Dr. Frankenstein Inc. constructs laboratory equipment with an estimated life of 12 years and leases it to Dr. Jekyll Inc. for a period of 10 years beginning on January 1st, 2005. The normal selling price of this equipment is $343,734.34 and its value at the end of the lease term is estimated to be $15,000. Jekyll agrees to make annual payments at the beginning of each year for the equipment. They also agree to directly pay $5,000 in annual insurance costs (paid at the end of each year) and guarantees that the equipment will be worth at least $10,000 at the end of the lease. Frankenstein incurred costs of $210,000 to construct the equipment and $14,000 in negotiating and closing the lease. Frankenstein sets the annual payments based on the fair market value of the equipment and requires a 10% return on the lease. They have determined that collectibility of the lease payments is reasonably assured and that no additional costs will be incurred. Both companies have December 31st fiscal year ends and depreciate their assets using the straight-line method. Dr. Jekyll has an 11% borrowing rate, although it knows the implicit rate Frankenstein uses. The laboratory equipment has a fair market value of $7,000 at the end of the lease. Its salvage value is $2,000.
Required:
1. Compute the annual payments Frankenstein requires for the lease. Check all four Group I criteria to determine whether this is a capital lease for the lessee. Check all four Group I criteria and the Group II criteria to determine whether this is a capital lease for the lessor.
2. Prepare the 10-year lease amortization schedule for the lessee. Round all numbers to the nearest cent.
3. Prepare the 10-year lease amortization schedule for the lessor. Round all numbers to the nearest cent.
4. Prepare all the lessee and lessor journal entries through 1/1/06. These may be rounded to the nearest dollar.
5. Prepare the lessee and lessor journal entries for 12/31/14, the date when the lease ends. These may be rounded to the nearest dollar.