Lease Purchase JE

Have a client who leased equipment for several years with option to buy for $100 at the end of the lease. Client exercised option and purchased for $100. So client now has an asset worth $100.. Right?

Client says equipment's FMV is $20K if they sold it. Wants the $20K to reflect on the books.

What would be the appropriate JE to do this.

$100 to Equipment and the rest to inventory?

Any help appreciated...

TC

It sounds like this was a capital lease (conditional sales contract), and not an operating lease, since there was a $100 BPO. As such, the equipment should have been capitalized on the books at the beginning of the lease, and depreciated, and appropriate interest shown.

Sounds like it may have been handled as an operating lease, where the payments were deducted as an expense as they were paid. You'll need to confirm how things were handled.

Yes, it was handled as an Operating Lease.

My thought is that you would have to go back and amend previous tax returns to handle properly. If you do not do that, the only thing you could do in the year of buy-out would be to show the equipment with a purchase price of $100. The FMV would not be shown on the books in either case.

Those are my thoughts as well. I'll have to discuss it with client and get copies of prior year tax returns. This is their second year with me so I don't know how deep this rabbit hole is.

Appreciate your feedback..

Thanks

Here's a random thought. Would amending make a difference since it's technically a bookkeeping adjustment. Lease payments were already deducted as an expense. What would really be accomplished by amending?

Well, depending on what type of depreciation was used and the life of the equipment could make a difference. Also, when the equipment is sold, it could make a difference in the type of gain.

Yep.. Those thoughts crossed my mind. Guess I'll have to run the numbers...

Thanks for your input.

I am sure once you run the numbers you will see that the lease expense equals what the depreciation and interest expense would have been.

Post the asset to the books based on the original acquisition cost and offset with accumulated depreciation.

Correct, which is what I did. But client claims asset is worth more than what the books say.

Client paid $100 in buy out but claims asset is still worth $20K. Talk about a deal!

They are basically trying to prop up their financials but i just don't see it. It is what is... Right?

Who knows what the client wants or thinks they want. The asset is reported at historical cost. How much did it cost several years ago?

I would not amend. You are at the end of the lease. The only difference is the timing of the deductions, not the total amount.

They are the same either way. Put the $100 in equipment lease expense and call it a day. If anything, the client received a lower total tax benefit by considering this an operating lease.

If you choose, for books, debit equipment and credit accumulated depreciation for the same same amount assuming 5 year property.

Tax follows GAAP. Impute an interest rate to the monthly payments and figure out the *cost* of the asset at the inception of the lease if you cannot find the original cost info.