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PowerPoint Authors: Susan Coomer Galbreath, Ph.D., CPA Charles W. Caldwell, D.B.A., CMA Jon A. Booker, Ph.D., CPA, CIA Cynthia J. Rooney, Ph.D., CPA
McGraw-Hill/Irwin
The objective of accounting for income taxes is to recognize a deferred tax liability or deferred tax asset for the tax consequences of amounts that will become taxable or deductible in future years as a result of transactions or events that already have occurred.
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Temporary Differences
The difference in the rules for computing between pre-tax accounting income (according to GAAP) and taxable income (according to the IRS) often causes amounts to be reported in different years.
Temporary Differences
Temporary differences will reverse in one or more future periods.
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A temporary difference originates in one period and reverses, or turns around, in one or more subsequent periods.
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Calculate income tax that is currently payable: $100 40% = $40 Calculate change in deferred tax liability: ($40 40%) = $16 Combine the two to get the income tax expense: $40 + $16 = $56
56 40 16
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A temporary difference originates in one period and reverses, or turns around, in one or more subsequent periods.
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Calculate income tax that is currently payable: $92 40% = $36.8 Calculate change in deferred tax liability: ($25 - $33) 40% = $3.2 Combine the two to get the income tax expense: $36.8 + $3.2 = $40
Journal entry at the end of 2011 Income tax expense Income tax payable Deferred tax liability
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Calculate income tax that is currently payable: $81 40% = $32.4 Calculate change in deferred tax liability: (($25 - $44) 40%)) = $7.6 Combine the two to get the income tax expense: $32.4 + $7.6 = $40
Journal entry at the end of 2012 Income tax expense Income tax payable Deferred tax liability
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Calculate income tax that is currently payable: $110 40% = $44 Calculate change in deferred tax liability: (($25 - $15) 40%)) = $4 Combine the two to get the income tax expense: $44 4 = $40
Journal entry at the end of 2013 Income tax expense Deferred tax liability Income tax payable
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40 4 44
40.0 6.8
46.8
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Calculate income tax that is currently payable: $100 40% = $40 Calculate change in deferred tax asset: $30 40% = $12 Combine the two to get the income tax expense: $40 12 = $28
Journal entry at the end of 2011 Income tax expense Deferred tax asset Income tax payable
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28 12 40
6 34
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Valuation Allowance
A valuation allowance account is needed if it is more likely than not that some portion of the deferred tax asset will not be realized. The deferred tax asset is then reported at its estimated net realizable value.
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Permanent Differences
Created when an income item is included in taxable income or accounting income but will never be included in the computation of the other.
Example: Interest on tax-free municipal bonds is included in accounting income but is never included in taxable income. Permanent differences are disregarded when determining both the tax payable currently and the deferred tax asset or liability.
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For example, U.S. GAAP requires a loss contingency be accrued if it is both probable and can be reasonably estimated. Accruing a loss contingency leads to a deferred tax asset.
For loss contingencies, IFRS uses a more likely than not threshold, which is lower than the U.S. probable requirement. As a result, under the lower threshold of IFRS, a loss contingency and a deferred tax asset sometimes is recorded for IFRS but not for U.S. GAAP.
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The deferred tax asset or liability must be adjusted if a change in a tax law or rate occurs.
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When used to offset earlier taxable income: Called: operating loss carryback. Result: tax refund.
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When used to offset future taxable income: Called: operating loss carryforward. Result: reduced tax payable.
Carryback Period
Carryforward Period
-2
-1
Current Year
+1 +2 +3 +4 +5
. . . +20
The NOL may first be applied against taxable income from two previous years. Unused NOL may be carried forward for 20 years.
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50 50
The carryback of the NOL must be applied to the earlier year first and then to the next year. Any remaining NOL may be carried forward.
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Receivableincome tax refund Deferred tax asset Income tax benefit-operating loss
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29 20
49
Deferred Tax Assets and Disclosure Notes Deferred Tax Liabilities Total of all deferred tax liabilities. Total of all deferred tax assets. Total valuation allowance recognized. Net change in valuation account. Income Tax Expense Current portion of the Approximate tax effect of each tax expense (or benefit). type of temporary difference Deferred portion of the (and carryforward). tax expense (or benefit) with separate disclosures of amounts Operating Loss Carryforwards attributable to several Amounts. specific items. Expiration dates.
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Other Comprehensive Income: Investments. Postretirement benefit plans. Derivatives. Foreign currency translation.
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GAAP separately reports both discontinued operations and extraordinary items on the income statement and each are shown net of tax.
IFRS does not separately report extraordinary items on the income statement. As a result, the only income statement item reported separately net of tax using IFRS is discontinued operations.
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End of Chapter 16