In: Accounting
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XYZ is a calendar-year corporation that began business on January 1, 2017. For 2018, it reported the following information in its current-year audited income statement. Notes with important tax information are provided below. Use Exhibit 16-6. XYZ corp. Book Income Income statement For current year Revenue from sales $ 40,000,000 Cost of Goods Sold (27,000,000 ) Gross profit $ 13,000,000 Other income: Income from investment in corporate stock 300,000 1 Interest income 20,000 2 Capital gains (losses) (4,000 ) Gain or loss from disposition of fixed assets 3,000 3 Miscellaneous income 50,000 Gross Income $ 13,369,000 Expenses: Compensation (7,500,000 )4 Stock option compensation (200,000 )5 Advertising (1,350,000 ) Repairs and Maintenance (75,000 ) Rent (22,000 ) Bad Debt expense (41,000 )6 Depreciation (1,400,000 )7 Warranty expenses (70,000 )8 Charitable donations (500,000 )9 Meals (18,000 ) Goodwill impairment (30,000 )10 Organizational expenditures (44,000 )11 Other expenses (140,000 )12 Total expenses $ (11,390,000 ) Income before taxes $ 1,979,000 Provision for income taxes (720,000 )13 Net Income after taxes $ 1,259,000 14 Notes: XYZ owns 30 percent of the outstanding Hobble Corp. (HC) stock. Hobble Corp. reported $1,000,000 of income for the year. XYZ accounted for its investment in HC under the equity method and it recorded its pro rata share of HC's earnings for the year. HC also distributed a $200,000 dividend to XYZ. Of the $20,000 interest income, $5,000 was from a City of Seattle bond issued in 2017 that was used to fund public activities, $7,000 was from a Tacoma City bond issued in 2015 (a private activity bond), $6,000 was from a fully taxable corporate bond, and the remaining $2,000 was from a money market account. This gain is from equipment that XYZ purchased in February and sold in December (i.e., it does not qualify as §1231 gain). This includes total officer compensation of $2,500,000 (no one officer received more than $1,000,000 compensation). This amount is the portion of incentive stock option compensation that was expensed during the year (recipients are officers). XYZ actually wrote off $27,000 of its accounts receivable as uncollectible. Tax depreciation was $1,900,000. In the current year, XYZ did not make any actual payments on warranties it provided to customers. XYZ made $500,000 of cash contributions to qualified charities during the year. On July 1 of this year XYZ acquired the assets of another business. In the process it acquired $300,000 of goodwill. At the end of the year, XYZ wrote off $30,000 of the goodwill as impaired. XYZ expensed all of its organizational expenditures for book purposes. XYZ expensed the maximum amount of organizational expenditures allowed for tax purposes. The other expenses do not contain any items with book-tax differences. This is an estimated tax provision (federal tax expense) for the year. Assume that XYZ is not subject to state income taxes. Estimated tax information: XYZ made four equal estimated tax payments totaling $480,000. For purposes of estimated tax liabilities, assume XYZ reported a tax liability of $800,000 in 2017. During 2018, XYZ determined its taxable income at the end of each of the four quarters as follows: Quarter-end Cumulative taxable income (loss) First $ 350,000 Second $ 800,000 Third $ 1,000,000 Finally, assume that XYZ is not a large corporation for purposes of estimated tax calculations. (Do not round intermediate calculations. Round your answers to the nearest dollar amount.)
a. Compute XYZ’s taxable income.
b. Compute XYZ’s income tax liability.
c. Complete XYZ’s Schedule M-1. (Enter all amounts as positive numbers.)
d. Complete XYZ’s Form 1120, page 1.
e. Determine the quarters for which XYZ is subject to underpayment of estimated tax penalties.
Description |
Book Income (Dr) Cr |
Book-tax adjustments* |
Taxable Income (Dr) Cr |
|
(Dr) |
Cr |
|||
Revenue from sales |
$40,000,000 |
$40,000,000 |
||
Cost of Goods Sold |
(27,000,000) |
(27,000,000) |
||
Gross profit |
$13,000,000 |
$13,000,000 |
||
Other income: |
||||
Income from investment in corporate stock |
300,0001 |
(100,000) [T] |
200,000 |
|
Interest income |
20,000 |
(12,000) [P] |
8,000 |
|
Capital gains (losses) |
(4,000) |
4,000 [T] |
0 |
|
Gain on fixed asset dispositions |
3,000 |
3,0002 |
||
Miscellaneous income |
50,000 |
50,000 |
||
Gross Income |
$13,369,000 |
$13,261,000 |
||
Expenses: |
||||
Compensation |
(7,500,000) |
(7,500,000) |
||
Stock option compensation |
(200,000) |
200,000 [P] |
0 |
|
Advertising |
(1,350,000) |
(1,350,000) |
||
Repairs and Maintenance |
(75,000) |
(75,000) |
||
Rent |
(22,000) |
(22,000) |
||
Bad debt expense |
(41,000) |
14,000 [T] |
(27,000) |
|
Depreciation |
(1,400,000) |
(500,000) [T] |
(1,900,000) |
|
Warranty expenses |
(70,000) |
70,000 [T] |
03 |
|
Charitable contributions |
Moved below |
|||
Meals and entertainment |
(18,000) |
9,000 [P] |
(9,000) |
Goodwill impairment |
(30,000) |
20,000 [T] |
(10,000)4 |
|
Organizational expenditures |
(44,000) |
36,400 [T] |
(7,600)5 |
|
Other expenses |
(140,000) |
(140,000) |
||
Federal income tax expense |
(720,000) |
720,000 [P] |
0 |
|
Total expenses before charitable contribution, NOL, DRD, and DPAD deduction |
(11,610,000) |
(11,040,600) |
||
Income before charitable contribution, DRD, and DPAD |
$1,759,000 |
$2,220,400 |
||
Charitable contributions |
(500,000) |
277,960 [T] |
(222,040)7 |
|
Taxable income before DRD and DPAD |
$1,998,360 |
|||
Dividends received deduction (DRD) |
(160,000) [P] |
(160,000) |
||
Domestic production activities deduction |
(90,000) [P] |
(90,000) |
||
Book/Taxable income |
$1,259,000 |
(862,000) |
1,351,360 |
$1,748,360 |
*[T] reflects temporary book-tax differences and [P] reflects permanent book-tax differences.
b. XYZ’s regular income tax liability is $594,442 ($1,748,360 x 34%).
c. XYZ’s Schedule M-1 is as follows:
Schedule M-1 |
||
1 |
Net income per books |
$1,259,000 |
2 |
Federal income tax provision |
720,000 |
3 |
Excess of capital losses over capital gains |
4,000 |
4 |
Income subject to tax not recorded on books this year (itemize) |
|
5 |
Expenses recorded on books this year not deducted on this return |
|
a. Depreciation |
||
b. Contributions carryover |
277,960 |
|
c. Travel and entertainment |
9,000 |
|
Stock option compensation (incentive stock options) |
200,000 |
|
Bad debt expense |
14,000 |
|
Warranty expense |
70,000 |
|
Goodwill impairment |
20,000 |
|
Organizational expenditures |
36,400 |
|
6 |
Add lines 1 through 5 |
$2,610,360 |
7 |
Income recorded on books this year not included on this return |
|
a. Tax exempt interest |
12,000 |
|
Income from investment in corporate stock |
100,000 |
|
8 |
Deductions on this return not charged against book income this year |
|
a. Depreciation |
500,000 |
|
b. Contributions carryover |
||
Domestic production activities deduction |
90,000 |
|
9 |
Add lines 7 and 8 |
702,000 |
10 |
Income (line 28, page 1) – line 6 less line 9 |
$1,908,360 |
Note that line 10 does not reconcile to XYZ’s taxable income. It reconciles to taxable income before the dividends received deduction of $160,000. XYZ’s taxable income is $1,748,360 ($1,908,360 -160,000).
. XYZ’s alternative minimum tax liability is $0, computed as follows:
AMT Calculation |
||
Category |
Item/Calculation |
Amount |
Taxable income or loss before NOL deduction |
$1,748,360 |
|
Preference items |
Private activity bond |
7,000 |
Adjustments |
Depreciation |
200,000 |
ACE adjustment |
9,450 |
|
Alternative minimum taxable income (AMTI) |
$1,964,810 |
|
Subtract: Exemption (completely phased-out) |
(0) |
|
AMT base |
$1,964,810 |
|
x 20% |
.2 |
|
Tentative minimum tax |
$392,962 |
|
Subtract: Regular income tax ($1,748,360 x 34%) |
$594,442 |
|
Alternative minimum tax if positive. |
$0 |
ACE Adjustment |
|
Description |
Modification to AMTI |
Tax-exempt interest income from tax exempt bond that funds a public activity (as opposed to private activity) |
+$5,000 |
Organizational expenditures that were expensed during the year |
+7,600 |
Total |
12,600 |
ACE Adjustment ($12,600 total x 75%) |
$9,450 |