Question

Big Ink is a chain of tattoo parlors that follows IFRS. The following data is for 2020:

Golf club dues were $30,000.

Automated tattoo machinery was acquired on January 1, 2019, for $200,000. Straight‐line depreciation is over a 10‐year life with a $20,000 residual value. For taxes, the 30% rate class is used, and Big Ink applied the CRA half year rule in 2019.

On December 31, 2020, Big Ink accrued a provision for legal expense of $40,000. The estimated legal liability of $40,000 relates to four pending lawsuits. In addition to the $40,000, legal costs paid out in cash during 2020 were $60,000. These related to lawsuits started and settled during 2020. Big Ink believes that the new automated equipment will reduce the number of lawsuits.

Pretax accounting income for 2020 is $880,000. The income tax rate is 25%.

Instructions

1. WRITE a schedule (starting with pretax accounting income) to calculate taxable income. On your schedule, indicate a subtotal for accounting income after permanent differences.
2. Prepare the journal entries to record income taxes for 2020.

Answer 1

Asset acquired on Jan 1, 2019

Depreciation for 2019 = 200,000 * 1/2 * 30% = 30,000

Depreciation for 2020 = (200,000 - 30,000) * 30% = 51,000

Income Statement

Accounting Income = 880,000

Less: Legal Costs = 60,000

Less: Depreciation = 51,000

Taxable Income = 769,000

To be shown in notes to account - Provision for Legal expenses for pending law suit should be shown in notes to account being Contingent Liability.

Journal Entry

Tax = 769,000 * 25% = 192,250

1. Profit and loss account A/c Dr 192,250

To Provision for income tax A/c 192,250

(To provision made)

2. Provision for income tax A/c Dr 192,250

To Cash/Bank A/c 192,250

(To payment for taxes made)