Chapter 17 (Accounting for Income Taxes)

Question 1

Deferred Tax Assets and Deferred Tax Liabilities are both

Answer 1

• Noncurrent

- Permanent Accounts (Show up on Balance Sheet)

Question 2

Adjusting entry at the end of the year is needed to

Answer 2

Accrue income tax expense

Question 3

Permanent Differences

Answer 3

1. In the computation of taxable income, but never in book income
2. In the computation of book income, but never taxable income

Question 4

Differences Resulting in Book Income Being Greater than Taxable Income (Exhibit 17.1)

Answer 4

1. Municipal Interest Income: Tax-free interest is reported on the financial statements as income, but is not taxable
2. Dividends Received Deduction: Corporations can deduct a portion of inter-corporate dividends received for tax purposes. However, all dividends received are reported as income on the financial statements
3. Life Insurance Death Proceeds from Key Officers or Employees: Officer’s life insurance proceeds received are reported as income on the financial statements but are not taxable

Question 5

Differences Resulting in Book Income Being Less than Taxable Income (Exhibit 17.1)

Answer 5

1. Fines and Penalties: Reported as expenses on the income statement but are not tax deductible
2. Certain meals and entertainment expenses: Reported as expenses on the income statement but are not fully tax deductible
3. Life insurance premium paid for key officers or employees: Reported as an expense on the income statement, but this cost cannot be deducted for tax purposes
4. Expenses incurred in securing tax-exempt income: Subtracted from earnings on the income statement but are not deductible for tax purposes

Question 6

Most frequently seen circumstances:

Answer 6

• Municipal Interest Income
• Life Insurance Death Proceeds
• Fines and Penalties
• Life Insurance Premiums

Question 7

Effective Rate Calculation

Answer 7

Income Tax Expense/Book Income Before Taxes

Question 8

If the company ONLY has temporary differences

Answer 8

Effective Rate = Statutory Rate

Question 9

Temporary Differences

Answer 9

Occur when the book treatment and the tax treatment for a given transaction are different in a given year but will be the same over the life of the firm

Question 10

Installment Sales

Answer 10

• Deferred Tax Liability
• Installment Sales Receivable is higher for book than for tax
• Tax Treatment: Recognize revenue only when cash is received
• Book Treatment: Recognize revenue and installment sales receivable when the product is sold

Question 11

Depreciation

Answer 11

• Deferred Tax Liability
• Carrying Value of property, plant, and equipment is higher for book than for tax
• Tax Treatment: Use accelerated method to calculate depreciation expense
• Book Treatment: Record depreciation using straight line

Question 12

Unearned Revenues (Advanced Receipts)

Answer 12

• Deferred Tax Asset
• Unearned Revenues higher for book than for tax
• Tax Treatment: Recognize Revenue only when cash is received
• Book Treatment: Recognize revenue and decrease liability when earned

Question 13

Contingent Liabilities

Answer 13

• Deferred Tax Asset
• Contingent Liabilities higher for book than for tax
• Tax Treatment: Deduct the loss only when amounts are known
• Book Treatment: Recognize the loss and liability when it is probable and estimable

Question 14

Bad Debt Expense

Answer 14

• Deferred Tax Asset
• Net Accounts Receivable lower for book than for tax
• Tax Treatment: Deduct the bad debt expense only when specific amount is written off
• Book Treatment: Deduct the bad debt expense and record a contra-asset in the period of the sale

Question 15

Warranty Liability

Answer 15

• Deferred Tax Asset
• Warranty liability higher for book than for tax
• Tax Treatment: Deduct only when the warranty service is performed
• Book Treatment: Expense the estimated cost of repair and record a liability when the product is sold

Question 16

HAVE to take into account–Deferred Tax Asset–Determine Realizability

Answer 16

-More Likely Than Not (Greater than 50% chance of being realized)

Question 17

When Tax Rates Change

Answer 17

-In the year in which the new tax rates are ENACTED, must adjust balances in deferred tax asset and deferred tax liability accounts

Question 18

Net Operating Loss (NOL) for Tax Purposes

Answer 18

When tax deductions for a given year excess taxable revenue for a given year

Question 19

Currently, a Net Operating Loss (NOL) can be

Answer 19

Carry forward to future years with taxable income, can be used to offset 80% of taxable income of a future year

Question 20

Statutory Rate

Answer 20

Current federal tax rate, which is 21% (federal/state/local tax rate, enacted tax rate)