13. Accounting for Income Taxes Flashcards
Describe what a permanent difference between tax accounting and financial accounting is and list some examples of permanent differences.
A permanent difference occurs when GAAP revenues are not taxable, or GAAP expenses are not deductible under the tax law. The differences will never reconcile. Some examples of non-taxable revenues include: interest from some bonds issued by state and municipal governments, and life insurance proceeds on the death of an insured executive. Some examples of non-deductible expenses include fines and penalties, premiums paid for life insurance policies when the payer is the beneficiary, and 50% of meals and entertainment expenses.
Describe what a temporary difference between tax accounting and financial accounting is and list some examples of temporary differences.
A temporary difference occurs when revenue or expenses are recorded in different periods for book purposes compared to tax purposes. Some examples include: depreciation that is accelerated for tax purposes but straight-line for GAAP, and estimated expenses not deducted until paid for tax but accrued before payment under GAAP.
Describe what causes a deferred tax asset (DTA) and a deferred tax liability (DTL) and describe how DTAs and DTLs are calculated.
- Deferred Tax Asset: When taxable income is recognized before book income due to timing differences in the recognition of revenue or expense items. The DTA is calculated using enacted tax rates from the future periods when the timing differences are expected to reverse.
- Deferred Tax Liability: When book income is recognized before taxable income due to timing differenced in the recognition of revenue or expense items. The DTL is calculated using enacted tax rates from the future periods when the timing differences are expected to reverse.
Describe what a net operating loss (NOL) is and how it is treated for tax purposes.
An NOL occurs when an organization’s tax-deductible items exceed its taxable income items. An NOL is a tax return concept, not a GAAP loss. An organization can use NOLs to offset taxable income in another year through NOL carryback (2 years) and carryforward (20 years) provisions in the tax law.
Describe the carryback and carryforward provisions for net operating losses (NOLs).
An NOL can be carried back to the immediately preceding two years’ taxable income, or carried forward to the next 20 years’ taxable.
If an organization can carry back an NOL to prior years, it should generally do so because it generates an immediate cash flow because the organization will immediately file for a refund of taxes previously paid. If tax rates are expected to increase substantially in future years, organizations may want to forgo the NOL carryback to reduce the future years’ higher taxes.
