A worksheet for accounting for deferred taxes.
BACKGROUND OF FASB 109
The essential ideas of accounting for the income taxes captured by the worksheet are described below.
Balance sheet approach. The asset and liability approach adopted by Statement no. 109 requires that the amount of deferred tax assets and liabilities be computed annually and presented on the balance sheet. As a result, income tax expenses for a period reflect not only income taxes currently payable or refundable but also changes occurring in the deferred tax accounts during the same period.
Temporary differences. These are the major cause of deferred tax assets and liabilities. They can be identified by reviewing the differences between an asset or liability's tax and financial reporting bases. In Statement no. 109, temporary differences are separated into two types: taxable and deductible. Taxable temporary differences exist at the balance sheet date and will result in net taxable amounts on future tax returns. Deductible temporary differences exist at the balance sheet date and will result in net deductible amounts on future tax returns. Deferred tax assets are recognized for the future tax benefit of deductible temporary differences; deferred tax liabilities are recognized for the future tax burden of taxable temporary differences.
Elements of deferred tax accounts. Deferred tax assets are composed of the future tax benefit of
* Unused current--prior operating losses carried forward to future periods.
* Unused current--prior tax credits carried forward to future periods.
* Existing deductible temporary differences.
Deferred tax liabilities consist of the future tax effect of existing taxable temporary differences only.
Valuation allowance for deferred tax assets. An allowance account reducing the amount of deferred tax assets is required if it is judged more likely than not that some or all of the deferred tax assets will not be realized in the future.
Classification of deferred tax accounts. The current or noncurrent status of a deferred tax account is based on the classification of its related asset or liability for financial reporting purposes. For example, a deferred tax asset or liability due to a temporary difference from depreciation will be noncurrent because it relates to a noncurrent asset. A deferred tax liability resulting from application of the direct write-off method for tax purposes would be classified as current.
Some items could be classified as partially current and partially noncurrent, such as long-term warranty obligations. If there is no related asset or liability for financial reporting purposes--net operating loss (NOL) carryforwards, for example--the classification will be based on the expected reversal date. The valuation allowance account is allocated proportionally according to the balance of current and noncurrent deferred tax assets. Deferred taxes, net of the valuation allowance, are presented as a single current and a single noncurrent amount on the balance sheet.
ACCOUNTING PROCEDURES AND THE WORKSHEET
Accounting procedures for income taxes require determination of the amount of (1) income tax payable or refundable and (2) changes in deferred tax assets, deferred tax liabilities and the valuation allowance account during the period. Statement no. 109 did not change procedures for determining income tax payable or refundable. This amount is determined in accordance with tax law and is recognized as the current portion of income tax expense for the period.
The worksheet introduced here is designed to facilitate the computation and classification of the proper ending balance for the three deferred tax accounts: deferred tax assets, deferred tax liabilities and the valuation allowance account for deferred tax assets.
The worksheet provides analysis of
* Deferred tax assets due to NOL carryforwards to future years.
* Deferred tax assets due to tax credit carryforwards to future years.
* Deferred tax assets due to deductible temporary differences.
* Deferred tax liabilities due to taxable temporary differences.
* The valuation allowance account for deferred tax assets.
By comparing the ending balances of the three deferred tax accounts obtained from the worksheet with their respective beginning balances, changes in these accounts can be recorded and recognized as the deferred portion of income tax expense for the period.
Exhibit 1, page 88, provides the data and solution for a demonstration problem. Exhibit 2, page 89, shows the actual application of the worksheet using this sample data. Related journal entries and financial statement presentations also are included in the solution section of exhibit 1. The problem includes
1. Post-first-year operation.
2. Net operating loss.
3. Tax credits.
4. Taxable and deductible temporary differences.
5. Different tax rates in different years due to phased-in tax rate changes.
Exhibit 1: Demonstration Problem Data and Solution
ABC Company has been in operation since 1991. The following data were obtained to prepare 1993's worksheet for accounting for deferred income taxes.
A. January 1, 1993, balances:
Deferred tax asset $0 Deferred tax liability $4 Allowance account for deferred tax asset $0
B. Data for temporary differences:
1991 1992 1993 1994 1995 1996 Depreciation $<5> $<3> $<2> $<1> $4 $7 Installment sales <7> 4 2 1 Warranty 9 <2> <3> <4>
<>: Excess deduction for tax purposes.
Without <>: Excess deduction for financial reporting purposes.
C. Tax rates as of December 31, 1993 (unrealistic tax rates are used to simplify the calculations required):
1991 1992 1993 1994 1995 1996 40% 40% 40% 30% 30% 20%
D. Taxable income used for determining tax liability for 1991, $2; for 1992, $5.
E. Other information
a. Assume any unused net operating losses (NOLs) from current and prior years will be carried forward to 1994 and any unused tax credits from current and prior years will be carried forward to 1995.
b. It is more likely than not $.60 of the 1993 deferred tax assets will not be realized in the future.
F. 1993 financial and tax information:
1993 Pretax financial loss $ (21) Dividend income exclusion ( 1) Depreciation ( 2) Installment sales 4 Warranty 9 Net operating loss per tax return $ (11) Unused tax credits originating in 1993 $ 1
Permanent difference: Dividend income exclusion.
Timing differences: Depreciation, installment sales and warranty.
1. Determination of income tax payable or refundable:
Tax rate 40% 40% 40% Year 1991 1992 1993 Taxable income $2 $5 NOL $(11) | $(2)<-------- 2 | $(5)<-- 5 $0 $0 $(4)
Based on the 1993 NOL carrybacks in the above schedule, there is an income tax refund of $2.80.
Income tax receivable $2.80 Income tax benefit $2.80
2. Determination of ending balances of deferred tax accounts: After arriving at the amount of current income tax refundable above, there are $4 remaining from the 1993 NOL to be carried forward to 1994 and $1 of unused tax credit from 1993 to be carried forward to 1995. At this stage, the worksheet is used to compute ending balances for various deferred tax accounts. They are as follows:
Beginning balance Ending balance Deferred tax assets $0 $4.50 Deferred tax liabilities (4) (3.20) Valuation allowance 0 (.60) Journal entry: Deferred tax assets $4.50 Deferred tax liabilities .80 Valuation allowance $ .60 Income tax benefit 4.70
3. Income statement presentation:
Loss before income taxes $(21.00) Income tax benefit 7.50 Net loss $(13.50)
Note: The income tax benefit of $7.50 is the sum of the income tax benefits recognized in the two journal entries above.
4. Balance sheet presentation (see worksheet in exhibit 2):
Current assets: Income tax receivable(*) $2.80 Deferred tax assets .66
(*)Assume no estimated income taxes paid in 1993.
Noncurrent assets: Deferred tax assets $.04
[TABULAR DATA OMITTED]
Accounting for deferred taxes using the asset and liability approach adopted by Statement no. 109 is a complex process. The worksheet presented here puts the essential elements together to simplify the calculation. The worksheet's design facilitates computation and classification of the ending balances of deferred tax assets and liabilities and the valuation allowance account for deferred tax assets. Comparisons between these ending balances and the beginning balances result in journal entries.
RELATED ARTICLE: EXECUTIVE SUMMARY
* THE NEW RULES IN FINANCIAL accounting Standards Board Statement no. 109, Accounting for Income Taxes, make accounting for deferred taxes a complex process. A worksheet can help CPAs in the computation and classification of the proper ending balance for deferred tax assets or liabilities and for the valuation allowance account.
* STATEMENT No. 9 REQUIRES deferred tax assets and liabilities to be computed annually and presented on the balance sheet. The major cause of deferred tax assets and liabilities is taxable and deductible temporary differences.
* ACCOUNTING FOR INCOME TAXES requires that income tax payable or refundable, changes in deferred tax assets or liabilities and the valuation allowance account be determined for the period.
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|Author:||Leahey, Anne L.|
|Publication:||Journal of Accountancy|
|Date:||Sep 1, 1995|
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