Kaluzniak Corporation leased equipment to Moeller, Inc. on January 1, 2020. The lease agreement called for annual rental payments of $1,137 at the beginning of each year of the 3-year lease. The equipment has an economic useful life of 7 years, a fair value of $7,000, a book value of $5,000, and Kaluzniak expects a residual value of $4,500 at the end of the lease term. Kaluzniak set the lease payments with the intent of earning a 6% return, though Moeller is unaware of the rate implicit in the lease and has an incremental borrowing rate of 8%. There is no bargain purchase option, ownership of the lease does not transfer at the end of the lease term, and the asset is not of a specialized nature. (a) Explain (and show calculations) how Kaluzniak arrived at the amound of the rental payments used in the lease agreement.
(b) Prepare the entries for Kaluzniak for 2017.
(c) How would Kaluzniak's accounting in part (a) change if it incurred legal fees of $700 to execute the lease documents and $500 in advertising expenses for the year in connection with the lease?