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Assignments. For Next Class: Read Chapter 3, pages 24-38. 3. Chapter. The Corporate Income Tax. GAAP Tax Accounting and Reconciliation from Book Income to Taxable Income . Book-Tax Differences. Contrasting principles of conservatism GAAP conservatism principle

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Assignments
Assignments

  • For Next Class:

    • Read Chapter 3, pages 24-38


The corporate income tax

3

Chapter

The Corporate Income Tax


Gaap tax accounting and reconciliation from book income to taxable income

GAAP Tax Accounting andReconciliation from Book Income to Taxable Income


Book tax differences
Book-Tax Differences

  • Contrasting principles of conservatism

    • GAAP conservatism principle

      • Protect shareholders and creditors

      • Curb management tendencies to overstate revenues and understate expenses for book purposes

    • Tax conservatism principle

      • Protect government revenues

      • Curb taxpayer tendencies to understate income and overstate deductions


Book tax differences1
Book-Tax Differences

  • Permanent differences = items included in book income that are never recognized for tax purposes or vice versa

  • Temporary differences = items that are included in book income and recognized for tax purposes but in different taxable years (the difference will “reverse” over time)


Book tax differences permanent
Book-Tax Differences – Permanent

  • Examples of permanent book-tax differences

    • Tax-exempt state and local bond interest income

    • Nondeductible expenses incurred to generate state and local bond interest income

    • Life insurance proceeds (death benefits)

    • Premiums on key-man life insurance

    • 50% of meals and entertainment

    • Political contributions

    • Fines and penalties

    • Bribes, kickbacks and illegal payments

    • Dividends-received deduction


Book tax differences temporary
Book-Tax Differences – Temporary

  • Examples of temporary book-tax differences:

    • Depreciation versus cost recovery (and gains/losses on sales of property with different book/tax bases)

    • Accrued liabilities not meeting the all events and/oreconomic performance tests

    • Prepaid income

    • Related party accruals

    • Accrued compensation

    • Bad debt expense

    • Net operating losses

    • Charitable contributions in excess of limitation

    • Capital loss carryovers


Gaap tax expense
GAAP Tax Expense

  • GAAP total tax expense(benefit) = current tax expense (benefit) plus deferred tax expense (benefit)


Gaap tax expense1
GAAP Tax Expense

  • GAAP current tax expense(benefit) = estimated tax payable (refund receivable) based on estimated taxable income for the current year

    • Exception: Effects of stock options compensation and “other comprehensive income” items are booked directly to retained earnings


Gaap tax expense2
GAAP Tax Expense

  • GAAP deferred tax expense(benefit) = estimated tax effects of temporary differences (those differences that will reverse in future years)

    • Differences that make taxable income lower than book income at origination create deferred tax liabilities

    • Differences that make taxable income higher than book income at origination create deferred tax assets


Gaap tax expense3
GAAP Tax Expense

  • GAAP (SFAS109) uses the Balance Sheet approach to calculating deferred tax expense

    • Calculate deferred tax liability or asset on cumulative temporary differences at the beginning of the year and again at the end of the year

    • Deferred tax liability increase (deferred tax asset decrease) => deferred tax expense

    • Deferred tax liability decrease (deferred tax asset increase) => deferred tax benefit


Example 13 gaap tax expense
Example 13: GAAP Tax Expense

  • A corporation has book income before taxes of $1,000,000. It has only two book-tax differences as follows:

    • The accumulated depreciation for book purposes was $350,000 at the beginning of the year and current year depreciation expense is $50,000. The accumulated MACRS was $475,000 at the beginning of the year and current year MACRS deduction is $80,000.

    • The total meals deducted per books was $82,000.

  • What is the corporation’s tax expense (current and deferred) and net book income?





Gaap tax expense4
GAAP Tax Expense

  • In simple situations:

    • Adjusted book income = pre-tax book income plus or minus all permanent book-tax differences

    • Total tax expense per books = (adjusted book income X tax rate) minus tax credits

    • Deferred tax expense (benefit) = total tax expense (benefit) less current tax expense (benefit)

    • Gives the same number as that calculated under SFAS 109 using the balance sheet approach if thetax rate does not change during the year



Schedules m 1 and m 3
Schedules M-1 and M-3

  • Corporations are required to provide, with their tax return, a reconciliation from their GAAP financial statement income to taxable income

    • Corporations with total assets of $10 million or more must use Schedule M-3 (requires breakdown of temporary and permanent differences)

    • Other corporations may use Schedule M-1 (requires breakdown by four categories)



Gaap tax expense5
GAAP Tax Expense

  • Example 14


Problems
Problems

  • Chapter 3: C3-58, C3-59, and C3-61


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