(Lessee Entries, Capital Lease with Unguaranteed Residual Value) On January 1, 2012, Adams Corporation signed a 5-year no cancelable lease for a machine. The terms of the lease called for Adams to make annual payments of $9,968 at the beginning of each year, starting January 1, 2012. The machine has an estimated useful life of 6 years and a $5,000 unguaranteed residual value. The machine reverts back to the lessor at the end of the lease term. Adams uses the straight-line method of depreciation for all of its plant assets. Adams’s incremental borrowing rate is 10%, and the lessor’s implicit rate is unknown.
(a) What type of lease is this? Explain.
(b) Compute the present value of the minimum lease payments.
(c) Prepare all necessary journal entries for Adams for this lease through January 1, 2013.