FAR: Income Tax: 4/22/2018 Flashcards
Tara Corp. uses the equity method of accounting for its 40% investment in Flax, Inc.’s common stock. During 20X5, Flax reports earnings of $750,000 and pays dividends of $250,000.
Assume that:
All the undistributed earnings of Flax will be distributed as dividends in future periods.
The dividends received from Flax are eligible for the 80% dividends-received deduction.
There are no other temporary differences.
Tara’s 20X5 income tax rate is 30%.
Enacted income tax rates after 20X5 are 25%.
Tara elected early application of FASB Statement No. 109, Accounting for Income Taxes. In its December 31, 20X5 balance sheet, the increase in the deferred income tax liability from the above transactions would be
1) $10,000
2) $12,000
3) $15,000
4) $18,000
10,000
Twenty percent of the $250,000 dividends will be recognized in both income tax expense and income tax liability, and this amount does not, therefore, contribute to the deferred tax liability. The correct answer is $10,000.
The deferred tax liability ending balance in this problem equals the change in the deferred tax liability for the period, because the firm adopted SFAS No. 109 in this period. The change in the deferred tax liability is the future tax effect of the amount of income from the investment that is expected to be taxable in the future, using enacted tax rates. That amount is $10,000 = .25(.20)(.40)($750,000 − $250,000).
The ($750,000 − $250,000) amount represents the total future earnings difference between tax and book accounting. The .20 represents the proportion of income that will ultimately be taxed, and the .25 is the future enacted tax rate. The .40 is the proportion ownership. The final result, $10,000, is the anticipated future tax liability, based on current transactions.
Bart, Inc., a newly organized corporation, uses the equity method of accounting for its 30% investment in Rex Co.’s common stock. During 20X5, Rex paid dividends of $300,000 and reported earnings of $900,000. In addition:
The dividends received from Rex are eligible for the 80% dividends-received deduction.
All the undistributed earnings of Rex will be distributed in future years.
There are no other temporary differences.
Bart’s 20X5 income tax rate is 30%.
The enacted income tax rate after 20X5 is 25%.
In Bart’s December 31, 20X5 balance sheet, the deferred income tax liability should be
1) $10,000
2) $9,000
3) $5,400
4) $4,500
$9,000
The amount to be used as the basis for the future temporary difference is that from the dividends yet to be received on income earned by Rex through 20X5.
Fern Co. has net income, before taxes, of $200,000, including $20,000 interest revenue from municipal bonds and $10,000 paid for officers’ life insurance premiums where the company is the beneficiary. The tax rate for the current year is 30%. What is Fern’s effective tax rate?
1) 27.0%
2) 28.5%
3) 30.0%
4) 31.5%
28.5%
The interest revenue should be subtracted from $200,000, because it is not taxable, but was included in the $200,000 amount, and the insurance premiums should be added back, because it was subtracted in determining the $200,000, but is not deductible.
Leer Corp.’s pre-tax income in 20X5 is $100,000. The temporary differences between amounts reported in the financial statements and the tax return are as follows:
Depreciation in the financial statements is $8,000 more than tax depreciation.
The equity method of accounting resulted in financial statement income of $35,000. A $25,000 dividend is received during the year, which is eligible for the 80% dividends received deduction.
Leer’s effective income tax rate was 30% in 20X5. In its 20X5 income statement, Leer should report a current provision for income taxes of
1) $26,400
2) $23,400
3) $21,900
4) $18,600
$23,400
The current provision for income taxes is the tax liability for the year: taxable income times the tax rate. Taxable income = $100,000 + $8,000 − $35,000 + .20($25,000) = $78,000. Therefore, current income tax expense (also the firm’s tax liability) is $23,400 ($78,000 × .30).
The $8,000 is added to pre-tax accounting income, because the latter income amount reflects $8,000 more depreciation than should be reflected in taxable income. The $35,000 is subtracted, because it is included in pre-tax accounting income, but is not included in taxable income. Only 20% of the dividends received is taxable owing to the 80% dividends-received deduction. The equity in income of the investee is not taxable income.
Kent, Inc.’s reconciliation between financial statement and taxable income for 20X5 is as follows:
Pre-tax financial income $150,000 Permanent difference ($12,000) $138,000 Temporary difference - depreciation ($9,000) Taxable income $129,000 ======== Additional information:
At
___________________
December 31, 20X4 December 31, 20X5
Cumulative temporary differences (future taxable amounts) $11,000 $20,000
The enacted tax rate was 34% for 20X4, and 40% for 20X5 and years thereafter.
In its December 31, 20X5 balance sheet, what amount should Kent report as deferred income tax liability?
1) $3,600
2) $6,800
3) $7,340
4) $8,000
$8,000
Only the $9,000 difference originating in 20X5 is used.
The question asks for the ending deferred tax liability balance. The entire $20,000 difference should be used, as that is the total future taxable difference expected to reverse.
A company reported the following financial information:
Taxable income for current year $120,000
Deferred income tax liability, beginning of year 50,000
Deferred income tax liability, end of year 55,000
Deferred income tax asset, beginning of year 10,000
Deferred income tax asset, end of year 16,000
Current and future years’ tax rate 35%
The current-year’s income tax expense is what amount?
1) $41,000
2) $42,000
3) $43,000
4) $53,000
$41,000
Income tax expense for the year is a derived amount and is the net sum of the income tax liability and the changes in the deferred tax accounts for the year. The income tax liability is the product of taxable income and the current-year tax rate, or $120,000(.35) = $42,000. The changes in the deferred tax accounts are the differences between the beginning and ending balances of those accounts. From the data, the deferred tax liability increased $5,000 for the year and the deferred tax asset increased $6,000. With the two liabilities increasing a total of $47,000 and the deferred tax asset increasing $6,000, income tax expense is the difference, or $41,000. The tax accrual journal entry is: dr. Income tax expense 41,000; dr. Deferred tax asset 6,000; cr. Deferred tax liability 5,000; cr. Income tax payable 42,000. The increase in the deferred tax asset represents a future reduction in income tax recognized in income tax expense for the current year. The increase in the deferred tax liability represents a future increase in income tax recognized in income tax expense for the current year.
Two years ago, Aggre Inc. recognized the tax benefit of an uncertain tax position. income tax expense in that year was reduced by $20,000 as a result. In addition, Aggre recorded a $5,000 tax liability for unrecognized benefits for the same tax position. During the current year, the uncertainty is resolved and a benefit of $22,000 is upheld. By what amount is current-year income tax expense affected by the resolution of the prior uncertainty?
1) $2,000 decrease.
2) $22,000 decrease.
3) $5,000 decrease.
4) There is no effect.
$2,000 Decrease
$20,000 of the benefit was recognized two years ago. Only the additional $2,000 is recognized in the current year as a change in estimate.
At the end of the previous year, a firm reported a $6,000 deferred tax asset from a net-operating-loss carry-forward that can be carried forward several years into the future. The tax rate is 30%. For the current year, the firm records estimated warranty expense of $30,000 for the year and incurred $10,000 of warranty-claims costs. Taxable income for the current year is $12,000. Compute income tax expense (benefit) for the current year.
1) ($5,400)
2) ($2,400)
3) $3,600
4) Neither expense nor benefit.
($2,400)
The unused net operating loss (NOL) at the beginning of the year is $20,000 (= $6,000/.3). The firm pays no tax for the current year, because $12,000 of the NOL is used to absorb the $12,000 of taxable income. $8,000 of the NOL remains to carry forward to the next year. Also, there is a future temporary difference of $20,000 from the future warranty deduction ($30,000 − $10,000 current-year claims). In total, then, the basis for the ending deferred tax asset is $28,000 (= $8,000 + $20,000). The ending deferred tax asset balance is $8,400 (= $28,000 × .3). The beginning deferred tax asset balance is $6,000. Therefore, the deferred tax asset is increased by $2,400 and income tax benefit of that amount also is recorded (credited) in the tax-accrual entry.
