Question

E19-14: Callaway Corp. has a deferred tax asset balance of $150,000 at the end of 2013 due to a single cumulative temporary difference of $375,000. At the end of 2014, this same temporary difference has increased to a cumulative amount of $450,000. Taxable income for 2014 is $820,000. The tax rate is 40% for all years. No valuation account is in existence at the end of 2013.

1. Record income tax expense, deferred income taxes, and income taxes payable for 2014 assuming that it is more likely than not that the deferred tax asset will be realized.
2. Assuming that it is more likely than not that $30,000 of the deferred tax asset will not be realized, prepare the journal entry at the end of 2014 to record the valuation account.
3. What if Congress enacts a new tax rate equal to 35% effective 1/1/15?

Answer 1

Taxable Income for year 2014 = $820000

Income tax payable on same  = 820,000 x 40% = $328,000.

(a)Income tax expense: Since there are same tax rates and no permanent differences:

Book income x tax rate In 2013, there was a cumulative temporary difference (i.e., difference between book income and tax income) of $375,000.

This difference created a deferred tax asset.

Therefore, in 2013, taxable income was greater than book income by $375,000.

Now in 2014, this cumulative difference has increased to $450,000. That means a $75,000 increase occurred in 2014.

Therefore in 2017, taxable income was greater than book income by $75,000.

So, book income must be 820,000 – 75,000 = $745,000.

Therefore Income tax expense for year 2014 = 745,000 x 40% = 298,000.

Deferred tax balance in 2014 = 450,000 x 40% = 180,000 opening Balance of DTA= 150,000.

Therefore DTA created by $30,000

Journal Entries to record above transactions:

1. Income tax expense Dr 298,000

Deferred Tax Expense Dr 30,000

To Income tax payable 328,000

2. Since The DTA will not be realized then apart from above entry the following entry would also be passed:

Income Tax Expense Dr 1,80,000

To DTA Written off 1,80,000

(b) Assuming that it is more likely than not that $30,000 of the deferred tax asset will not be realized, prepare the journal entry at the end of 2014 to record the valuation account

All other entries remain same except for last DTA written off

Journal Entry

Income Tax Expense Dr 30,000

To DTA Written off .30,000

(c) What if Congress enacts a new tax rate equal to 35% effective 1/1/15?

Since rate is changing in year 2015 , therefore there is no impact in 2014. Income tax payable will be calculated @ 35% of taxable income in year 2015.