Question

During the last five months of the year, Dwana opens a new internet telecommunications business called Dwan-Com. Dwan-Com bills $50,000 of revenues, but receives only $40,000 cash. Dwan-Com incurs $3,000 of supply expenses, and $41,000 of labor costs. Dwan-Com pays for $2,200 of the supplies and $38,000 of the labor costs in the current year.

a. Under the cash method, Dwan-Com has a net of $.

b. Dwan-Com's taxable income under the accrual method is $.

c. What method of accounting do you recommend that Dwan-Com elect?

Answer 1

(a).

Net taxable loss under cash method = $200

Explanation;

Cash revenue	$40000
Less:
Cash supplies expense	($2200)
Cash labor costs	(38000)
Taxable loss	($200)

(b).

Net taxable income under accrual method = $6000

Explanation;

Revenue	$50000
Less:
Supplies expense	($3000)
Labor costs	(41000)
Taxable loss	$6000

(C).

Dwan-Com should elect accrual method because under this method Dwan-Com will have to pay taxes at lower rate in future time. As we know that under cash method, Dwan-Com will not pay any tax amount due to net loss but it will result into higher tax liability in the future time. Apart from this it is also true that in future time business level will also increase that is why Dwan-Com should adopt accrual method because it will help in minimization of tax liabiity in future time due to payment of some taxes in current period also.