F5 - Investments, Statement of Cash Flows and Income Taxes

Question 1

F5M1

Answer 1

Financial Instruments

Question 2

Debt Securities are classified into 3 categories

Answer 2

trading securities: FV throuohg p & L on income stmt

available for sale securities: FV through OCI

held to maturity securities: amortized cost

Question 3

What are trading securities?

Answer 3

They are bought for short term profit,
they are valued at fair value with unrealized gains or losses going to net income

Question 4

What are available for sale securities?

Answer 4

held for medium /longterm but might be sold, valued at FV but unrealizing gains or losses go to OCI

Question 5

What are held to maturity securities?

Answer 5

intends and can hold until maturity, valued at amortized cost
no recog of gains or losses

Question 6

reclassification of debt securities

Answer 6

if moving between categories, adjust value to fv

unrealized gains /losses may go to net income or OCI, depending on cateegory

Question 7

Impairment of debt securities

Answer 7

if the issuer is likely to default (not pay), recognize credit losses in net income

Question 8

When there is a sale of debt security

Answer 8

Gain or loss = selling price - CV

trading recognized in neet income

afs: relaized gains and losses move form OCI to net income

Question 9

Common Equity

if you own less than 20%

if you own 20-50%

if your own more than 50%

Answer 9

< 20% no sig influence trading security
- classified as FV through net income, gains and losses affect NI

20-50 significant influence, equity method
- recognize a share of the investee’s income in net income
- dividends reduce the investment balance

more than 50%= acquisition
combine financial statements of both companies

Question 10

What is Fair Value Option?

Answer 10

Companies can choose to measure some financial assets and liabiltiies at fair value instead of historical cost

one chosen, fvo is irrevocable, and has to be applied to the entire instrument

people use it to avoid mismatches in financial reporting

can apply to financial assets and liabilities but not investments in subsidiaries, pension benefit and leases

Question 11

Companies must disclose

Answer 11

1. FV hierarchy level 1,2 or 3
2. unrealized g/l in net income or oci
3. methods used for measuring FV

Question 13

Dividend revenue, under the fair value method, should be recognized to

Answer 13

the extent of cumulative earnings since acquisition and return of capital beyond that point.

Question 14

Concentration of credit risk

Answer 14

the risk that the other party to the instrument will not perform - must be disclosed

Question 15

Disclosure of market risk

Answer 15

The risk of loss from changes in market prices - is encouraged but not required

Question 16

F5 M6/7

Question 17

What are Permanent Differences?

Answer 17

These are differences between pretax financial income and taxable income that will never reverse.

They affect either book income or taxable income, but not both

They are usually nontaxable, nondeductible, special tax allowances

Question 18

Examples of Permanent Differences

Answer 18

1. Interest income from municipal bonds
2. Life insurance proceeds from a policy on a key employee, when the company is the beneficiary
3. Premiums paid for life insurance policies where the company is the beneficiary
4. Tax Penalties/fines paid to tax authorities
5. Federal Income taxes
6. state and local interest income

Question 19

What are Temporary Differences?

Answer 19

These are differences btw the tax basis of an asset or liability, and its reported amount in the financial statements that reverse overtime.

They result in future taxable amts or future deductible amts

They are also referred to as timing differences

Question 20

Temporary Differences Examples

Answer 20

1. Depreciation Expense
2. Net Operating Loss
3. Unearned Revenue
4. Warranty Accruals
5. Rent received in advance
6. Uncollectible accounts expense
7. Prepaid Expense
8. Accounting for sales of property under the installment method

Question 21

How to tell if perm difference will add or subtract from TI?

Answer 21

1) non deductible expense (fine, penality) -> add to TI
2) tax exempt income (mun. bond int) subtract from TI

Question 22

How to tell if temp difference will add or subtract from TI?

What are the 4 basic causes of temp difference?

Answer 22

TI < financial income (accrued rev) -> add to TI DTL
TI > financial income (acc. depr) -> subtract from TI DTA

Question 23

What is current income tax expense?

Answer 23

This is the amt of income tax payable for the current year, based on taxable income. It is calculated by multiplying taxable income by the current tax rate

Question 24

Equation for current Income tax expense?
IRS

Answer 24

Gross income
(deductions)
= TI
* effective tax rate
= current income tax expense

Question 25

Income Tax Expense:

Answer 25

This is the total tax expense reported on the income statement, which includes both the current portion and the deferred portion.

Question 26

Equation for Total Tax Expense GAAP

Answer 26

Revenue (expenses) = NI +-DTL/DTA = total tax expense

Question 27

If there is a DTA, total income tax expense = If there is a DTL, total income tax expense =

Answer 27

current income tax expense + DTL or - DTA

Question 28

Deferred Tax Liability

Answer 28

owe more taxes in future, pay less now

Question 29

Deferred Tax Asset (DTA)

Answer 29

owe less taxes in the future, pay more now

Question 30

Intraperiod Income Tax Allocation

Answer 30

GAAP requires the allocation of income tax expense to specific items on the income statement, such as accounting principle changes and discontinued operations, but not operating income

Question 31

Effective Tax Rate and its equation

Answer 31

the actual tax rate in current period used to figure current income tax expense today's rate tax liability / gross income = effective tax rate

Question 32

Enacted Tax rate

Answer 32

future rate, used to calculate DTL or DTA

Question 33

Valuation Allowance:

Answer 33

This is a contra-asset account that reduces a deferred tax asset when it is more likely than not that some portion of the DTA will not be realized.

Question 34

Deferred Tax Liability (DTL) Equation or Deferred Tax Asset (DTA) Equation

Answer 34

temp difference x enacted rate

Question 35

Is a fine/penalty a temp or perm difference? And Does it increase TI or decrease TI?

Answer 35

Perm (fines are never deductible for tax purposes) Increases (since the expense was deducted in financial statements but is not allowed for tax purposes, you need to add it back)

Question 36

Is a municipal bond interesr a temp or perm difference? And Does it increase TI or decrease TI?

Answer 36

Permanent difference (tax-exempt income is never taxed) Decreases TI (since it’s included in financial income but not taxable income, you subtract it)

Question 37

Is a warranty expense a temp or perm difference? And Does it increase TI or decrease TI?

Answer 37

Temporary difference (this expense will be deducted for tax purposes when paid, creating a timing difference) (since the expense is not deductible yet for tax purposes, you add it back now)

Question 38

Is accelerated depreciation a temp or perm difference? And Does it increase TI or decrease TI?

Answer 38

Temporary difference (this is a timing difference that will reverse in future years when depreciation balances out) Decreases TI (it decreases TI because more depreciation was taken for tax purposes, lowering taxable income now compared to financial income)

Question 39

GAAP requires intraperiod income tax allocation to ...

Answer 39

income from continuing operations accounting principle changes treated retrospectively to discontinued operations not to operating income

Question 40

F5 M1-4

Question 41

Financial Instruments are

Answer 41

Investments in Other Companie's Stocks/Bonds Including: Debt Securities Equity Securities

Question 42

Type of Debt Securities

Answer 42

Trading Security: FV through NI AFS : FV through OCI HTM: amortized cost

Question 43

Equity Security Classifications

Answer 43

Own < 20% no significant influnence - trading security : FV through NI -AFS : FV through NI Own 20%-50% = significant influence (equity method) Own> 50% acquisition (consolidate)

Question 44

F5M2

Answer 44

Equity Method

Question 45

Equity method is what kind of influence and ownership?

Answer 45

20-50% and has significance influence

Question 46

significant influance means

Answer 46

participating in operating and financing policy

Question 47

Five step approach: Equity method

Answer 47

1. initial transaction (% of subsidiary) 2. % of acquired subsitdiary's net income 3. & of subsidiary's dividends distributed 4. amortization of FV adjustment (FMB-NBV of net identifiablee assets using straight-line method 5. calculation of goodwill (difference beetween acquisition price of subsidiary and FMV of ent identifiable assets)

Question 48

Step 1 of Equity Method

Answer 48

Record the initial transaction purchase price (cost) (+) direct acquisition fees = total investment in investee JE Investment in Investee Cash

Question 49

Step 2 of Equity Method

Answer 49

record share of income net income of sub * ownership % = share of earnings JE Investment in Investee equity in investee income (record the opposit JE if the investee generated a net loss

Question 50

Step 3 of Equity Method

Answer 50

Record share of dividends dividends declared *ownership % =share of dividend Cash Investment in Investee

Question 51

Step 4 of Equity Method

Answer 51

Amortize the premium FMV of ent identifiable assets (-) NBV of net identifiablee assets = difference to amortize difference to amortize/ useful life = amortization of premium make sure the fmv and nbv is 40% Equity investee income investment in investee

Question 52

Step 5 of Equity Method

Answer 52

Calculation of Goodwill Purchase price - FMV of net idenetificable assets = GW no journal entry

Question 53

What is the overall impact to financial statements for equity method?

Answer 53

share of earnings - amort = net impact to net income statement beg investment in inveetee + share of net income - share dividend - amortization premium = end invest on bal sheet

Question 54

impairment of equity method investment

Answer 54

if CV > FV = impairment loss

Question 55

Impairment loss

Answer 55

Beg - share of net losses - amort of premium = end cv FV of investment - CV = impairment loss which decreases net income

Question 56

F6+7

Answer 56

Income Taxes

Question 57

equation for taxable income

Answer 57

gross income: (deductions) =taxable income *effetive tax rate = current income tax expense

Question 58

what are temp differences

Answer 58

in period different from tax return 1. depreciation 2. net operating loss 3. prepaid expenses 4. unearned revenue these result in dta/dtl

Question 59

what are permanent differences

Answer 59

items on the income stmt 1. state and local interest income 2. life insurance premiums 3. penalties 4. federal income taxes 5. municipal bond interest

Question 60

total tax expense equation

Answer 60

net income revenue (expenses) =net income +DTL/DTA =total tax expense

Question 61

mind map for accounting income taxes

Answer 61

step 1: identifying temporary vs permanent differences step 2: calculate current income tax expense step 3: calculating any deferred tax liabilities or deferred tax expense step 4: calculate the reported income tax expense

Question 62

the effective tax rate is

Answer 62

= tax liability / gross income today's rate used to calc current income tax expense

Question 63

the enacted tax rate is

Answer 63

is the future rate and used to calculate dta /dtl temp difference * enacted rate = dtl /dta

Question 64

if financial income > taxable income

Answer 64

= dtl

Question 65

if financial income < taxable income

Answer 65

= dta

Question 66

if there is a dtl

Answer 66

add that amt to the current income tax expense = total income tax expense

Question 67

if there is a dta

Answer 67

subtract that amt from the current income tax expense = total income tax expense

Question 68

BLT=A

Answer 68

(Book less than Tax = Asset) If a particular transaction/entry makes book income less than tax income, then you have a deferred tax asset. If book income is more than tax income, it’s a deferred tax liability.