- A for-profit entity has the following temporary differences at December 31, 20X5 (enacted tax rate 21%): (1) Taxable temporary difference of $800,000 from accelerated tax depreciation; (2) Deductible temporary difference of $300,000 from an allowance for doubtful accounts (book reserve not deductible until write-off). The entity expects sufficient future taxable income and concludes no valuation allowance is necessary. Under FASB ASC 740, what is the net deferred tax position and its classification on the balance sheet at December 31, 20X5 (assume all items are noncurrent and netting is permitted within the same tax jurisdiction)?
Answer: Net deferred tax liability of $105,000 presented as a noncurrent liability.
FASB ASC 740 requires netting of deferred tax assets and liabilities within the same tax jurisdiction and presenting them as noncurrent on the balance sheet. The entity has a taxable temporary difference of $800,000 creating a deferred tax liability of $168,000 ($800,000 × 21%) and a deductible temporary difference of $300,000 creating a deferred tax asset of $63,000 ($300,000 × 21%). After netting within the same jurisdiction, the net position is a deferred tax liability of $105,000 ($168,000 - $63,000). Choice B correctly presents this as a net deferred tax liability of $105,000 classified as noncurrent. Choice A incorrectly shows a net asset and misclassifies as current, Choice C incorrectly presents gross amounts when netting is required, and Choice D shows the wrong amount and misclassifies as current. The framework requires netting deferred tax positions within the same tax jurisdiction and classifying all deferred taxes as noncurrent per ASU 2015-17.
- A for-profit entity has a taxable temporary difference of $1,500,000 at December 31, 20X4 due to installment sales recognized for book purposes but deferred for tax purposes; the enacted tax rate is 21%. The temporary difference is expected to reverse evenly over the next three years. Under FASB ASC 740, what is the impact of this temporary difference on deferred taxes and income tax expense at December 31, 20X4 (assume no other temporary differences and no valuation allowance considerations)?
Answer: Recognize a deferred tax liability of $315,000 and increase income tax expense by $315,000.
FASB ASC 740 requires recognition of deferred tax liabilities for taxable temporary differences that will result in future taxable amounts. The entity has $1,500,000 of installment sales recognized for book but deferred for tax, creating a taxable temporary difference. At the 21% enacted tax rate, this results in a deferred tax liability of $315,000 ($1,500,000 × 21%). Choice B correctly recognizes a deferred tax liability of $315,000 and increases income tax expense by the same amount. Choice A incorrectly records a deferred tax asset for what is a taxable difference, Choice C incorrectly claims installment sales are not temporary differences when they clearly create timing differences, and Choice D incorrectly uses an average rate and records in OCI. The framework requires identifying all temporary differences between book and tax treatment, measuring them at enacted rates, and recognizing the tax effects in income from continuing operations.
- Taylor Industries acquired $200,000 of municipal bonds during 2024. The bonds pay 3% annual interest, which is exempt from federal taxation but creates a permanent difference. Taylor also has $100,000 of excess tax depreciation over book depreciation that will reverse ratably over the next four years. If the current tax rate is 30% and the enacted rate decreases to 25% beginning in 2025, what is the impact on Taylor's 2024 income tax expense from these items?
Answer: Increase of $25,000 from deferred tax liability recognition
The correct answer is A. The municipal bond interest is a permanent difference that affects current taxes but does not create deferred taxes. The municipal bond interest of $6,000 ($200,000 × 3%) reduces current taxable income and current tax expense by $6,000 × 30% = $1,800. However, this is not the primary impact. The excess tax depreciation of $100,000 creates a taxable temporary difference that will reverse when future book depreciation exceeds tax depreciation. Since this reverses over 2025-2028 when the tax rate is 25%, a deferred tax liability of $100,000 × 25% = $25,000 must be recognized. This increases 2024 income tax expense by $25,000. The municipal bond interest affects current taxes only and doesn't offset the deferred tax effect. Choice A correctly identifies the $25,000 increase from deferred tax liability recognition as the primary impact.
- A for-profit entity uses straight-line depreciation for financial reporting and MACRS for tax. At December 31, 20X5, the equipment has a carrying amount of $900,000 and a tax basis of $600,000 due solely to depreciation differences; the enacted tax rate is 21% and no valuation allowance is needed. Under FASB ASC 740, what is the appropriate journal entry at December 31, 20X5 to record the deferred tax effect of this temporary difference?
Answer: Debit Income tax expense $63,000; credit Deferred tax liability $63,000.
FASB ASC 740 requires recognition of deferred tax liabilities for taxable temporary differences between book and tax bases of assets and liabilities. The equipment has a book basis of $900,000 and tax basis of $600,000, creating a $300,000 taxable temporary difference that will result in future taxable amounts when the asset is recovered. At the 21% enacted tax rate, this creates a deferred tax liability of $63,000 ($300,000 × 21%). Choice A correctly debits income tax expense and credits deferred tax liability for $63,000. Choice B incorrectly records a deferred tax asset instead of a liability, Choice C incorrectly doubles the amount, and Choice D incorrectly shows a reduction in the deferred tax liability. The framework for deferred taxes requires identifying temporary differences, classifying them as taxable or deductible, and measuring them at enacted tax rates expected to apply when the differences reverse.
- A for-profit corporation is audited by the Internal Revenue Service in 20X8 for the 20X6 tax year. The audit concludes that $500,000 of warranty accruals deducted for tax in 20X6 are not deductible until paid, creating a deductible temporary difference at December 31, 20X8 because the warranty liability remains accrued for book but is not deductible for tax until future payment; the enacted tax rate is 21%. The entity had not previously recorded any deferred tax related to this item and concludes it is more likely than not the deferred tax asset will be realized. Under FASB ASC 740, what is the appropriate journal entry in 20X8 to recognize the deferred tax impact of the audit finding (ignore interest and penalties and any current tax payable adjustments)?
Answer: Debit Deferred tax asset $105,000; credit Income tax expense (benefit) $105,000.
FASB ASC 740 requires recognition of deferred tax assets for deductible temporary differences when it is more likely than not they will be realized. The IRS audit determined that $500,000 of warranty accruals remain on the books but are not yet deductible for tax, creating a deductible temporary difference. At the 21% enacted tax rate, this creates a deferred tax asset of $105,000 ($500,000 × 21%). Choice B correctly debits deferred tax asset $105,000 and credits income tax expense (benefit) $105,000. Choice A incorrectly records expense and a liability, Choice C incorrectly credits income tax payable instead of recognizing a benefit, and Choice D incorrectly records a valuation allowance when management concluded the asset is more likely than not to be realized. The framework requires recognizing deferred tax effects of audit adjustments that create or modify temporary differences, with benefits recognized when realization is more likely than not.
- Quantum Corp has a deferred tax asset of $45,000 related to net operating loss carryforwards at December 31, 2024. Based on management's analysis of future taxable income projections and tax planning strategies, it is more likely than not that $30,000 of the deferred tax asset will be realized. The remaining $15,000 is not expected to be realized before the carryforward expires. How should Quantum report this deferred tax asset on its December 31, 2024 balance sheet?
Answer: Deferred tax asset of $30,000 with a valuation allowance of $15,000 disclosed separately
The correct answer is B. Under ASC 740, a valuation allowance is required when it is more likely than not that some or all of a deferred tax asset will not be realized. The gross deferred tax asset ($45,000) should be reported, reduced by a valuation allowance ($15,000) for the portion not expected to be realized. This results in a net deferred tax asset of $30,000. The valuation allowance must be disclosed separately either on the face of the balance sheet or in the notes. Choice A is wrong because a valuation allowance is required, not just disclosure. Choice C is wrong because the gross amount and valuation allowance should be disclosed. Choice D reverses the amounts - the valuation allowance should be $15,000, not $30,000.
- What amount of income tax expense related to deferred taxes should Wellington report for 2024?
Answer: $105,000 including all deferred tax changes and valuation allowance
The correct answer is B. Income tax expense includes the net change in deferred tax assets and liabilities, including valuation allowances. Calculate the total impact: Increase in deferred tax liabilities from new temporary differences: +$45,000 expense. Decrease in deferred tax assets from reversing differences: +$25,000 expense. Increase in deferred tax liabilities from rate change: +$15,000 expense. Establishment of valuation allowance: +$20,000 expense (reduces the net deferred tax asset). Total deferred tax expense: $45,000 + $25,000 + $15,000 + $20,000 = $105,000. Choice A omits the valuation allowance and reversal effects. Choice C omits the reversal and valuation allowance. Choice D omits only the valuation allowance. The valuation allowance is a component of income tax expense under ASC 740.
- A for-profit corporation reports a $2,000,000 net operating loss (tax loss) carryforward at December 31, 20X4. Under current U.S. tax law, the carryforward can be used to offset future taxable income without expiration, but utilization is limited to 80% of taxable income in any year; the enacted tax rate is 21%. Management concludes it is more likely than not that only $1,200,000 of the carryforward will be realized based on objectively verifiable negative evidence (recent cumulative losses) and limited forecasted taxable income. Under FASB ASC 740, what is the appropriate journal entry at December 31, 20X4 to record the deferred tax asset and related valuation allowance?
Answer: Debit Deferred tax asset $420,000; credit Valuation allowance—deferred tax asset $168,000; credit Income tax expense (benefit) $252,000.
Under FASB ASC 740, deferred tax assets are recognized for deductible temporary differences and carryforwards, measured at enacted tax rates expected to apply when realized. The entity has a $2,000,000 NOL carryforward, creating a deferred tax asset of $420,000 ($2,000,000 × 21%). Since management concludes it is more likely than not that only $1,200,000 will be realized based on objectively verifiable negative evidence, a valuation allowance of $168,000 [($2,000,000 - $1,200,000) × 21%] is required. Choice D correctly debits the full deferred tax asset of $420,000, credits the valuation allowance of $168,000, and credits income tax benefit of $252,000 (net realizable amount). Choices A and B incorrectly omit the valuation allowance, while Choice C incorrectly shows the valuation allowance as a debit and presents the tax benefit gross rather than net. The framework for assessing deferred tax assets requires evaluating all available positive and negative evidence, with recent cumulative losses being significant negative evidence requiring careful consideration of realizability.
- A for-profit corporation has a deductible temporary difference of $1,000,000 at December 31, 20X6 related to accrued warranty liabilities not yet deductible for tax. On December 20, 20X6, a new tax law is enacted reducing the corporate tax rate from 25% to 21% effective January 1, 20X7. Under FASB ASC 740, how should the change in tax rate affect the deferred tax asset at December 31, 20X6 (assume no valuation allowance is needed)?
Answer: Measure the deferred tax asset at 21% and recognize the decrease in the deferred tax asset as an increase to income tax expense in 20X6.
FASB ASC 740 requires deferred tax assets and liabilities to be measured at enacted tax rates expected to apply when temporary differences reverse, with remeasurement effects recognized in income from continuing operations in the period of enactment. The entity has a $1,000,000 deductible temporary difference creating a deferred tax asset initially measured at $250,000 (25% rate). When the new 21% rate is enacted on December 20, 20X6, the deferred tax asset must be remeasured to $210,000, resulting in a $40,000 decrease recognized as additional income tax expense in 20X6. Choice B correctly states the asset should be measured at 21% with the decrease recognized in income tax expense. Choice A incorrectly delays remeasurement, Choice C incorrectly records the change in retained earnings, and Choice D incorrectly uses a blended rate and records in OCI. The framework requires immediate remeasurement when tax rates change, with effects recognized in the period of enactment regardless of when the temporary differences will reverse.
- A for-profit corporation has a deductible temporary difference of $2,500,000 at December 31, 20X6 related to accrued bonus expense that will be deductible for tax when paid in 20X7. The enacted tax rate is 21%. Management has recent cumulative losses, but it also has a strong history of taxable income before the last two years and has a tax-planning strategy to accelerate taxable income through the sale of appreciated investments if needed; based on all evidence, it concludes it is more likely than not that $2,000,000 of the deferred tax asset will be realized. Under FASB ASC 740, which method should be used to assess the need for a valuation allowance and measure it in this fact pattern?
Answer: Apply the more-likely-than-not realization assessment using available positive and negative evidence, and record a valuation allowance for the portion not expected to be realized.
FASB ASC 740 requires a more-likely-than-not threshold (greater than 50% likelihood) for recognizing deferred tax assets, with valuation allowances recorded for amounts not expected to be realized based on all available evidence. The entity must weigh positive evidence (history of taxable income, tax-planning strategies) against negative evidence (recent cumulative losses) to determine realizability. With a $2,500,000 deductible difference at 21%, the gross deferred tax asset is $525,000, but management concludes only $2,000,000 is realizable, requiring a valuation allowance of $105,000 [($2,500,000 - $2,000,000) × 21%]. Choice B correctly describes the more-likely-than-not assessment using all available evidence. Choice A incorrectly assumes automatic realization, Choice C incorrectly references IFRS and expected credit losses, and Choice D incorrectly mandates 100% valuation allowance regardless of other evidence. The framework requires systematic evaluation of all positive and negative evidence, with particular weight given to objectively verifiable evidence and feasible tax-planning strategies.
- A for-profit entity has deductible temporary differences that would generate a deferred tax asset of $500,000 at December 31, 20X5 using the 21% enacted tax rate. The entity also has a taxable temporary difference that will reverse in the same jurisdiction and period, generating a deferred tax liability of $200,000. Based on available evidence, management concludes it is more likely than not that only $350,000 of the deferred tax asset will be realized. Under FASB ASC 740, under what conditions should the entity recognize a deferred tax asset and related valuation allowance at December 31, 20X5?
Answer: Recognize the full deferred tax asset of $500,000 and record a valuation allowance of $150,000 so the net deferred tax asset equals $350,000 (before netting with the deferred tax liability).
FASB ASC 740 requires recognition of the full gross deferred tax asset for all deductible temporary differences, with a separate valuation allowance for amounts not expected to be realized under the more-likely-than-not threshold. The entity must record the full $500,000 deferred tax asset, then establish a valuation allowance of $150,000 for the portion not expected to be realized ($500,000 - $350,000 expected realization). Choice C correctly recognizes the full $500,000 deferred tax asset and $150,000 valuation allowance, resulting in a net deferred tax asset of $350,000 before considering the separate $200,000 deferred tax liability. Choice A incorrectly limits recognition to certain amounts, Choice B incorrectly limits the asset to the liability amount, and Choice D incorrectly suggests recording only the net realizable amount without showing the gross asset and valuation allowance. The framework requires gross presentation of deferred tax assets with separate valuation allowances, maintaining transparency about both the full tax benefit of temporary differences and management's assessment of realizability.
- A for-profit corporation has a deferred tax asset of $300,000 at December 31, 20X6 measured at a 30% enacted tax rate, related entirely to deductible temporary differences expected to reverse in 20X8. On November 1, 20X7, new tax legislation is enacted reducing the tax rate to 25% effective January 1, 20X8. Under FASB ASC 740, how should the entity account for the effect of the tax rate change in its 20X7 financial statements (assume no valuation allowance is needed)?
Answer: Remeasure the deferred tax asset using the 25% enacted rate and recognize the decrease in the deferred tax asset in income tax expense from continuing operations in 20X7.
FASB ASC 740 requires immediate remeasurement of deferred tax assets and liabilities when tax rates change, using enacted rates expected to apply when temporary differences reverse, with effects recognized in continuing operations. The entity's $300,000 deferred tax asset (implying $1,000,000 of deductible differences at 30%) must be remeasured to $250,000 at the new 25% rate enacted in November 20X7. The $50,000 decrease in the deferred tax asset is recognized as additional income tax expense in 20X7. Choice A correctly requires remeasurement at 25% with the decrease recognized in income tax expense from continuing operations. Choice B incorrectly delays remeasurement, Choice C incorrectly records in OCI, and Choice D incorrectly uses a blended rate and adjusts retained earnings. The framework mandates that rate changes be reflected immediately upon enactment, with all effects flowing through income tax expense in continuing operations regardless of reversal timing.
