ACC 377 Lecture Notes - Lecture 1: Deferred Tax, Income Tax, Deferred Income

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18 May 2018

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Financial statements and tax statements have different goals and audiences

Two types of differences in financial pretax income and taxable income

•Tepoa diffeees

•Peaet diffeees

Temporary differences

•Both fiaial ad ta agee o the ilusio of a ite ut diffe i teatet o tiig

•Results i a tepoa diffeee that ust eetuall eese afte  o oe eas

Permanent differences

•Fiaial ad ta hae fudaetall diffeet ules on the inclusion of an item

•Results i a peaet diffeee that ee eeses

Examples that give rise to temporary differences

•Epeses iitiall eogized  oe ad ot the othe

•Asset ipaiet o ite-downs (temporary until the asset is sold)

•Diffeet ates of depeiatio tepoa util the asset is sold

•Colletig ash adaes that ae taale ioe ut ot eogized as eeue i aoutig pe-tax

income

•Iuig a epese ad auig a liailit tepoa util the epese is paid)

Examples that give rise to permanent differences

•Poeeds/ioe eogized  oe ad ot the othe ie. o-taxable income)

•Eaig iteest o goeet ods hih ae o-taxable)

Expenses vs. payments and accounting vs. taxable income

•If a epese is iued ad a liailit aises to pa it i the futue, it is epesed fo aoutig

income but not taxable income

•If a epese is paid, the it is taale uless stated otheise

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Do companies incorporate financial and tax differences into their disclosures?

•Yes; opaies epot ioe ta epese ad a futue ta effets of the eets that happeed i

the current year

•Total ta epese iludes oth

Deferred tax liability (DTL)

•Aise he aoutig peta ioe > taxable income

•Taes ae postpoed to e paid late athe tha o

•Postpoes he a aout is iluded i taale ioe

Deferred tax asset (DTA)

•Aise he taale ioe > aoutig peta ioe

•Moe taes ae paid o athe tha late, ut e get a tax benefit in the future

•The aout is iluded i taale ioe iediatel

Which would a firm rather have, a DTL or a DTA

•A DLT; paig taes late saes oe oe i the peset

•Hee, liailities ae good eause the essetiall gie us a free loan we don't have to pay back until

later

Income tax expense

Tax expenses incurred during the period

Income tax benefit

Tax benefits granted during the period due to an NOL

Income tax payable

Taxes owed to the government for that period

Income tax receivable

Taxes owed to the company due to an NOL

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How does an increase/decrease in a DTL affect if tax expense is greater or less than tax payable?

•DTL iease → Ta epese > Ta paale

•DTL deease → Ta paale > Ta epese

How does an increase/decrease in a DTA affect if tax expense is greater or less than tax payable?

•DTA iease → Ta paale > Ta epese

•DTA deease → Ta epese > Ta paale

How does a permanent difference affect if tax expense is greater or less than tax payable?

It doesn't; without a temporary difference they are equal

Steps to calculate tax expense

•Ceate a tale to fid the taale ioe

•Calulate taes paale

•Fid the DTA/L EBs

•Fid the DTA/L deit/edits added i the T aout

•Sole fo the ioe tax expense

Taxable income table calculations

Pretax income

+ Accounting depreciation

- Taxable depreciation

+ Other DTAs

- Other DTLs

+/- Other expenses

= Taxable income

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Document Summary

Financial statements and tax statements have different goals and audiences. Two types of differences in financial pretax income and taxable income: te(cid:373)po(cid:396)a(cid:396)(cid:455) diffe(cid:396)e(cid:374)(cid:272)es, pe(cid:396)(cid:373)a(cid:374)e(cid:374)t diffe(cid:396)e(cid:374)(cid:272)es. Temporary differences: both fi(cid:374)a(cid:374)(cid:272)ial a(cid:374)d ta(cid:454) ag(cid:396)ee o(cid:374) the i(cid:374)(cid:272)lusio(cid:374) of a(cid:374) ite(cid:373) (cid:271)ut diffe(cid:396) i(cid:374) t(cid:396)eat(cid:373)e(cid:374)t o(cid:396) ti(cid:373)i(cid:374)g, results i(cid:374) a te(cid:373)po(cid:396)a(cid:396)(cid:455) diffe(cid:396)e(cid:374)(cid:272)e that (cid:373)ust e(cid:448)e(cid:374)tuall(cid:455) (cid:396)e(cid:448)e(cid:396)se afte(cid:396) (cid:1005) o(cid:396) (cid:373)o(cid:396)e (cid:455)ea(cid:396)s. Permanent differences: fi(cid:374)a(cid:374)(cid:272)ial a(cid:374)d ta(cid:454) ha(cid:448)e fu(cid:374)da(cid:373)e(cid:374)tall(cid:455) diffe(cid:396)e(cid:374)t (cid:396)ules on the inclusion of an item, results i(cid:374) a pe(cid:396)(cid:373)a(cid:374)e(cid:374)t diffe(cid:396)e(cid:374)(cid:272)e that (cid:374)e(cid:448)e(cid:396) (cid:396)e(cid:448)e(cid:396)ses. Examples that give rise to permanent differences: p(cid:396)o(cid:272)eeds/i(cid:374)(cid:272)o(cid:373)e (cid:396)e(cid:272)og(cid:374)ized (cid:271)(cid:455) o(cid:374)e a(cid:374)d (cid:374)ot the othe(cid:396) (cid:894)ie. (cid:374)o(cid:374)-taxable income, ea(cid:396)(cid:374)i(cid:374)g i(cid:374)te(cid:396)est o(cid:374) go(cid:448)e(cid:396)(cid:374)(cid:373)e(cid:374)t (cid:271)o(cid:374)ds (cid:894)(cid:449)hi(cid:272)h a(cid:396)e (cid:374)o(cid:374)-taxable) Do companies incorporate financial and tax differences into their disclosures: yes; (cid:272)o(cid:373)pa(cid:374)ies (cid:396)epo(cid:396)t i(cid:374)(cid:272)o(cid:373)e ta(cid:454) e(cid:454)pe(cid:374)se a(cid:374)d a(cid:374)(cid:455) futu(cid:396)e ta(cid:454) effe(cid:272)ts of the e(cid:448)e(cid:374)ts that happe(cid:374)ed i(cid:374) the current year, total ta(cid:454) e(cid:454)pe(cid:374)se i(cid:374)(cid:272)ludes (cid:271)oth.

Related Questions

In preparing Landers financial statements and income tax returnfor 2016, you discovered the following information:

The lease arrangement with Krump was in effect throughout2016;

Landers acquired marketable equity securities for $75,000 during2016. At December 31, 2016, the fair value of the securities was$90,000. Landers classified the securities as trading (hint: onlyrealized gains and losses are reported on the tax return);

Landers earned $26,000 on Washington State bonds in 2016;

The premium on the key-man life insurance policy increased to$33,000 and was paid in early January;

Landers did not acquire any capital assets in 2016;

The founder of Landers died unexpectedly in December, 2016, andthe company received life insurance proceeds of $500,000 in lateDecember.

Landers made additional installment sales in 2016. The gainrecognized on the financial statements and the income tax returnare shown below:

Gainreported on incomestatement Gain realized on tax return

2016 $180,000 $44,000

2017 50,000

2018 50,000

2019 36,000

Landers began estimating its warranty expense in 2016. For 2016,the company estimated

its warranty expense to be $66,000. Actual warranty work done onproducts sold in 2016

was $43,000.

Landers used the direct charge off method of recognizing its baddebts expense in 2015. Customersâ accounts written off in 2015amounted to $9,000. For 2016, Landers estimated its bad debtsexpense to be $15,000. Customersâ accounts written off during 2016amounted to $10,000.

Interest earned on U.S. Treasury bills is 2016 amounted to$18,000.

Additional information for 2016:

Income before incometax $1,425,000

Taxable income on line28 667,000

Taxrate 35%

Estimated income tax payment eachquarter 57,000

For each of the following questions, select the best answer andtype the letter on the answer sheet that follows the questions incapital letters.

Parts A through S involve the reconciliation of pretaxaccounting income to taxable income (schedule M-1) for 2016. Foreach question, indicate the type of difference (temporary

or permanent) and indicate whether the amount of the item isadded or subtracted to determine taxable income for 2016.

A. The unrealized gain related to trading securities purchasedin 2016:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

B. The rent earned in 2016:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

C. The excess of tax depreciation over book depreciation in2016:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

D. The gain related to installment sales made in 2015:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

E. The gain related to installment sales made in 2016:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

F. The insurance proceeds received on the key-man life insurancein 2016:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

G. The excess of warranty expense per books over warrantyexpense per tax:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

H. The excess of bad debts expense per books over bad debtsexpense per tax:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

I. The interest earned on U.S. Treasury bills in 2016 is a

Temporary difference that should be deducted on line 7 inschedule M-1.

Permanent difference that should be added on line 4 in scheduleM-1.

Neither A nor B.

J. At December 31, 2016, Landers legal tax obligation is

$233,450.

$228,000.

$5,450.

$5,540.

K. At December 31, 2016, total future taxable amounts were

$212,000.

$269,000.

$293,000.

$278,000.

$284,000.

L. At December 31, 2016, total future deductible amountswere

$56,000.

$28,000.

$38,000.

$61,000.

$69,000.

M. What is the balance in the deferred tax liability at December31, 2016?

$74,200.

$99,400.

$94,150.

$102,550.

$94,650.

N. What is the balance in the deferred tax asset at December 31,2016?

$21,350.

$19,600.

$ 9,800.

$13,300.

$24,150.

O. For the year ended December 31, 2016, Landers deferred taxliability

A. increased.

B. decreased.

P. For the year ended December 31, 2016, Landers deferred taxasset

A. increased.

B. decreased.

Q. As a result of the changes in Landers deferred tax asset andliability for 2016, income tax

expense

A. increased.

B. decreased.

R. For the year ended December 31, 2016, Landers tax expense forfinancial reporting is

$322,600.

$312,400.

$326,200.

$324,200.

S. Landers effective income tax rate for 2016 is

Higher than 35%.

Lower than 35%.

Landers Inc. began business in 2015. In preparing Landersfinancial statements and income tax return for 2015, you discoveredthe following:

Landers leased part of its office building to Krump on August 1for an advance payment of $220,000. The lease covers 20 months.

Landers earned $25,000 of interest from its investment inWashington State bonds.

Landers paid Prudential Life Insurance a $30,000 premium inearly January for a key-man life insurance policy.

Landers acquired capital assets for $324,000. For financialreporting, the assets have a 6-year useful life and $0 salvage. Forincome taxes, the capital assets are 5-year property and cost willbe recovered using the mid-year convention.

Year Depreciation expense

Accounting Tax

2015 $54,000 $65,000

2016 54,000 104,000

2017 54,000 62,000

2018 54,000 37,000

2019 54,000 37,000

2020 54,000 19,000

Landers made installment sales of qualified property in 2015.The gain recognized on the financial statements and the income taxreturn are shown below:

Gainreported on incomestatement Gain realized on tax return

2015 $150,000 $38,000

2016 40,000

2017 40,000

2018 32,000

Additional information for 2015:

Income before incometax $825,000

Taxable income on line28 872,000

Taxrate 35%

Estimated income tax paid eachquarter 75,000

Select the best answer for each of the following questions andtype the letter on the answer sheet in capital letters.

Questions A through E involve the reconciliation of accountingincome before income taxes to taxable income (schedule M-1) for2015. For each question, indicate the type of difference (temporaryor permanent) and indicate whether the amount of the item is addedor subtracted to determine taxable income for 2015.

A. The rent received from Krump:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

B. The excess of tax depreciation expense over bookdepreciation:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

C. The interest revenue on Washington State bonds:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

D. The insurance premium on the key-man life insurancepolicy:

Type ofdifference Treatment in thereconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

E. The gain related to the installment sales:

Type of difference Treatment inthe reconciliation

A. Permanent Added

B. Temporary Subtracted

C. Permanent Subtracted

D. Temporary Added

F. For the year ended December 31, 2015, Landers current taxexpense is

$305,200.

$288,750.

$302,500,

$288,570.

G. At December 31, 2015, Landers legal tax obligation is

$305,200.

$5,200.

$11,250.

$11,430.

H. At December 31, 2015, total future taxable amounts are

$137,000.

$123,000.

$148,000.

$112,000.

$153,000.

I. At December 31, 2015, total future deductible amounts are

$138,000.

$132,000.

$165,000.

$162,000.

$195,000.

J. Landers effective income tax rate for 2015 is

Higher than 35%.

Lower than 35%.

K. Which of the following statements is correct?

The net change in deferred taxes for 2015 is a debit.

The net change in deferred taxes for 2015 is a credit.

Information for Entity A for the year ended December 31, 2018 ($ in millions):

Income from continuing operations before tax	$160
Temporary differences (all related to operating income):
Accrued warranty expense in excess of expense included in operating income	12
Depreciation deducted on tax return in excess of depreciation expense	32
Permanent differences (all related to operating income):
Nondeductible portion of entertainment expense	8
Interest received on municipal bonds	3
Balance in deferred tax asset account, January 1, 2018	1
Balance in deferred tax liability account, January 1, 2018	2
The applicable enacted tax rate for all periods is 40%.

Show work.

A. Prepare the appropriate journal entry to record income taxes.

B. What is Entity A's net income?

C. Sometimes a temporary difference will produce future deductible amounts. Explain what is meant by future deductible amounts. Describe at least one situation that has this effect, for example, one example is when rent revenue is collected in advance from tenants (deferred rent revenue for financial accounting purposes) but will be recognized as the tenants occupy the property. You can think of others. How are future deductible amounts recognized in the financial statements? As between deferred tax assets and deferred tax liabilities, which would management prefer and why?

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ACC 377 Lecture Notes - Lecture 1: Deferred Tax, Income Tax, Deferred Income

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