Income Taxes Flashcards
Accounting profit
- pretax income
- earnings before tax
- EBT
Taxable income
- related to tax law and tax reporting
- portion of income subject to income taxes
Income tax payable
- based on tax law and tax reporting
- amount paied to tax authorities
- appears on BS
- minimized by showing higher expenses and lower taxable income
Tax base of an asset
ie Asset tax base
- based on tax law and tax reporting
- the amount deductible for tax purposes in future periods as economic benefits are realized
Why are accounting profit and taxable income different?
- Accounting profit is based on the accrual method of accounting
- taxable income is based on cash-basis accounting
Financial reporting vs. Tax reporting terms
Financial reporting
- accounting profit (EBT)
- income tax expense
- “Carrying amount”
Tax reporting
- taxable income
- income tax payable
- tax base
DTL occurs when:
- income tax expense (Financial accounting) > income tax payable (Tax Law)
aka:
- carrying amount > tax base
ie.
straight-line depreciation for accounting profit is used and accelerated depreciation for taxable profit is used
What DTLs are liabilities and when they happen:
- its a liability bc less tax is paid now, thus an obligation to pay more in the future
- happens when: revenue is recognized on IS before cash is received, ie accrued/unbilled revenue
- happens when: expenses are tax deductible before recognized on IS, ie SL v Accl dep.
DTLs are recorded on the ____
balance sheet
DTA occurs when:
- income tax expense (Financial Accounting) < income tax payable (Tax Law)
aka:
- carrying amount < tax base (if recorded as an asset on the BS)
- ex. research cost expensed for accounting profit, but amortized for taxes - carrying amount > tax base (if recorded as a liability on the BSO
- ex. cash received from customers before revenue recognition (unearned revenue), the cash from customers is taxed
Why DTAs are assets and when they happen:
- when taxable income is higher than accounting profit
- tax is paid in advance, considered an asset, viewed as a prepaid expense
happens when
- payment is received in advance of service, ie before recognized on IS
- expense is recognized on the IS before being tax deductible
DTAs are recorded on the ____
balance sheet
DTLs and DTA are classified as ____ under IFRS and ___ under GAAP
- IFRS: non-current
- GAAP: classified based on the classification of the respective asset or liability
Accounting Profit is based on ______
accounting principles/standards
Tax Payable is based on _______
tax rules/laws
Differences between Accounting Profit and Tax Payable come from:
Accounting profit:
- straight-line depreciation
- revenue recognition rules
- matching principle for expenses
Tax Laws: (tax payable)
- accelerated depreciation
- revenue based on cash received
expenses based on cash paid
Income Tax Expense (provision) is shown on the ___
ie: the provision for income tax
income statement
Income Tax Payable is shown on the ____
balance sheet
Income Tax Paid
taxes that are actually paid
DTL formula:
DTL = (Carrying amount - Tax base) * Tax rate
CA is based on financial reporting and tax base on tax reporting
If the carrying amount is greater than the tax base, there will be a _____ unless reported as a liability on BS.
deferred tax liability, if reported as an asset on BS (SL v Accl dep)
If liability on BS, DTA (unearned revenue)
If the carrying amount is less than the tax base, there will be a _____
deferred tax asset
Income tax expense (ITE) formula:
ITE = ITP + delta DTL - delta DTA
ITE = income tax payable + change in net DTL
net DTL = DTL - DTA
Will most firms have a DTL or a DTA
a DTL bc they recognize revenue
Tax base of a liability is:
the carrying amount of the liability - any amounts that will be deductible for tax purposes in the future
if a company receives $50 in advance of delivery of service, a liability called unearned revenue is created on the accounting side, so the carrying amount of the liability is $50.
On the tax side, $50 is shown as revenue and taxes are paid. So tax base is $0 and carrying amount is $50
When income tax rates change, deferred tax assets and liabilities are calculated _____
calculated based on the new tax rate
The formulas for calculating DTL change (delta) based on changes in tax rate. ie tax rate changes from .4 to .3
DTL (old rate) = (carrying amount - tax base) * tax rate
DTL (new rate) = (carrying amount - tax base) * tax rate
Delta is old rate - new rate
What happens to the net DTL after a tax rate decrease?
reduces both DLT and DTA
A lower tax rate will cause the income tax expense to decrease and the net income and equity to increase
Income tax expense is on the ____
income statement
An increase in the tax rate does what to DTA and DTLs?
increases both DTA and DTL
Reported effective tax rate formula
effective tax rate =
income tax expense / pretax income
AKA:
= provision for income tax / EBT
= income tax / taxable income
What are temporary differences between taxable and accounting profit?
Temporary differences come from a difference between the tax base (reporting) and the carrying amount (fin statements)
Balance sheet item: Asset
Carrying amt vs tax base: carrying amount > tax base
is this a DTA or DTL and give an example
CA > tax base = DTL
example: straight-line depreciation for acct profit v accl depreciation for taxable profit
Balance sheet item: Asset
Carrying amt vs tax base: carrying amount < tax base
is this a DTA or DTL and give an example
CA < tax base = DTA
example: research cost expensed for accounting profit v research cost amortized for tax reporting
Balance sheet item: Liability
Carrying amt vs tax base: carrying amount > tax base
is this a DTA or DTL and give an example
DTA
example: cash received from customers before revenue recognition (ie unearned revenue). Cash received is taxed now
Tax loss carry forward is:
is when a firm experiences losses in the current period that may be used to reduce future taxable income
- tax loss carry forward reduces the taxes paid in the future.
A tax credit is
the amount a taxpayer can deduct from the taxes owed
- govts grant tax credits
IFRS and GAAP recognition of tax losses and tax creduts
IFRS: recognition of unused tax losses and tax credits only to the extent that it is probable that in the future there will be taxable income against which unused tax losses and credits can be applied
GAAP: a DTA is recognized in full but reduced by a valuation allowance if it is unlikely that the benefit will be realized
Measurement and treatments of DTLs:
- classifed as a debt if the liability is expected to reverse in the future when taxes are paid
- if DTL will not be reversed, reduce DTL, and that amount reduction is treated as equity. There is no cash outflow expected in the future
- if there is uncertainty about the timing and amount of tax payments, treat DTL as neither liability or equity
Measurement of DTA and Valuation Allowance
If the DTA will not be realized because of insufficient future taxable income then ____
the DTA must be reduced
Measurement of DTA and Valuation Allowance
Under GAAP, DTA is reduced by creating a _______ which is a contra account.
DTA is reduced by creating a Valuation Allowance
What happens to net income when the valuation allowance rises?
net income goes down if the valuation allowance rises
