R3 M2 - Differences Between Book & Tax Flashcards
A corporation has book income of $50,000 in the current year, which includes the following:
State income taxes $3,000
Federal income taxes $12,000
What is the corporation’s taxable income for the current year?
A. $65,000 B. $50,000 C. $53,000 D. $62,000
Choice “D” is correct. The corporation’s book income of $50,000 includes expenses for both federal and state income tax. In determining its taxable income, the corporation must add back any expenses that reduce book income but that are not deductible for tax purposes. State income taxes are deductible for tax purposes, but federal income tax is not deductible for tax purposes. As such, the federal income tax amount must be added back to book income to reach taxable income. The $12,000 of federal income tax is added to the $50,000 of book income to reach $62,000 of taxable income.
Choice “A” is incorrect. In determining its taxable income, the corporation must add back those expenses that were used to reduce book income but that are not deductible for tax purposes. Federal income taxes are not deductible for tax purposes, but state income taxes are deductible for tax purposes. As such, the corporation will add back its federal income taxes, but not its state income taxes, in determining its taxable income. The corporation’s taxable income will be $62,000, equal to its $50,000 of book income plus the $12,000 of federal income tax.
Choice “B” is incorrect. The corporation’s taxable income is not $50,000. This would indicate that there are no differences between the corporation’s book income and taxable income. This is not correct because the $50,000 of book income includes an expense for federal income tax of $12,000, which is not deductible for tax purposes and must be added back to book income to reach taxable income.
Choice “C” is incorrect. In determining its taxable income, the corporation must add back any expenses that reduce book income but that are not deductible for tax purposes. The state income taxes reduce income and are deductible for tax purposes. As a result, the state income taxes are not added back to the corporation’s book income in order to determine taxable income.
Jagdon Corp.’s book income was $150,000 for the current year, including interest income from municipal bonds of $5,000 and excess capital losses over capital gains of $10,000. Federal income tax expense of $50,000 was also included in Jagdon’s books. What amount represents Jagdon’s taxable income for the current year?
A. $215,000 B. $205,000 C. $195,000 D. $185,000
Choice “B” is correct. Taxable income is accounting (book) income adjusted for other items. In this question, the book income is $150,000. That book income includes $50,000 federal income tax expense, and that amount should be added back for taxable income. The $5,000 interest income from municipal bonds should be subtracted because it is not taxable, and the $10,000 excess capital losses over capital gains should be added back because the excess is not a deduction in the current year. The net result is $205,000.
Choice “A” is incorrect. The $215,000 is the $205,000 with the $5,000 interest income from municipal bonds added and not subtracted.
Choice “C” is incorrect. The $195,000 is the $205,000 with the $10,000 ignored.
Choice “D” is incorrect. The $185,000 is the $205,000 with the $10,000 excess capital losses subtracted and not added.
Choice “A” is correct. Maple’s taxable income for the year was $100,000.
No adjustments from book income are required:
State income taxes are a deductible corporate expense.
Interest earned on U.S. treasury bonds are taxable.
Interest expense on bank loans to purchase U.S. treasury bonds are deductible since the interest income earned on U.S. treasury bonds is taxable.
Note: Be careful, interest expense to carry municipal bonds is not deductible.
Choices “B”, “D”, and “C” are incorrect, per the above explanation.
On January 2 of the current year, Shaw Corp., an accrual-basis, calendar-year C corporation, purchased all the assets of a sole proprietorship, including $300,000 in goodwill. Current-year federal income tax expense of $110,100 and $7,500 for goodwill impairment were deducted to arrive at Shaw’s reported book income of $239,200. What should be the amount of Shaw’s current-year taxable income, as reconciled on Shaw’s Schedule M-1 of Form 1120, U.S. Corporation Income Tax Return?
A. $349,300 B. $239,200 C. $329,300 D. $336,800
Choice “D” is correct. $336,800 should be reported as Shaw’s current-year taxable income, reconciled as follows on Shaw’s Schedule M-1 on the Form 1120:
Filler-Up is an accrual-basis calendar-year C corporation. Filler-Up uses an allowance method for accounting for bad debts. The allowance for bad debts was $20,000 at the beginning of the year and $30,000 at the end of the year. During the year, Filler-Up wrote off $5,000 of uncollectible receivables and accrued an additional $15,000 of expenses for accounts estimated to be uncollectible. What is the Schedule M-1 adjustment on Filler-Up’s federal income tax return?
A. $5,000 increase in taxable income. B. $10,000 increase in taxable income. C. $5,000 decrease in taxable income. D. $10,000 decrease in taxable income.
Choice “B” is correct. For tax purposes, Filler-Up may only deduct the amount of uncollectible receivables actually written off during the year, which in this case was $5,000. For financial accounting purposes, Filler-Up recorded $15,000 of expenses for accounts estimated to be uncollectible. So, the amount recorded as an expense for financial accounting purposes was $10,000 more than that allowed to be deducted for tax purposes. On the Schedule M-1 reconciliation, that $10,000 difference must be added back in reconciling financial accounting income to taxable income.
Choices “C” and “A” are incorrect. The adjustment is a $10,000 increase, as explained above. $5,000 is the actual amount written off.
Choice “D” is incorrect. Although the adjustment is $10,000, the adjustment is a $10,000 increase, not decrease, because the $10,000 represents expenses that are not being allowed as deductions in determining taxable income.
