Lecture Intermediate accounting (13th edition) Chapter 19 Kieso Weygandt, Warfield

Chapter
19-1


CHAPTER

19

ACCOUNTING FOR INCOME TAXES

Intermediate Accounting
13th Edition
Kieso, Weygandt, and Warfield
Chapter
19-2


Learning
Learning Objectives
Objectives
1.

Identify differences between pretax financial income and taxable income.

2.

Describe a temporary difference that results in future taxable amounts.

3.

Describe a temporary difference that results in future deductible amounts.

4.

Explain the purpose of a deferred tax asset valuation allowance.

5.

Describe the presentation of income tax expense in the income statement.

6.

Describe various temporary and permanent differences.

7.

Explain the effect of various tax rates and tax rate changes on deferred
income taxes.

8.

Apply accounting procedures for a loss carryback and a loss carryforward.

9.

Describe the presentation of deferred income taxes in financial statements.

10.

Indicate the basic principles of the asset-liability method.

Chapter
19-3


Accounting
Accounting for
for Income
Income Taxes
Taxes
Fundamentals of
Accounting for
Income Taxes
Future taxable
amounts and
deferred taxes
Future deductible
amounts and
deferred taxes
Income
statement
presentation
Specific
differences
Rate
considerations
Chapter
19-4

Accounting for
Net Operating

Losses

Financial
Statement
Presentation

Loss carryback
Loss
carryforward
Loss carryback
example
Loss
carryforward
example

Balance sheet
Income
statement
Uncertain tax
positions

Review of AssetLiability Method


Fundamentals
Fundamentals of
of Accounting
Accounting for
for Income
Income Taxes

Taxes
Corporations must file income tax returns following
the guidelines developed by the Internal Revenue
Service (IRS), thus they:
calculate taxes payable based upon IRS code,
calculate income tax expense based upon GAAP.
Amount reported as tax expense will often differ
from the amount of taxes payable to the IRS.

Chapter
19-5

LO 1 Identify differences between pretax financial income and taxable income.


Fundamentals
Fundamentals of
of Accounting
Accounting for
for Income
Income Taxes
Taxes
Financial Statements

Tax Return
Illustration 19-1

vs.
Exchanges

Investors and Creditors
Pretax Financial Income
GAAP
Income Tax Expense

Chapter
19-6

≠

Taxable Income

≠

Tax Code
Income Tax Payable

LO 1 Identify differences between pretax financial income and taxable income.


Fundamentals
Fundamentals of
of Accounting
Accounting for
for Income
Income Taxes
Taxes
Illustration: KRC, Inc. reported revenues of $130,000
and expenses of $60,000 in each of its first three
years of operations. For tax purposes, KRC reported

the same expenses to the IRS in each of the years.
KRC reported taxable revenues of $100,000 in 2010,
$150,000 in 2011, and $140,000 in 2012. What is the
effect on the accounts of reporting different amounts
of revenue for GAAP versus tax?

Chapter
19-7

LO 1 Identify differences between pretax financial income and taxable income.


Book
Book vs.
vs. Tax
Tax Difference
Difference
GAAP
GAAPReporting
Reporting

Illustration 19-2

2010

2011

2012

Total

Revenues

$130,000

$130,000

$130,000

$390,000

Expenses

60,000

60,000

60,000

180,000

Pretax financial income

$70,000

$70,000

$70,000

$210,000

Income tax expense (40%)

$28,000

$28,000

$28,000

$84,000
Illustration 19-3

Tax
TaxReporting
Reporting

2010

2011

2012

Total

Revenues

$100,000

$150,000

$140,000

$390,000

Expenses

60,000

60,000

60,000

180,000

Pretax financial income

$40,000

$90,000

$80,000

$210,000

Income tax payable (40%)

$16,000

$36,000

$32,000

$84,000

Chapter
19-8

LO 1 Identify differences between pretax financial income and taxable income.


Book
Book vs.
vs. Tax
Tax Difference
Difference
Illustration 19-4

Comparison
Comparison
Income tax expense (GAAP)
Income tax payable (IRS)
Difference

2010

2011

2012

Total

$28,000

$28,000

$28,000

$84,000

16,000

36,000

32,000

84,000

$(8,000)

$(4,000)

$12,000

Are the differences accounted for in the financial statements?
Year

Reporting Requirement

2010

Deferred tax liability account increased to $12,000

2011

Deferred tax liability account reduced by $8,000

2012

Deferred tax liability account reduced by $4,000

Chapter
19-9

$0

Yes

LO 1 Identify differences between pretax financial income and taxable income.


Financial
Financial Reporting
Reporting for
for 2010
2010
Balance Sheet
Assets:

Income Statement
2010

Revenues:

2010

Expenses:
Liabilities:

Deferred taxes
12,000 tax payable
Income
16,000
Equity:

Income tax expense
28,000

Net income (loss)

Where does the “deferred tax liability” get reported in the
financial statements?
Chapter
19-10

LO 1 Identify differences between pretax financial income and taxable income.


Temporary
Temporary Differences
Differences

A Temporary Difference is the difference between the tax
basis of an asset or liability and its reported (carrying or
book) amount in the financial statements that will result in
taxable amounts or deductible amounts in future years.

Future Taxable Amounts

Future Deductible Amounts

Deferred Tax Liability
represents the increase in taxes
payable in future years as a result
of taxable temporary differences
existing at the end of the current
year.

Deferred Tax Asset represents
the increase in taxes refundable
(or saved) in future years as a
result of deductible temporary
differences existing at the end of
the current year.

Illustration 19-22 Examples of Temporary Differences
Chapter
19-11

LO 2 Describe a temporary difference that results in future taxable amounts.

Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Illustration: In KRC’s situation, the only difference between
the book basis and tax basis of the assets and liabilities
relates to accounts receivable that arose from revenue
recognized for book purposes. KRC reports accounts
receivable at $30,000 in the December 31, 2010, GAAP-basis
balance sheet. However, the receivables have a zero tax
basis.
Illustration 19-5

Chapter
19-12

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Illustration: Reversal of Temporary Difference, KRC Inc.

Illustration 19-6

KRC assumes that it will collect the accounts receivable and report
the $30,000 collection as taxable revenues in future tax returns.
KRC does this by recording a deferred tax liability.
Chapter
19-13

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
A deferred tax liability represents the increase in taxes
payable in future years as a result of taxable temporary
differences existing at the end of the current year.
Illustration 19-4

Income tax expense (GAAP)
Income tax payable (IRS)
Difference

Chapter
19-14

2010

2011

2012

Total

$28,000

$28,000

$28,000

$84,000

16,000

36,000

32,000

84,000

$(8,000)

$(4,000)

$12,000

$0

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
Illustration: Because it is the first year of operations for
KRC, there is no deferred tax liability at the beginning of the
year. KRC computes the income tax expense for 2010 as
follows:

Chapter
19-15

Illustration 19-9

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts

Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
Illustration: KRC makes the following entry at the end of
2010 to record income taxes.
Income Tax Expense

28,000

Income Tax Payable
16,000
Deferred Tax Liability
12,000
Chapter
19-16

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
Illustration: Computation of Income Tax Expense for 2011.

Illustration 19-10

Chapter
19-17

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
Illustration: KRC makes the following entry at the end of
2011 to record income taxes.
Income Tax Expense

28,000

Deferred Tax Liability

8,000

Income Tax Payable
36,000

Chapter

19-18

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Liability
Illustration: The entry to record income taxes at the end of
2012 reduces the Deferred Tax Liability by $4,000. The
Deferred Tax Liability account appears as follows at the end
of 2012.
Illustration 19-11

Chapter
19-19

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred

Deferred Taxes
Taxes
E19-1: Starfleet Corporation has one temporary difference
at the end of 2010 that will reverse and cause taxable
amounts of $55,000 in 2011, $60,000 in 2012, and $75,000
in 2013. Starfleet’s pretax financial income for 2010 is
$400,000, and the tax rate is 30% for all years. There are
no deferred taxes at the beginning of 2010.
Instructions

Chapter
19-20

a)

Compute taxable income and income taxes payable for
2010.

b)

Prepare the journal entry to record income tax expense,
deferred income taxes, and income taxes payable for 2010.
LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Taxable
Taxable Amounts
Amounts and
and Deferred

Deferred Taxes
Taxes

a.
a.

Chapter
19-21

LO 2 Describe a temporary difference that results in future taxable amounts.


Future
Future Deductible
Deductible Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Illustration: During 2010, Cunningham Inc. estimated its
warranty costs related to the sale of microwave ovens to be
$500,000, paid evenly over the next two years. For book
purposes, in 2010 Cunningham reported warranty expense and
a related estimated liability for warranties of $500,000 in
its financial statements. For tax purposes, the warranty tax
deduction is not allowed until paid.
Illustration 19-12

Chapter
19-22

LO 3 Describe a temporary difference that results in future deductible amounts.


Future
Future Deductible
Deductible Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Illustration: Reversal of Temporary Difference, Cunningham Inc.
Illustration 19-13

When Cunningham pays the warranty liability, it reports an expense
(deductible amount) for tax purposes. Cunningham reports this
future tax benefit in the December 31, 2010, balance sheet as a
deferred tax asset.
Chapter
19-23

LO 3 Describe a temporary difference that results in future deductible amounts.


Future
Future Deductible
Deductible Amounts
Amounts and
and Deferred
Deferred Taxes

Taxes
Deferred Tax Asset
A deferred tax asset represents the increase in taxes
refundable (or saved) in future years as a result of
deductible temporary differences existing at the end of the
current year.

Chapter
19-24

LO 3 Describe a temporary difference that results in future deductible amounts.


Future
Future Deductible
Deductible Amounts
Amounts and
and Deferred
Deferred Taxes
Taxes
Deferred Tax Asset
Illustration: Hunt Co. accrues a loss and a related liability
of $50,000 in 2010 for financial reporting purposes because
of pending litigation. Hunt cannot deduct this amount for tax
purposes until the period it pays the liability, expected in
2011.

Chapter
19-25

Illustration 19-14

LO 3 Describe a temporary difference that results in future deductible amounts.