Question

Problem A, Income Taxes Harms Way Company (HWC) provides you with the following information for the year ended October 31, 2020. Your assignment is to calculate income tax expense, income taxes payable, and deferred income tax assets/liabilities. The end result will be a journal entry to record all of that. In addition, you must calculate HWC’s effective tax rate and prepare a reconciliation to the federal statutory rate of 21%. You can explain the difference in words, if you wish.

Information provided:

1. Income before tax, as shown on HWC’s GAAP statement of income = $2,440,000

2. Depreciation calculated under GAAP = $300,000. Depreciation as will be shown on the tax return = $475,000.

3. Interest income on municipal bonds, which is not subject to federal income tax = $150,000.

4. Fines recorded and paid during the year to the EPA for environmental violations = $450,000. Fines are not tax deductible.

5. Meals and entertainment expenses recorded during the year = $375,000. Only one-half (50%) of those expenses may be deducted for tax purposes.

6. At the end of the fiscal year (in October 2020), HWC received a payment of $750,000 from a client for a product to be delivered in November 2020. Under the tax law, that payment is taxable when received, not when the product is delivered.

Your Assignment: Calculate:

1. Income tax expense (GAAP).

2. Income taxes currently payable.

3. Deferred income taxes resulting from this year’s operations.

Be sure to show your work, I give partial credit (full credit, too, of course), but I must be able to see how you calculated amounts used in your answer

Answer 1

Income before tax = $2,440,000

Add: non deductible expenses

Fines not allowed = $450,000

Meals expenses = $187,500 = $375,000*50%

Advance received = $750,000

Less: Allowed deductions

Excess depreciation = $175,000 = $475,000 - $300,000

Interest on municipal bonds = $150,000

Income taxes currently payable = $3,502,500

Calculation of Deferred taxes

	Deferred Tax Assets (DTA)	Deferred Tax Liabilities (DTL)	Working
Excess depreciation allowed	-	$ 36,750	$175,000*21%
Interest income	-	-	As they would not attract any tax effects in coming tax periods
Fines not allowed	-	-	As they would not attract any tax effects in coming tax periods
Meals expenses	-	-	As they would not attract any tax effects in coming tax periods
Advance received	$157,500	-	750,000*21%
TOTAL	$157,500	$36,750

Calculating income tax expense

Current tax payable = $3,502,500

Net deferred taxes = $120,750 = $157,500 - $36,750

Income tax expense (GAAP) = $ 3,623,250 = $3,502,500 + $120,750

Deferred tax assets = $157,500

Deferred tax liabilities = $36,750