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DEFERRED TAXES
This topic contains 1 reply, has 2 voices, and was last updated by 5 years, 1 month ago.
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AUTHOR
POSTS
September 23, 2014 at 2:32 pm#188861
ANONYMOUS
Quinn Co. reported a net deferred tax asset of $9,000 in its December 31, Year 1, balance sheet. For Year
2, Quinn reported pretax financial statement income of $300,000. Temporary differences of $100,000
resulted in taxable income of $200,000 for Year 2. At December 31, Year 2, Quinn had cumulative taxable
differences of $70,000. Quinn's effective income tax rate is 30%. In its December 31, Year 2, income
statement, what should Quinn report as deferred income tax expense?
a. $12,000
b. $30,000
c. $60,000
d. $21,000
Explanation:
Choice “b” is correct, $30,000. Deferred tax expense is equal to the current period temporary differences
times the enacted future tax rate: $100,000 × 30% = $30,000.
Analysis of deferred tax account:
12/31/Year 1 Change 12/31/Year 2
Temporary Differences $30 (100) (70)
Tax rate x 30% x 30%
Deferred tax asset 9 (9) 0
Deferred tax liability 0 (21) (21)
Net deferred tax 9 (30) (21)
So my question is why don't you do anything with the $9,000? Isn't that included in the DTA?
September 23, 2014 at 5:16 pm#609986
Rshukla
Member
As of 12/31/Y1, Quinn had a deferred tax asset of $9,000 (because tax return income was higher than
F/S income). As of 12/31/Y2, Quinn had a deferred tax liability of $30,000 (because tax return income is
lower than F/S income).
DTA from Y1 has not reversed as of 12/31/Y2 (see last two paragraphs). Therefore, as of 12/31/Y2 Quinn
had a NET deferred tax liability of $21,000 (calculated as: $30,000 – $9,000). The $9,000 DTA is used to
calculate your NET deferred tax position and not your deferred tax expense for Y2 which equals:
Y2 temporary differences (between F/S income and tax return income) X enacted tax rate
$100,000 x 30% = $30,000 deferred tax expense for Y2
The question mentioned cumulative temporary differences of $70,000 as of 12/31/Y2. This is correct
because to have a deferred tax ASSET of $9,000 in Y1 at a tax rate of 30%, you need to have temporary
differences of $30,000 in Y1 ($9,000 / 0.30 = $9,000). In other words, your taxable income was HIGHER
from your financial statement income by $30,000 in Y1. You paid more taxes in Y1 which will be
deductible on future tax returns (reducing future tax liability) and are therefore, deferred tax assets.
Similarly, to have a deferred tax LIABILITY of $30,000 in Y2 at a tax rate of 30%, you need to have
temporary differences of $100,000 in Y2 ($30,000 / 0.30 = $100,000). In other words, your taxable
income was LOWER from your financial statement income by $100,000 in Y2. You are paying less taxes in
Y2 which will be paid on future tax returns (increasing future tax liability) and are therefore, deferred tax
liabilities.
And obviously, $100,000 – $30,000 = $70,000 cumulative temporary differences as of 12/31/Y2.
AUTHOR
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REFUND POLICY
Taft Corp. uses the equity method to account for its 25% investment in Flame, Inc. During the current
year, Taft received dividends of $30,000 from Flame and recorded $180,000 as its equity in the earnings
of Flame. Additional information follows:
••••
All the undistributed earnings of Flame will be distributed as dividends in future periods. The dividends
received from Flame are eligible for the 80% dividends received deduction. There are no other
temporary differences. Enacted income tax rates are 30% for current and future periods.
In its December 31 balance sheet, what amount should Taft report for deferred income tax liability?
a. $9,000 b. $10,800 c. $45,000 d. $54,000.
The answer provided is $9,000, which is by multiplying the equity in earnings by the DRD percentage
(180,000 – 180,000 x 80%), subtracting the portion of the tax dividend that would receive the DRD
(30,000 – 30,000 x 80%) and multiplying the difference by the enacted tax rate. I'm confused… why
would you multiply the equity in earnings by the DRD amount in order to get to the answer?
I hope I'm about to say this right and not confuse both of us. The equity earnings are added to Taft Corps
books for the year. They received dividends that were eligible for the DRD. The amount of Flame's
earnings times the DRD rate is what Taft will eventually receive from Flame. They will get to take the DRD
when they receive them. Since Flame reported $180,000 in income that they did not distribute in
dividends then Taft will eventually have to pay tax on their portion of Flame's income less the DRD. Does
this make sense or have I confused us both? Deferred taxes were never my strong suit but I try!
