FAR M5 - Income Taxes

• All of the following are subject to intraperiod tax allocation (shown "net of income tax" on the I/S) except for:

  • acctg principle change
  • discontinued operations
  • income from continuing operations
  • operating income

  Answer: operating income
• The approach used to determine income tax expense under current GAAP is known as the balance sheet approach, aka the asset and liability approach.
• Excess depreciation is considered a temporary difference and is given deferred tax treatment.
• If warranty accrual exceeds the amount spent for warranty repairs, this represents a temporary difference and creates a deferred tax asset
• A deferred tax liability increases tax expense because the temporary difference represents tax deductions that are no longer available for tax purposes, resulting in higher future taxes owed.
• Effective tax rate = Income tax expense / Pretax income
• A temporary difference arises in situations where items of revenue and expense enter into pretax GAAP financial income in a period before or after they enter into taxable income.
• A deferred tax asset occurs when a temporary difference results in more taxes paid now and less taxes owed in the future.
• MACRS depreciation will result in higher tax depreciation than I/S depreciation in the early years of an asset's life. This will create a deferred tax liability.
• A valuation allowance is needed whenever it is more likely than not that part or all of a deferred tax asset will not be realized.
• Current income tax expense = taxable income * effective tax rate
• T/F: Municipal bond income is taxable income and should be added back to pretax income to get taxable income.

  F: Municipal bond income is NOT taxable, and it should be SUBTRACTED from pretax income to get taxable income.
• Life insurance premiums are (subtracted from or added back?) SUBTRACTED from pretax income because they (are/are not?) ARE NOT deductible.
• Formula for total income tax expense:

  Income tax expense - current

  Plus: Income tax expense - deferred (aka DTL)

  Less: Income tax benefit - deferred (aka DTA)

  Equals: Total income tax expense
• Income tax expense - current portion formula:

  taxable income * effective tax rate
• Where should a change in valuation allowance be included?

  • I/S - discontinued operations
  • I/S - continuing operations
  • B/S - current assets
  • B/S - current liabilities

  Answer: I/S - continuing operations
• If accelerated depreciation is used for F/S purposes and SL depreciation is used for tax purposes, the tax expense reported on tax returns will be (more/less?) LESS than what is reported on the books.

  This will result in a (DTA/DTL?) DTA
• T/F? DTAs and DTLs are considered current or non-current.

  FALSE: DTAs and DTLs are both classified as non-current.
• If a subsidiary owns less than 20% ownership, the dividends received deduction is only 50%.
• The tax rate applied to a DTL is based on the enacted tax rate expected to apply for annual income in the years the liability is expected to be settled.
• Formula for DTL:

  Future enacted tax rate * future taxable amounts
• Unless evidence is provided to the contrary, it is generally assumed that an NOL in the current period means that there is a greater than 50 percent chance that there will be NOLs in future periods. 
• Is accounting recognition is given to offers to sell assets?

  No, because a completed transaction has not yet occurred.
• An operating loss may be carried forward indefinitely, but in tax years 2021 and beyond, it is limited to 80% of taxable income.
• A carryback results in a claim for refund of past taxes, which is shown on the balance sheet as a tax refund receivable, an item separate from deferred taxes.
• In a carryforward of an NOL, the tax benefit equals the carryforward amount times the appropriate tax rate.
• Which of the following should NOT be disclosed in the financial stmts related to deferred taxes?

  • types and amounts of temporary differences
  • types and nature of operating loss carryforwards
  • types and nature of tax credit carryforwards
  • types and amounts of permanent differences

  Answer: types and amounts of permanent differences
• Identification of a DTA for which all or a part of the asset will not be realized will result in the creation of a valuation account.

  
  

  This will decrease the asset and increase the financial statement income tax expense.
• A DTA will only be realized if there will be future taxable income to which to apply a tax benefit.

  
  

  If the company anticipates no taxable income for the foreseeable future, the company would create a valuation allowance and thus, (increase or decrease?) INCREASE financial statement tax expense.
• If income projections are more positive than previously estimated, the valuation allowance associated w/ a DTA is reversed.

  
  

  This will restore the asset and (increase/decrease?) DECREASE financial stmt tax expense.
• If a DTA is deemed--more likely than not--NOT to be realized, this means there is a greater than 50% chance the DTA will not be enjoyed.

  
  

  This will cause an increase in the valuation allowance, which effectively (increases/decreases?) INCREASES the income tax expense on the F/S.