12. Accord Inc. income tax return shows taxes currently payable for 2011 of $85,000. The company
reported deferred tax assets of $35,000 at the end of 2010 and $24,000 at the end of 2011. Accord
reported deferred tax liabilities of $48,000 at the end of 2011 and $54,000 at the end of 2011.
Determine the amount of income tax expense reported by Accord for 2011.
PROBLEM
1. There are three valuation methods that reflect historical values: acquisition cost, adjusted acquisition
cost, and present value of cash flows using historical interest rates. For each of three methods discuss
what the valuation represents and provide an example of a balance sheet item that is valued using the
method. In addition, for each of the three methods valuation methods explain its advantages and
disadvantages.
1.
Acquisition cost is the amount paid initially to acquire the asset, examples include
reliability, the disadvantage is lack of relevance.
2. The analytical framework used to evaluate transactions is reproduced below:
Cash
+
Non-Cash
Assets
=
Liabilities
+
Contributed
Capital
+
Accumulated Other
Comprehensive
Income
+
Retained
Earnings
Using this analytical framework indicate the effect of each of the following transactions for Wisco
Corporation:
1.
Wisco sold merchandise for $225,000 on account which cost $170,000 to manufacture.
2.
Wisco purchased for cash $110,000 of raw material inventory.
3.
The company paid $25,000 in advance for an advertising campaign that would be aired next
year.
4.
Wisco paid its employees $15,000 for the month.
5.
The company purchased $7,000 of supplies on account.
6.
Wisco issued $25,000 of long-term debt.
7.
The company used $10,000 of excess cash to purchase marketable securities.
8.
Wisco purchased a machine for $22,000 in cash.
9.
At the end of the year Wisco paid dividends of $5,000.
10.
At the end of the year the marketable securities that Wisco purchased in transaction 7 were
now worth $11,500.
11.
Depreciation for the period was $1,500.
1.
Wisco sold for merchandise for $225,000 on account which cost $170,000 to manufacture.
225,000
225,000
2.
Wisco purchased for cash $110,000 of raw material inventory.
Income
110,000
110,000
3.
The company paid $25,000 in advance for an advertising campaign that would be aired next
year.
4.
Wisco paid its employees $15,000 for the month.
5.
The company purchased $7,000 of supplies on account.
Income
3. The analytical framework used to evaluate transactions is reproduced below:
Cash
+
Non-Cash
Assets
=
Liabilities
+
Contributed
Capital
+
Accumulated Other
Comprehensive
Income
+
Retained
Earnings
Using this analytical framework indicate the effect of each of the following transactions for Staples
Corporation:
Assets
Capital
Other
Income
Earnings
10,000
10,000
22,000
22,000
Assets
Capital
Other
Comprehensive
Income
Earnings
5,000
5,000
10.
At the end of the year the marketable securities that Wisco purchased in transaction 7 were now
1,500
1,500
Assets
Capital
Other
Comprehensive
Income
Earnings
1.
Staples recorded cash sales of $25,000. The merchandise had cost $19,000 to manufacture.
2.
Staples purchased $8,500 of raw material inventory on account.
3.
The company paid $2,500 for property insurance for the next 12 months.
4.
Staples paid its employees $5,000 for the month.
5.
The company purchased $1,000 of supplies on account.
6.
Staples issued $25,000 of long-term debt.
7.
The company used $10,000 of excess cash to purchase marketable securities.
8.
Staples purchased a machine for $16,000 using $8,000 cash with the balance on account.
9.
Staples paid $2,500 for interest expense on the long-term debt.
10.
At the end of the year the marketable securities that Staples purchased in transaction 7 were
now worth $14,500.
11.
Depreciation for the period was $1,500.
12.
Staples examined the equipment and determined that its fair value was $10,000.
ANS:
Assets
Capital
Comprehensive
Income
Earnings
1.
Staples recorded cash sales of $25,000. The merchandise had cost $19,000 to manufacture.
+
25,000
25,000
2.
Staples purchased $8,500 of raw material inventory on account.
8,500
+
8,500
3.
The company paid $2,500 for property insurance for the next 12 months.
Comprehensive
2,500
2,500
4.
Staples paid its employees $5,000 for the month.
Comprehensive
5,000
5,000
5.
The company purchased $1,000 of supplies on account.
4. The following problem requires present value information:
Biotech sold a patent on a new blood analyzer to Pharma. The sales agreement which was signed on
January 1, 2009 requires Pharma to pay Biotech $1 million immediately. In addition, Pharma is required
to pay $700,000 each December 31 for 20 years starting with December 31, 2009. Pharma and Biotech
judge that a 10 percent is an appropriate interest rate for this arrangement.
a.
Compute the present value of the receivable on Biotech’s books on January 1, 2009
immediately after receiving the $1 million down payment.
b.
Compute the present value of the receivable on Biotech’s books on December 31, 2009.
c.
Compute the present value of the receivable on Biotech’s books on December 31, 2010.
5. Jurgen Company’s income tax return shows income taxes for 2010 of $75,000 (that is, $75,000 is owed
for 2010). For financial reporting, the firm reports deferred tax assets of $67,900 at the beginning of
2010 and $63,600 at the end of 2010. It reports deferred tax liabilities of $53,600 at the beginning of
2010 and $59,400 at the end of 2010.
Required:
a. Compute the amount of income tax expense for 2010.
b. Assume for this part that the firm’s deferred tax assets are as stated above for 2010 but that its deferred
tax liabilities were $83,500 at the beginning of 2010 and $72,100
at the end of 2010. Compute the amount of income tax expense for 2010.
c. Explain contextually why income tax expense is higher than taxes owed in Part a and lower than taxes
owed in Part b.
6. Fellsmere Company’s income tax return shows income taxes for 2010 of $35,000. The firm reports
deferred tax assets before any valuation allowance of $32,600 at the beginning of 2010 and $35,200 at
the end of 2010. It reports deferred tax liabilities of $26,900 at the beginning of 2010 and $24,300 at the
end of 2010.
Required:
a. Assume for this part that the valuation allowance on the deferred tax assets totaled
$14,400 at the beginning of 2010 and $15,100 at the end of 2010. Compute the amount
of income tax expense for 2010.
b. Assume for this part that the valuation allowance on the deferred tax assets totaled
$14,400 at the beginning of 2010 and $12,700 at the end of 2010. Compute the amount
of income tax expense for 2010.
7. The financial statement disclosures for Able Company, a retail chain, revealed the following information
regarding the firm’s income taxes:
For the Year Ended January 31:
2011
2010
Income before Income Taxes:
United States
$3,042
$2,614
Income Tax Expense
Current:
Federal
$ 919
$ 680
State and Local
155
118
Total Current
$1,074
$ 798
Deferred:
Federal
$94
$ 195
State and Local
22
35
Total Deferred
$ 116
$ 230
Total
$1,190
$1,028
January 31
2011
2010
2009
Components of Deferred Tax Assets and Liabilities
Deferred Tax Assets:
Self-Insured Benefits
$190
$154
$199
Deferred Compensation
333
298
185
Inventory
48
45
57
Postretirement Health Care Obligation
39
43
42
Uncollectible Accounts
148
134
114
Other
129
54
167
Total Deferred Tax Assets
$887
$728
$764
Deferred Tax Liabilities:
Depreciation
$(1,137)
$ (946)
$ (827)
Pensions
(269)
(219)
(191)
Other
(97)
(85)
(60)
Total Deferred Tax Liabilities
$(1,503)
$(1,250)
$(1,078)
Net Deferred Tax Liability
$ (616)
$ (522)
$ (314)
Required:
a. Assuming that Able had no significant permanent differences between book income
and taxable income, did income before taxes for financial reporting exceed or fall
short of taxable income for 2010? Explain.
b. Did income before taxes for financial reporting exceed or fall short of taxable
income for 2011? Explain.
c. Will the adjustment to net income for deferred taxes to compute cash flow from
operations in the statement of cash flows result in an addition or a subtraction for
2010? For 2011?
d. Able does not contract with an insurance agency for property and liability insurance;
instead, it self-insures. Able recognizes an expense and a liability each year for
financial reporting to reflect its average expected long-term property and liability
losses. When it experiences an actual loss, it charges that loss against the liability. The
income tax law permits self-insured firms to deduct such losses only in the year sustained.
Why are deferred taxes related to self-insurance disclosed as a deferred tax
asset instead of a deferred tax liability? Suggest reasons for the direction of the
change in amounts for this deferred tax asset between 2009 and 2011.
e. Able treats certain storage and other inventory costs as expenses in the year incurred
for financial reporting but must include these in inventory for tax reporting. Why
are deferred taxes related to inventory disclosed as a deferred tax asset? Suggest reasons
for the direction of the change in amounts for this deferred tax asset between
2009 and 2011.
f. Firms must recognize expenses related to postretirement health care and pension
obligations as employees provide services, but claim an income tax deduction only
when they make cash payments under the benefit plan. Why are deferred taxes
related to health care obligation disclosed as a deferred tax asset? Why are deferred
taxes related to pensions disclosed as a deferred tax liability? Suggest reasons for the
direction of the change in amounts for these deferred tax items between 2009 and
2011.
g. Firms must recognize expenses related to uncollectible accounts when they recognize
sales revenues, but claim an income tax deduction when they deem a particular
customer’s accounts uncollectible. Why are deferred taxes related to this item disclosed
as a deferred tax asset? Suggest reasons for the direction of the change in
amounts for this deferred tax asset between 2009 and 2011.
h. Able uses the straight-line depreciation method for financial reporting and accelerated
depreciation methods for income tax purposes. Why are deferred taxes
related to depreciation disclosed as a deferred tax liability? Suggest reasons for the
direction of the change in amounts for this deferred tax liability between 2009
and 2011.
8. For each of the items below, determine whether the items are temporary differences or permanent
differences.
For each temporary difference, determine whether a deferred tax asset or deferred tax liability is created
by the temporary difference described. Assume that each of the temporary differences described is an
originating difference.
1. Accrued bad debt expense
2. The dividends received deduction
3. Installment sales revenue
4. Insurance payments for executives for which the company is the beneficiary
5. Fines paid for law violations
6. Municipal bond interest
7. Accrued warranty expense
8. Revenues received in advance
9. Expenses paid for in advance (prepaid insurance)
10. Tax depreciation expense exceeds GAAP (book) depreciation expense
ANS:
9. On January 1, 2010, Starlight Company’s balance sheet reported a deferred tax liability of $185,000 and
a deferred tax asset of $99,900. The future taxable amounts that existed as of January 1, 2010 will
reverse equally over the next four years beginning in 2010, while the future deductible amounts that
existed as of January 1, 2010 will reverse equally over the next three years beginning in 2010. The
enacted income tax rate for all tax years as of January 1, 2010 was 37%. On February 1, 2010, the tax
laws were amended resulting in income tax rates of 38% for 2010 and 2011; the income tax rate will be
40% for tax years 2012 and later.
Required:
Prepare the journal entry on February 1, 2010 to record the impact of the amended income tax rates.
10. On December 31, 2009, Loran Corporation reported a deferred tax liability totaling $12,000, resulting
from depreciation timing differences pertaining to a depreciable asset purchased during 2009. Loran
uses straight-line depreciation over four years for GAAP (book) purposes; for tax purposes, the
depreciation deduction is 40% of cost during 2009, 30% of cost during 2010, 20% of cost during 2011,
and 10% of cost during 2012. During 2010, Loran expensed $80,000of warranty costs that will be
deducted for tax purposes in future years. Loran also accrued revenue totaling $135,000 which is taxable
in 2011. Loran’s GAAP (book) income before taxes during 2010 totaled $380,000The marginal income
tax rate is 40% for all years.
Required:
(1) What is the taxable income?
(2) Prepare the journal entry to record income tax expense for the year ended December 31, 2010.