2008?

2. What income or loss before income taxes should Topham record as a result of the lease transaction for the year ended December 31, 2008?

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