Chapter One

02/24/2025
compiled by: Nahom Y.
Accounting for Income
tax 1
 Fundamentals of Accounting for Income tax

 Corporations use guidelines to report information to

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investors and creditors (IFRS)

compiled by: Nahom Y.

 Corporations also must file income tax returns following
the guidelines developed by the Internal Revenue
Service (IRS).

 Because of IFRS and tax regulations differ in a number of

ways, a company reports as tax expense will differ from 2
the amount of taxes payable to the IRS
 Financial Vs Tax reporting

compiled by: Nahom Y. 02/24/2025

3
Basic Concepts

Income tax: all domestic and foreign taxes, based on taxable profits.

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Accounting profit: It is profit or loss for a period determined in accordance with IFRS

Taxable profit (tax loss): It is the profit (loss) for a period, determined in accordance with income tax law
4
Cont’d….
Temporary differences = differences between
the carrying amount of an asset or liability in

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the statement of financial position and its tax
base.

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Initial differences in recognition between the carrying
amount of an asset or liability and Tax base should not
be recognized as Temporary differences 5
Cont’d….

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Current tax-tax
consequences that are

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The other consequences, which
legal assets or liabilities are expected to become, or
at the reporting date (more strictly) form part of, legal
assets or liabilities in a future
period, are referred to as a
deferred tax.

6
The tax base concept

tax base of an

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Where those
asset is the
economic
amount that will
benefits are not

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be deductible for
taxable, the tax
tax purposes
base of the asset
when it recovers
is the same as its
the carrying value
carrying amount.
of the asset.
7
Cont’d….
Example -A machine cost $10,000. For tax
purposes, depreciation of $3,000 has already been

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deducted in the current and prior periods and the
remaining cost will be deductible in future

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periods, either as depreciation or through a
deduction on disposal. Revenue generated by
using the machine is taxable, any gain on disposal
of the machine will be taxable and any loss on
disposal will be deductible for tax purposes. 8
Cont’d….
tax base of a liability is its carrying amount, less any amount
that will be deducted for tax purposes.

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compiled by: Nahom Y.
Where those economic outflows are not taxable, the tax base
of the liability is the same as its carrying amount.

Example -Current liabilities include accrued expenses with a

carrying amount of $1,000. The related expense will be 9
deducted for tax purposes on a cash basis.
Cont’d….
Difference
between AP and

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TP

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Permanent Temporary 10
 Temporary Vs Permanent Differences
1. Temporary Difference
• Taxable temporary differences: result in taxable amounts in

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future years when the related assets are recovered.
• Taxable temporary differences give rise to recording
deferred tax liabilities.

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• Deductible temporary differences are differences that will
result in deductible amounts in future years when the
related book liabilities are settled.
• Deductible temporary differences give rise to recording
deferred tax assets.
11
Temporary Difference …………Cont;d
Originating and Reversing Temporary
Differences.

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• An originating temporary difference is the
initial difference between the book basis and

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the tax basis of an asset or liability,
• A reversing difference, occurs when
eliminating a temporary difference that
originated in prior periods and then removing
the related tax effect from the deferred tax 12
account.
 Illustration IFRS Vs Tax Reporting
1. CHELSEA INC. IFRS REPORTING

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2017 2018 2019 Total

compiled by: Nahom Y.

Revenues $130,000 $130,000 $130,000
Expenses 60,000 60,000 60,000

Pretax financial income $ 70,000 $ 70,000 $ 70,000 $210,000

Income tax expense (40%) $ 28,000 $ 28,000 $ 28,000 $ 84,000

13
• For tax purposes Chelsea reported the same expenses to the IRS in
each of the years.
• But, Chelsea reported different taxable revenues (due to Receivables)
of $100,000 in 2017, $150,000 in 2018, and $140,000 in 2019.

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2. CHELSEA INC. TAX REPORTING

compiled by: Nahom Y.

2017 2018 2019 Total

Revenues $100,000 $150,000 $140,000

Expenses 60,000 60,000 60,000

Taxable income $ 40,000 $ 90,000 $ 80,000 $210,00

0
Income taxes payable $ 16,000 $ 36,000 $ 32,000 $ 14
(40%) 84,000
Income tax expense Vs income tax
payable
• For this example Income tax expense and income taxes payable
differed over the three years but were equal in total.

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CHELSEA INC. INCOME TAX EXPENSE AND
INCOME TAXES PAYABLE

compiled by: Nahom Y.

2017 2018 2019 Total
Income tax expense $28,000 $28,000 $28,000 $84,000

Income taxes payable 16,000 36,000 32,000 84,000

Difference $12,000 $ (8,000) $ (4,000) $ –0– 15

 Differences are due to treat of account receivable
differently.

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For financial reporting For tax purposes,
full accrual method is used modified cash basis is used

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As a result, pretax financial income of $70,000 However, taxable income fluctuates. For
and income tax expense of $28,000 for each example, in 2017 taxable income is only
of the three years. $40,000,

• so Chelsea
owes just 16

$16,000 to the
IRS that year.
 That is 12,000
The difference reflects, taxes that will be (28,000 –
paid in future periods. 16,000)

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This $12,000 difference is often referred to
as a deferred tax amount.

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In this case, it is a deferred tax liability (future
burden).

In cases where taxes will be lower in the future, we

record as deferred tax asset (future benefit (tax save)). 17
 A temporary difference
- a difference between the tax basis and book basis of assets and
liabilities in the financial statements,
- result in taxable amounts or deductible amounts in future years.

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compiled by: Nahom Y.
Taxable amounts increase taxable income in future years.

Deductible amounts decrease taxable income in future years.

18
Cont’d….
In the previous example, the only difference between the book
basis and tax basis of the assets and liabilities relates to accounts

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receivable that arose from revenue recognized for book purposes.
The illustration indicates that Chelsea reports account receivable at
$30,000.

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Per Books 12/31/17 Per Tax Return 12/31/1
7
Accounts $30,000 Accounts receivable $–0–
receivable

19
What will happen to the $30,000 temporary
difference that originated in 2017 for
Chelsea?
Assuming Chelsea expects to collects,
$20,000 in 2018 and $10,000 in 2019,

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this collection results in future taxable amounts of
$20,000 in 2018 and $10,000 in 2019.

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These will cause taxable income exceed pretax
financial income.

That is, companies recognize income taxes that are

payable when they recover the reported assets.

Recognize the amount of income taxes that are 20

refundable when they settle liabilities.
Reversal of Temporary Difference

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21
 Deferred Tax Liability
 A deferred tax liability: the increase in taxes payable in
future years as a result of taxable temporary differences existing
at the end of the current year.
 Based on Example, income taxes payable is $16,000 ($40,000

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× 40%) in 2017.
Book basis of accounts receivable $30,000

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Tax basis of accounts receivable –0–

Cumulative temporary difference at the end of 2017 30,000

Tax rate 40%

Deferred tax liability at the end of 2017 $12,000

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 Because it is the first year of operations for Chelsea,
there is no deferred tax liability at the beginning of the
year.
Deferred

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Incometaxtax expense
liability forof2017
at end 2017 will be. $12,000

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Deferred tax liability at beginning of 2017 –0–

Deferred tax expense for 2017 12,000

Current tax expense for 2017 (income taxes payable) 16,000

Income tax expense (total) for 2017 $28,000 23

• This computation indicates that income tax expense has two
components current tax expense & deferred tax expense.

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• Deferred tax expense is the increase in the deferred tax liability balance
from the beginning to the end of the accounting period.

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For Chelsea, it makes the following entry at the end of 2017.

Income Tax Expense 28,000

Income Taxes Payable 16,000
Deferred Tax Liability 12,000
24
Deferred tax liability at end of 2018 $ 4,000

Deferred tax liability at beginning of 2018 12,000

Deferred tax expense (benefit) for 2018 (8,000)

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Current tax expense for 2018 (income taxes payable) 36,000

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Income tax expense (total) for 2018 $28,000

Income Tax Expense 28,000

Deferred Tax Liability 8,000 25

Income Taxes Payable 36,000

• On the 3rd year the computation and journal entries are

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compiled by: Nahom Y.
Income Tax Expense 28,000
Deferred Tax Liability 4,000
Income Taxes Payable 32,000
26
Financial Statement Effects
For the Balance Sheet
income taxes payable will be reported as current
liability, and

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the deferred tax liability is reported as a non-
current liability.

compiled by: Nahom Y.

Year-End Income Taxes Payable Deferred Tax
Liability
2017 $16,000 $12,000
2018 36,000 4,000
−0−
2019 32,000
27
For Income Statement, Income Tax Expense will be
Presented totally or separately as current tax and differed tax.

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For the Year Ended 2017 2018 2019
Income before income taxes $70,000 $70,000 $70,000

compiled by: Nahom Y.

Income tax expense 28,000 28,000 28,000
Net income $42,000 $42,000 $42,000

28
 Future Deductible Amounts and Deferred Taxes
 Deductible amounts decrease taxable income
in future years.
Assume that during 2017, Cunningham Inc. estimated its warranty

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costs related to the sale of microwave ovens to be $500,000, paid
evenly over the next two years.

compiled by: Nahom Y.

 For book purposes, Cunningham reported warranty expense and a related
estimated liability for warranties of $500,000.
 For tax purposes, the warranty tax deduction is not allowed until paid.

29
 the tax deductions that will result from the future
settlement of the liability

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Deductible amounts occur in future tax returns.
These future deductible amounts cause taxable
income to be less than pretax financial income in the
future as a result of an existing temporary difference. 30
• Cunningham’s temporary difference
originates (arises) in one period (2017) and
reverses over the future two periods (2018 and
2019).

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compiled by: Nahom Y.
31
 Deferred Tax Asset
A deferred tax asset: the increase in taxes refundable (or saved) in future years
result of deductible temporary differences existing at the end of the current year.

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compiled by: Nahom Y.
To illustrate, assume that Hunt Company has revenues of $900,000 for both 2017
and 2018. It also has operating expenses of $400,000 for each of these years. In
addition, Hunt accrues a loss and related liability of $50,000 for financial reporting
purposes because of pending litigation.

Hunt cannot deduct this amount for tax purposes until it pays the liability, expected in
32
2018. As a result, a deductible amount will occur in 2018 when Hunt settles the
liability, causing taxable income to be lower than pretax financial information.
 IFRS Reporting
2017 2018
Revenues $900,000 $900,000
Expenses (operating) 400,000 400,000
Litigation loss 50,000 −0−
Pretax
incomefinancial $450,000 $500,000

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Tax rate 40% 40%
Income tax expense $180,000 $200,000

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Tax Reporting
Revenues 2017 2018
Expenses (operating) $900,000 $900,000
400,000 400,000
Litigation loss −0− 50,000
Taxable income $500,000 $450,000
Tax rate 40% 40% 33
Income taxes payable $200,000 $180,000
• Computation of the deferred tax asset at the end
of 2017 (assuming a 40% tax rate) will be.

Book basis of litigation liability $50,000

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Tax basis of litigation liability –0–

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Cumulative temporary difference at the end of 2017 50,000

Tax rate 40%

Deferred tax asset at the end of 2017 $20,000

34
• Assuming that 2017 is Hunt’s first year of operations and
income taxes payable is $200,000,
• Hunt computes its income tax expense as follows.

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Deferred tax asset at end of 2017 $ 20,000
Deferred tax asset at beginning of 2017 –0–

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Deferred tax benefit (Save) for 2017 (20,000)

Current tax expense for 2017 (income taxes 200,000

payable)
Income tax expense (total) for 2017 $180,000

35
• The deferred tax benefit results from the
increase in the deferred tax asset from the
beginning to the end of the accounting period.
• The deferred tax benefit is a negative

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component of income tax expense.

compiled by: Nahom Y.

• Hunt makes the following journal entry.

Income Tax Expense 180,000

Deferred Tax Asset 20,000
Income Taxes Payable 200,000
36
 Income tax expense for 2018

Deferred tax asset at the end of 2018 $–

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Deferred tax asset at the beginning of 2018 0–
Deferred tax benefit (Save) for 2018

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Current tax expense for 2018 (income taxes
20,000
payable) 20,000
Income tax expense (total) for 2018 180,000
$200,000

37
The company records income taxes for 2018 as follows.

Income Tax Expense 200,000

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Deferred Tax Asset 20,000
Income Taxes Payable 180,000

compiled by: Nahom Y.

• The total income tax expense of $200,000 on the income statement for 2018 thus
consists of two elements.
current tax expense of $180,000 and
deferred tax expense of $20,000. 38
Financial Statement Effects
For Balance Sheet Hunt Company reports the following
information on its balance sheets for 2017 and 2018 as shown

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in Illustration.

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• Income taxes payable is reported as a current liability, and
the deferred tax asset is reported as a noncurrent asset.

39
For Income statement; On its income statement, Hunt
Company reports the information as shown in Illustration.

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HUNT COMPANY INCOME STATEMENT
FOR THE YEAR ENDING DECEMBER 31, 2017

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Revenues $900,00
0
Expenses (operating) 400,000
Litigation loss 50,000
Income before income 450,000
taxes Income tax
$200,000
expense
Current 40
Deferred (20,000) 180,000
Net income $270,00
Class Activity
• In 2017, Amirante Corporation had pretax
financial income of $168,000 and taxable

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income of $120,000. The difference is due to the
use of different depreciation methods for tax

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and accounting purposes. The effective tax rate
is 40%.
i. Compute the amount to be reported as income
taxes payable at December 31, 2017.
ii. Pass the Journal Entry
41
 compiled by: Nahom Y. 02/24/2025
42
 2. Permanent differences
 Permanent differences result from items that (1) enter into
pretax financial income but never into taxable income, and
vise versa.

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 Congress has enacted a variety of tax law provisions to

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attain certain political, economic, and social objectives.

 Some of these provisions

exclude certain revenues from taxation,
limit the deductibility of certain expenses, and
permit the deduction of certain other expenses in excess 43

of costs incurred.
 2. Permanent differences
• Since permanent differences affect only the period in which
they occur, they do not give rise to future taxable or
deductible amounts.

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• As a result, companies recognize no deferred tax

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consequences.

44
 Examples of Permanent Differences
Items recognized for financial reporting purposes but not for tax purposes.

1. Interest received on state and municipal obligations.

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2. Expenses incurred in obtaining tax-exempt income.
3. Proceeds from (Premiums paid for) life insurance carried by the company on key
officers or employees.

compiled by: Nahom Y.

4. Fines and expenses resulting from a violation of law.

Items recognized for tax purposes but not for financial reporting purposes.

5. “Percentage depletion” of natural resources in excess of their cost.

6. The deduction for dividends received from Gov’t corporations.
45
 Illustrations of Temporary and Permanent Differences

• Assume that Bio-Tech Company reports pretax financial income of

$200,000 in each of the years 2015,16, and 17. The company is
subject to a 30% tax rate and has the following differences between
pretax financial income and taxable income.

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1. It pays life insurance premiums for its key officers of $5,000 in

compiled by: Nahom Y.

2016 and 2017. Although not tax-deductible, Bio-Tech expenses
the premiums for book purposes.

2. Bio-Tech reports gross profit of $18,000 from an installment sale

in 2015 for tax purposes over an 18-month period at a constant
amount per month beginning January 1, 2016. It recognizes the
entire amount for book purposes in 2015. 46
• The installment sale is a temporary difference,
whereas the life insurance premium is a
permanent difference.
2015 2016 2017

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Pretax financial income $200,000 $200,000 $200,000
Permanent Difference
(Non-deductible expense ) 5,000 5,000

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Temporary difference
(Installment sale) (18,000) 12,000 6,000
Taxable income 182,000 217,000 211,000

Tax rate 30% 30% 30%

Income taxes payable $ 54,600 $ 65,100 $ 63,300

47
 Interpretation
Bio-Tech deducts the installment-sales gross profit from
pretax financial income to arrive at taxable income
Because Pretax financial income includes the installment-

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sales gross profit; taxable income does not.

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Conversely, it adds the $5,000 insurance premium to
pretax financial income to arrive at taxable income
Because Pretax financial income records an expense for
this premium, but not for tax purposes.

Therefore, the life insurance premium must be added back 48

to pretax financial income to reconcile to taxable income.
 December 31, 2015

Income Tax Expense ($54,600 + $5,400) 60,000

Deferred Tax Liability ($18,000 × 30%) 5,400

Income Taxes Payable ($182,000 54,600

× 30%)

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December 31, 2016

Income Tax Expense ($65,100 – $3,600) 61,500

compiled by: Nahom Y.

Deferred Tax Liability ($12,000 × 30%) 3,600

Income Taxes Payable ($217,000 65,100

× 30%)
December 31, 2017

Income Tax Expense ($63,300 – $1,800) 61,500

Deferred Tax Liability ($6,000 × 30%) 1,800

63,300 49
Income Taxes Payable ($211,000
× 30%)
 Bio-Tech has one temporary difference, which
originates in 2015 and reverses in 2016 and 2017.

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 As the temporary difference reverses, Bio-Tech
reduces the deferred tax liability.

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 There is no deferred tax amount associated with
the difference caused by the nondeductible
insurance expense because it is a permanent
difference. 50
 Although an enacted tax rate of 30% applies for all
three years, the effective rate differs from the
enacted rate in 2016 and 2017.

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 Bio-Tech computes the effective tax rate by
dividing total income tax expense for the period by

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pretax financial income.
 The effective rate is 30% for 2015 ($60,000 ÷
$200,000 = 30%) and 30.75% for 2016 and 2017
($61,500 ÷ $200,000).
51
 Revision of Future Tax Rates
 change in the tax rate is enacted, record
effects immediately on existing differed
income tax account.

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 A company reports the effect as an

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adjustment to income tax expense in the
period of the change.

52
 Revision of Future Tax Rates

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To illustrate, on December 10, 2017, a new income tax act is signed into law that lowers the corporate tax

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rate from 40%to 35%, effective January 1, 2019. If Hostel Co. has one temporary difference at the
beginning of 2017 related to $3 million of excess tax depreciation, then it has a Deferred Tax Liability
account with a balance of $1,200,000 ($3,000,000 × 40%) at January 1, 2017. If taxable amounts related
to this difference are scheduled to occur equally in 2018, 2019, and 2020, the deferred tax liability at the
end of 2017 is $1,100,000, computed as follows.

53
 2018 2019 2020 Total
Future taxable amounts $1,000,00
0 $1,000,000 $1,000,000 $3,000,00
0
Tax rate 40% 35% 35%
Deferred tax liability $ 400,000 $ 350,000 $ 350,000 $1,100,00
0

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.
Hostel, therefore, recognizes the decrease of $100,000 ($1,200,000 – $1,100,000) at the

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end of 2017 in the deferred tax liability as follows.

Deferred Tax Liability 100,000

Income Tax Expense 100,000

• Corporate tax rates do not change often. Therefore, companies usually employ the
current rate.
• However, state and foreign tax rates change more frequently, and they require
54
adjustments in deferred income taxes accordingly.
ACCOUNTING FOR NET OPERATING LOSSES
• Net operating loss (NOL) occurs for tax
purposes, when tax-deductible expenses

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exceed taxable revenues.
• For an established company, a major event

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such as
• a labor strike,
• rapidly changing regulatory and competitive forces,
• a disaster such as 9/11, or
• a general economic recession can cause expenses 55
exceed revenues—a net operating loss.
ACCOUNTING FOR NET OPERATING LOSSES
• Inequitable tax burden would result if
companies were taxed during profitable

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periods without receiving any tax relief
during periods of net operating losses.

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• Companies accomplish this income-
averaging provision (losses of one year to
offset the profits of other years) through
the
56
• carryback and carryforward of net operating
losses.
 Loss Carryback
• CARRYBACKS: Deductions or credits that cannot be utilized
on the tax return during a year and that may be carried back
to reduce taxable income or taxes paid in a prior year.

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• Through use of a loss carryback, a company may carry the
net operating loss back two years and receive refunds for

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income taxes paid in those years.
• The company must apply the loss to the earlier year first and
then to the second year.

57
 Example
• To illustrate the accounting procedures for a net operating loss
carryback, assume that Groh Inc. has no temporary or
permanent
Year differences.
Taxable Income or Loss Tax Rate Tax Paid

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2014 $ 50,000 35% $17,500
2015 100,000 30% 30,000
2016 200,000 40% 80,000

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2017 (500,000) — –0–

• In 2017, Groh incurs a net operating loss that it decides to

carry back.
• Groh Inc must carries the loss back first to 2015. Then, Groh
carries back any unused loss to 2016.
• Accordingly, Groh files amended tax returns for 2015 and 2016, 58

receiving refunds for the $110,000 ($30,000 + $80,000) of

taxes paid in those years.
 For accounting as well as tax purposes, the $110,000 represents the tax effect
(tax benefit) of the loss carryback. Groh should recognize this tax effect in 2017,
the loss year.

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Income Tax Refund Receivable 110,000
Benefit Due to Loss Carryback (Income Tax Expense)
110,000

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• Groh reports the account debited, Income Tax Refund Receivable,
on the balance sheet as a current asset at December 31, 2017. It
reports the account credited on the income statement for 2017.

• Since the $500,000 net operating loss for 2017 exceeds the $300,000
total taxable income from the 2 preceding years, Groh carries 59
forward the remaining $200,000 loss.
 Loss carryforwards
• CARRYFORWARDS. Deductions or credits that cannot be
utilized on the tax return during a year and that may be carried
forward to reduce taxable income or taxes payable in a future
year

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• If a carryback fails to fully absorb a net operating loss or if the
company decides not to carry the loss back, then it can carry
forward. Because companies use carryforwards to offset future

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taxable income, the tax effect of a loss carryforward
represents future tax savings.

60
 Example
Return to the Groh example In 2017, the company records the tax effect
of the $200,000 loss carryforward as a deferred tax asset of $80,000
($200,000 × 40%), assuming that the enacted future tax rate is 40%.

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Groh records the benefits of the carryback and the carryforward in 2017
as follows.

compiled by: Nahom Y.

61
• Groh realizes the income tax refund receivable of $110,000
immediately as a refund of taxes paid in the past.
• It establishes a Deferred Tax Asset account for the benefits of
future tax savings.

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• The two accounts credited are contra income tax expense
items, which Groh presents on the 2017 income statement .

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• The current tax benefit of $110,000 is the income tax
refundable for the year.
• The $80,000 is the deferred tax benefit for the year, which
results from an increase in the deferred tax asset

62
Computation of Income Taxes Payable with Realized Loss
Carryforward

• For 2018, assume that Groh returns to profitable operations

and has taxable income of $250,000 (prior to adjustment for

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the NOL carryforward), subject to a 40% tax rate. Groh then
realizes the benefits of the carryforward for tax purposes in
2018, which it recognized for accounting purposes in 2017.

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Groh computes the income taxes payable for 2018.

Taxable income prior to loss carryforward $

250,000
Loss carryforward deduction (200,000
)
Taxable income for 2018 50,000 63
Tax rate 40%
Income taxes payable for 2018 $
• Groh records income taxes in 2018 as follows.

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Income Tax Expense 100,000
Deferred Tax Asset 80,00

compiled by: Nahom Y.

0
Income Taxes
Payable 20,00
0
• The benefits of the NOL carryforward, realized in 2018, reduce the
Deferred Tax Asset account to zero.

64
 Carryforward with Valuation Allowance
VALUATION ALLOWANCE
 The portion of a deferred tax asset for which it is

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more likely than not that a company will not realize a
tax benefit.
• Assume that it is more likely than not that Groh will not realize

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the entire NOL carryforward in future years.
• In this situation, Groh records the tax benefits of $110,000
associated with the $300,000 NOL carryback, as we previously
described.
• In addition, it records Deferred Tax Asset of $80,000 ($200,000
× 40%) for the potential benefits related to the loss
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carryforward, and an allowance to reduce the deferred tax
asset by the same amount
 FINANCIAL STATEMENT PRESENTATION
1. Balance Sheet

• Income taxes payable and income tax refund

receivable are reported as a current liability and

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current asset, respectively, on the balance sheet.

compiled by: Nahom Y.

• Deferred tax assets and deferred tax liabilities are
separately recognized and measured and then offset
on the balance sheet.

• The net deferred tax asset or net deferred tax liability

is therefore reported in the noncurrent section of the 66

balance sheet.
 Income Statement
• Companies are required to report income before taxes and
income tax expense on the income statement.

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• Income tax expense generally equals the sum of income taxes
payable and the change in the deferred tax expense.
• Income tax benefit generally equals the sum of income taxes

compiled by: Nahom Y.

refundable and the change in the deferred tax benefit.

• For example, a company adds an increase in a deferred tax

liability to income taxes payable. On the other hand, it
subtracts an increase in a deferred tax asset from income
taxes payable.
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 Summary

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68
EXAMPLE NSIVE Comprehensive example
• Allman Company, which began operations at the
beginning of 2016, produces various products on a

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contract basis.
• Each contract generates a gross profit of $80,000. Some

compiled by: Nahom Y.

of contracts provide for the customer on an installment
basis.
• Under these contracts, Allman collects one-fifth (20%) of
the contract revenue in each of the following four years.
• For financial reporting purposes, the company uses
accrual basis and for tax purposes, Allman uses
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installment basis (cash basis ).
 Information related to Allman’s
operations for 2016 are given below.
1. In 2016, the company completed seven (7) contracts that allow for the

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customer to pay on an installment basis. Allman recognized the related
gross profit of $560,000 (7 x 80,000) for financial reporting purposes. It
reported only $112,000 (20% x 560,000) of gross profit on installment

compiled by: Nahom Y.

sales on the 2016 tax return. The company expects future collections
on the related installment receivables to result in taxable amounts of
$112,000 in each of the next four years.

2. At the beginning of 2016, Allman Company purchased depreciable

assets with a cost of $540,000. For book purposes, Asset depreciates
using the SLM over 6 yrs. For tax purposes, the assets fall in the five-
year recovery class, and Allman uses the MACRS system. 70
 Depreciation computation
Year Depreciation for Book Depreciation for Tax Differen
Purposes Purposes ce

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2016 $ 90,000 $108,000 $(18,000)
2017 90,000 172,800 (82,800)

compiled by: Nahom Y.

2018 90,000 103,680 (13,680)

2019 90,000 62,208 27,792

2020 90,000 62,208 27,792

2021 90,000 31,104 58,896

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$540,000 $540,000 $ –0–
1. During 2016, the product warranty liability accrued for book
purposes was $200,000, and the actual paid for warranty liability
was $44,000. Allman expects to settle the remaining $156,000
by expenditures of $56,000 in 2017 and $100,000 in 2018.

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2. In 2016, nontaxable municipal bond interest revenue was

compiled by: Nahom Y.

$28,000.
3. In 2016, nondeductible fines and penalties of $26,000 were paid.
4. Pretax financial income for 2016 amounts to $412,000.
5. Tax rates enacted up to 2016 were 50% and for 2017 and later
years 40%. 72
 Required
1. Identify temporary and permanent differences?
2. Determine taxable income of 2016?

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3. Computes income taxes payable for 2016?
4. Compute future taxable amount (DTL) at the end of 2016?

compiled by: Nahom Y.

5. Compute future deductible amount (DTA) at the end of 2016?
6. Compute net deferred tax expense (DTL - DTA) for 2016?
7. Compute total income tax expense (deferred + current) of 2016?
8. Records income taxes payable, deferred income taxes, and income tax expense
of 2016?
9. Show the financial presentation.
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 Exercise
1. ABC Corporation has one temporary difference at the end of 2007 that will
reverse and cause taxable amounts of $55,000 in 2008, $60,000 in 2009, and

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$65,000 in 2010. ABC’s pretax financial income for 2007 is $300,000, and the
tax rate is 30% for all years. There are no deferred taxes at the beginning of
2007.

compiled by: Nahom Y.

Instructions
A. Compute taxable income and income taxes payable for 2007.
B. Prepare the journal entry to record income tax expense, deferred income taxes,
and income taxes payable for 2007.

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 Exercise
2. XYZ Inc. incurred a net operating loss of $450,000 in
2007. Taxable income was $150,000 for 2005 and

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$200,000 for 2006. The tax rate for all years is 40%.

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XYZ elects the carryback option and remaining loss to
be carried forward Prepare the journal entries to record
the benefits of the loss carryback and the loss carry
forward.
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 Quiz
ABC, Inc. reported revenues of $130,000 and expenses of
$60,000 in each of its first three years of operations. For tax

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purposes, ABC reported the same expenses to the IRS in each
of the years. ABC reported taxable revenues of $100,000 in

compiled by: Nahom Y.

2010, $150,000 in 2011, and $140,000 in 2012. What is the
effect on the accounts of reporting different amounts of
revenue for IFRS versus tax? Use tax Rate of 30%

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 Solution

Do it!

compiled by: Nahom Y. 02/24/2025

77