Question

     In the first year of operations in 2017, the pretax accounting income of Lisle Company was$16,000. Included in pretax accounting income were the following:

     (2) $33,000 of sales revenue that will not be recognized for tax purposes until it is collected;

(3) $32,000 in warranty expense that was recognized as product sales were made according to GAAP, but will be deductible for tax purposes only when the actual disbursements are made; and.

(1) $4,000 expense for a premium for life insurance covering the firm’s president, with Lisle named as beneficiary, which is not deductible for tax purposes.

     The temporary differences are expected to reverse in the following pattern:

            

                                                     Installment                         Warranty

                                 Year            Collections                        Payments

                               2017                   8,300                            18,200

                               2018                 12,800                            10,300

                                2019                 11,900                              3,500

                                                      $33,000                          $32,000

    

     In addition, Lisle records $12,000 more depreciation for tax purposes than for accounting financial statements, and it is not expected to start reversing in the near future.

     The enacted tax rate for 2017 is 35%; in 2017, due to a significant change in the tax law, the enacted tax rate for corporations became 21% for 2018 and future years.

     Required:

1. Calculate taxable income for 2017, and prepare the journal entry necessary to record income taxes at the end of 2017. How would any deferred tax amounts be reported on a classified balance sheet? Show how taxable income, income tax expense, and net income would be reported on the income statement.

2. Assume that 2018 pretax accounting income is $8,000, the insurance premium is the same as for 2017, and Lisle records an additional $12,000 more depreciation expense for tax purposes than for accounting financial statements. The portions of previous differences expected to reverse in 2018 do reverse exactly as estimated. Prepare the journal entry necessary to record income taxes at the end of 2018. How would any deferred tax amounts be reported on the 2018 balance sheet? Show how taxable income, income tax expense, and net income would be reported on the 2018 income statement.

Answer 1

a) Calculation of Taxable Income for year 2017 :

Particulars	Amt.
Pre-tax accounting income	16000
Less-
Revenue not recognised as per income tax	33000
Additional Depreciation	12000
Warranty expenses actually paid	18200
Add-
Warranty expenses not deductible unless it is paid	32000
Insurance premium not deductible	4000
Installments collected	8300
Taxable Income (Loss to be carry forward to next year)	-2900
Income Tax @35%	Nil

Journal Entries

1) Profit & Loss A/c ----- Dr 0

To Current Tax A/c 0

2) Profit & Loss A/c ----- Dr. 3,815

To Deferred Tax Liability 3,815

Reporting of Deferred tax liability in balance sheet -

DTL should be disclosed under a separate heading in the balance sheet under the head non current liabilities .

Reporting in Income Statement-

Income before tax	16,000
(-) Tax expense	Nil
(-) Deferred Tax Liability	3,815
Income After Tax	12,185

(b) Profit & Loss A/c ------- Dr 525.00

To Current Tax 525.00

Deferred Tax Asset A/c ------ 525.00

To Profit & Loss A/c 525.00

Reporting of Deferred tax liability in balance sheet -

DTA should be disclosed under a separate heading in the balance sheet under the head non current assets .

Reporting in Income Statement-

Income before tax	8,000
(-) Tax expense	525
(+) Deferred Tax Assets	525
Income After Tax	8,000