972
SECTION 3
Financial Instruments and Liabilities
A company reports pretax accounting income of $10 million, but because of a single temporary difference, tax-
able income is $12 million. No temporary differences existed at the beginning of the year, and the tax rate is
BE 16-3
Temporary
difference
LO16-2
40%. prepare the appropriate journal entry to record income taxes.
In 2016, Ryan Management collected rent revenue for 2017 tenant occupancy. For financial reporting, the rent is
BE 16-12
BE 16-4
Temporary
difference;
income tax
payable given
LO16-2
recorded as deferred revenue and then recognized as income in the period tenants occupy rental property, but fine
income tax reporting it is taxed when collected. The deferred portion of the rent collected in 2016 was $50 min
lion. Taxable income is $180 million. No temporary differences existed at the beginning of the year, and the man
rate is 40%. Prepare the appropriate journal entry to record income taxes.
Net operating
loss carryforward
2016-7
BE 16-13
Refer to the situation described in BE 16-4. Suppose the deferred portion of the rent collected was $40 millions
the end of 2017. Taxable income is $200 million. Prepare the appropriate journal entry to record income taxes.
Net operating
loss carryback
L016-7
BE 16-5
Temporary
difference;
income tax
payable given
O LO16-2
BE 16-14
Tax uncertainty
L016-9
BE 16-15
BE 16-6
Valuation
allowance
LO16-2, L016-3
At the end of the year, the deferred tax asset account had a balance of $12 million attributable to a cumulative
temporary difference of $30 million in a liability for estimated expenses. Taxable income is $35 million. No
temporary differences existed at the beginning of the year, and the tax rate is 40%. Prepare the journal entry's
)
to record income taxes assuming it is more likely than not that one-fourth of the deferred tax asset will not ulti-
mately be realized.
Intraperiod tax
allocation
L016-10
BE 16-7
Valuation
allowance
LO16-2, LO16-3
VeriFone Systems is a provider of electronic card payment terminals, peripherals, network products, and soft-
$513 million. The company also reported valuation allowances totaling about $418 million. What would moti-
Exercis
vate VeriFone to have a valuation allowance almost equal to its deferred tax assets?
Real World Financials
BE 162
erred tax liability this year.
Net Operating
loss carryforward
tax rate was 40%. This year,
om 40% to 35% beginning next year. Calculate the amount by
the net operating loss.
2016-7
reporting
During its first year of operations, Nile.com reported a net operating loss of $15 million for financial
and tax purposes. The enacted tax rate is 40%. Prepare the journal entry to recognize the income tax benefit of
BE 1673
Net operating
loss carryback
2016-7
able income last year and the previous year, respectively, was $20 million and $15 million. The enacted tax rate
AirParts Corporation reported a net operating loss of $25 million for financial reporting and tax purposes. Tax-
each year is 40%. Prepare the journal entry to recognize the income tax benefit of the net operating loss. AirParts
elects the carryback option.
BE 16–14
Tax uncertainty
2016-9
First Bank has some question as to the tax-free nature of $5 million of its municipal bond portfolio. This amount
is excluded from First Bank's taxable income of $55 million. Management has determined that there is a 65%
chance that the tax-free status of this interest can't withstand scrutiny of taxing authorities. Assuming a 40% tax
rate, what amount of income tax expense should the bank report?
BE 16-15
Intraperiod tax
allocation
. 2016-10
Southeast Airlines had pretax earnings of $65 million, including a gain on disposal of a discontinued operation
of $10 million. The company's tax rate is 40%. What is the amount of income tax expense that Southeast should
report in its income statement? How should the gain on disposal of a discontinued operation be reported?
Exercises
Grau
connect
ACCOUNTING
E 16-1
An alternate exercise and problem set is available in the Connect library.
Temporary
difference;
taxable income
given
• L016-1
Alvis Corporation reports pretax accounting income of $400,000, but due to a single temporary difference, tax-
able income is only $250,000. At the beginning of the year, no temporary differences existed.
Required:
1. Assuming a tax rate of 35%, what will be Alvis's net income?
2. What will Alvis report in the balance sheet pertaining to income taxes?
E 16-2
Determine
taxable income;
determine prior
year deferred tax
amount
• L016-1
On January 1, 2013, Ameen Company purchased a building for $36 million. Ameen uses straight-line depreciation
for financial statement reporting and MACRS for income tax reporting. At December 31, 2015, the book value
of the building was $30 million and its tax basis was $20 million. At December 31, 2016, the book value of the
building was $28 million and its tax basis was $13 million. There were no other temporary differences and no
permanent differences. Pretax accounting income for 2016 was $45 million.
Required:
1. Prepare the appropriate journal entry to record Ameen's 2016 income taxes. Assume an income tax rate of
40%.
2. What is Ameen's 2016 net income?
E
Taxable income
given; calculate
Ayres Services acquired an asset for $80 million in 2016. The asset is depreciated for financial reporting purposes
over four years on a straight-line basis (no residual value). For tax purposes the asset's cost is depreciated by
MACRS. The enacted tax rate is 40%. Amounts for pretax accounting income, depreciation, and taxable income
in 2016, 2017, 2018, and 2019 are as follows:
deferred tax
liability
L016-1
($ in millions)
2016
2017
2018
2019
$330
$350
$400
$365
20
20
20
Pretax accounting income
Depreciation on the income statement
Depreciation on the tax return
Taxable income
(25)
$325
20
(33)
$337
(15)
$370
(7)
$413
974
SECTION 3
Financial Instruments and Liabilities
E 16-4
Temporary
difference;
income tax
payable given
O LO16-2
Required:
For December 31 of each year, determine (a) the temporary book-tax difference for the depreciable asset and (b)
the balance to be reported in the deferred tax liability account.
In 2016, DFS Medical Supply collected rent revenue for 2017 tenant occupancy. For income tax reporting, the
rent is taxed when collected. For financial statement reporting, the rent is recorded as deferred revenue and then
recognized as income in the period tenants occupy the rental property. The deferred portion of the rent collected in
2016 amounted to $300,000 at December 31, 2016. DFS had no temporary differences at the beginning of the year.
Required:
Assuming an income tax rate of 40% and 2016 income tax payable of $950,000, prepare the journal entry to
record income taxes for 2016.
E 16-5
Temporary
difference; future
deductible
amounts; taxable
income given
LO16-2
Lance Lawn Services reports warranty expense by estimating the amount that eventually will be paid to satisfy
warranties on its product sales. For tax purposes, the expense is deducted when the cost is incurred. At December
31, 2016, Lance has a warranty liability of $1 million and taxable income of $75 million. At December 31, 2015,
Lance reported a deferred tax asset of $435,000 related to this difference in reporting warranties, its only tempo
rary difference. The enacted tax rate is 40% each year.
Required:
Prepare the appropriate journal entry to record Lance's income tax provision for 2016.
Listed below are 10 causes of temporary differences. For each temporary difference, indicate (by letter) whether it
will create future deductible amounts (D) or future taxable amounts (T).
E 16-6
Identify future
taxable amounts
and future
deductible
amounts
LO16-1. L016-2
Temporary Difference
1. Accrual of loss contingency, tax-deductible when paid.
2. Newspaper subscriptions; taxable when received, recognized for financial reporting
E 18-8
Calculate income
situations are described below. Each involves future deductible amounts and/or future taxable
amounts produced by temporary differences:
($ in thousands)
Situation
amounts
under various
circumstances
2016-1, LO16-2
fax
1
2
3
4
Sed
$215
$85
15
$195
20
15
$260
20
30
15
Taxable income
Future deductible amounts
Future taxable amounts
Balance(s) at beginning of the year:
Deferred tax asset
Deferred tax liability
4
2
No
2
The enacted tax rate is 40%.
Required:
For each situation, determine the:
a. Income tax payable currently.
b. Deferred tax asset-balance.
c. Deferred tax asset-change (dr) cr.
d. Deferred tax liability-balance.
e. Deferred tax liability-change (dr) cr.
f. Income tax expense.
E 16-9
Determine
taxable income
• L016-1, LO16-2
Eight independent situations are described below. Each involves future deductible amounts and/or future taxable
amounts produced by:
($ in millions)
Temporary Differences Reported First on:
The Income Statement
The Tax Return
Revenue
Expense
Revenue
Expense
$20
$20
1.
2.
3.
4.
$20
$20
15
15
5.
6.
7.
8.
20
20
20
20
15
10
15
5
10
Required:
For each situation, determine taxable income assuming pretax accounting income is $100 million.
At the end of 2015, Payne Industries had a deferred tax asset account with a balance of $30 million attributable
to a temporary book-tax difference of $75 million in a liability for estimated expenses. At the end of 2016, the
temporary difference is $70 million. Payne has no other temporary differences and no valuation allowance for the
deferred tax asset. Taxable income for 2016 is $180 million and the tax rate is 40%.
E 16-10
Deferred tax
asset; taxable
income given;
valuation
allowance
LO16-3
Required:
1. Prepare the journal entry(s) to record Payne's income taxes for 2016, assuming it is more likely than not that
the deferred tax asset will be realized.
2. Prepare the journal entry(s) to record Payne's income taxes for 2016, assuming it is more likely than not that
one-fourth of the deferred tax asset will ultimately be realized.
E 16-11
Deferred tax
asset; income tax
payable given;
previous balance
in valuation
allowance
(This is a variation of Exercise 16–10, modified to assume a previous balance in the valuation allowance.)
At the end of 2015, Payne Industries had a deferred tax asset account with a balance of $30 million attributable to a tempo-
rary
book-tax difference of $75 million in a liability for estimated expenses. At the end of 2016, the temporary difference
is $70 million. Payne has no other temporary differences. Taxable income for 2016 is $180 million and the tax rate is 40%.
Payne has a valuation allowance of $10 million for the deferred tax asset at the beginning of 2016.
L016-3
SEC
ON 3
Financial Instruments and Liabilities
Required:
1. Prepare the journal entry(s) to record Payne's income taxes for 2016, assuming it is more likely than not that
the deferred tax asset will be realized.
2. Prepare the journal entry(s) to record Payne's income taxes for 2016, assuming it is more likely than not that
one-fourth of the deferred tax asset will ultimately be realized.
When a company records a deferred tax asset, it may need to also report a valuation allowance if it is “more likely
than not" that some portion or all of the deferred tax asset will not be realized. The FASB Accounting Standards
Codification represents the single source of authoritative U.S. generally accepted accounting principles.
E 16-12
FASB codification
research;
valuation
allowance
LO16-3
CODE
Required:
1. Obtain the relevant authoritative literature on disclosure requirements pertaining to how a firm should deter-
mine whether a valuation allowance for deferred tax assets is needed using the FASB's Codification Research
System at the FASB website (www.fasb.org). What is the specific citation that describes the guidelines for
determining the disclosure requirements?
2. What are the guidelines?
100
E 16-13
Multiple
differences;
calculate taxable
income
LO16-1, LO16-4
Southern Atlantic Distributors began operations in January 2016 and purchased a delivery truck for $40,000.
Southern Atlantic plans to use straight-line depreciation over a four-year expected useful life for financial report-
ing purposes. For tax purposes, the deduction is 50% of cost in 2016, 30% in 2017, and 20% in 2018. Pretax
accounting income for 2016 was $300,000, which includes interest revenue of $40,000 from municipal bonds.
The enacted tax rate is 40%.
Required:
Assuming no differences between accounting income and taxable income other than those described above:
1. Prepare the journal entry to record income taxes in 2016.
2. What is Southern Atlantic's 2016 net income?
E 16-14
Multiple
differences
LO16-4, LO16-6
For the year ended December 31, 2016, Fidelity Engineering reported pretax accounting income of $977,000.
Selected information for 2016 from Fidelity's records follows:
Interest income on municipal bonds
$32,000
Depreciation claimed on the 2016 tax return in excess of depreciation on the income statement
55,000
Carrying amount of depreciable assets in excess of their tax basis at year-end
85,000
Warranty expense reported on the income statement
26,000
Actual warranty expenditures in 2016
16,000
Fidelity's income tax rate is 40%. At January 1, 2016, Fidelity's records indicated balances of zero and $12,000
in its deferred tax asset and deferred tax liability accounts, respectively.
Required:
1. Determine the amounts necessary to record income taxes for 2016 and prepare the appropriate journal entry.
2. What is Fidelity's 2016 net income?
E 16-15
Multiple tax rates
LO16-2, L016-5
Allmond Corporation, organized on January 3, 2016, had pretax accounting income of $14 million and taxable
income of $20 million for the year ended December 31, 2016. The 2016 tax rate is 35%. The only difference
between accounting income and taxable income is estimated product warranty costs. Expected payments and
scheduled tax rates (based on recent tax legislation) are as follows:
2017
2018
2019
2020
$2 million
1 million
1 million
2 million
30%
30%
30%
25%
Required:
1. Determine the amounts necessary to record Allmond's income taxes for 2016 and prepare the appropriate
journal entry.
2. What is Allmond's 2016 net income?
E 16-16
Change in tax
ates; calculate
axable income
L016-1, LO16-5
Arnold Industries has pretax accounting income of $33 million for the year ended December 31, 2016. The tax
rate is 40%. The only difference between accounting income and taxable income relates to an operating lease in
which Arnold is the lessee. The inception of the lease was December 28, 2016. An $8 million advance rent pay-
ment at the inception of the lease is tax-deductible in 2016 but, for financial reporting purposes, represents prepaid
rent expense to be recognized equally over the four-year lease term.
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