Income Tax Evaluation - Assignment Example

Income Tax Evaluation Report Student’s Name Institutional Affiliation Introduction/ Analysis Nowadays, firms are required to fully understand the nature of income taxes they are expected to pay to the government and all the elements involved. These firms are expected to comprehend the different perspectives of income taxes and how they should be paid to the government while still conforming to the different stipulations set forth by such important agencies like the IRS. The process of filing for income tax returns is dependent on numerous accounting items taking into consideration that the amounts presented within the income statement as tax expenses are, in most cases totally different from the actual amounts firms pay to the governmental agencies. The process of recording and disclosing the income taxes entails lots of accounting items that should be properly defined and fairly-known to the finance personnel within a department. Some of the crucial accounting items are discussed as follows; income tax payable; is a form of account positioned within the current liabilities part of an entity’s statement of financial position. It usually entails the amount in taxes that a firm is obligated to pay to the government on an annual basis and also, it is computed using the underlying tax laws of the entity’s local host country. Income tax expense refers to the expense that an entity is able to recognize within a given accounting timeframe that is related to government tax item that is imposed on its underlying taxable profits. In most occurrences, it is established that the amounts computed as income tax expense that is recognized on an annual basis will not likely match up with the amounts presented as standard income tax rates that is imposed on business income. This is attributed to the fact that there exist a great number of differences that can be noted between reportable amounts of income under both the US GAAP and IFRS accounting standards with the reportable amount of income that should be disclosed within the government tax codes. A deferred tax liability represents an improvement in the amounts shown as payable taxes in a near future and this is highly related to the level of temporary differences in taxes that emanates from the end of each operational financial period. On the contrast, deferred tax assets portrays a notable improvement in the amount of possible refundable taxes in near future that emanates from the deductible temporal differences existing at the very end of each operational period. Another important accounting item that should be taken into consideration is the deferred income tax that is presented as a liability , which needs to be recorded within the statement of financial position and that emanates from the income that has been earned already within a given accounting period. In order to comprehend these accounting items effectively and also show how they affect the computation of tax payable; then the paper takes a closer look at a real life scenario of a company. Tallow Co. Case Scenario At the end of 2014, Tallow Co, which is a Dubai-based entity sought to expand its operations internationally into such profitable markets as the United States of America. Recently, the sitting Managing Director has continued to receive intensive complaints especially from the accounting section that they are indeed facing troubles on presenting and recording increases in the underlying data within their different financial statements as well as the best way to apply such accounting items s deferred assets and liabilities within their respective accounting books due to the differences in accounting treatment applied in the US as well as the growing tax departments. By the end of the financial operational year, the CEO took an initiative of employing a rather expert in the field that would help solve the issues at hand. The expert has proven effective in other related tasks by companies operating within the region that have also sought to expand into the US where GAAP as opposed to IFRS is preferred. Tallow Corporation’s pretax profits is $120,000 for the year ended 2014. The below accounting items resulted to the taxable income being totally different from the above stated pretax financial income; 1. The amounts related to depreciation on the tax returns is greater in comparison to the amounts of depreciation statement within the income statement by $40,000 2. The amounts of rent that was collected on the underlying tax returns is deemed to be greater in comparison to the rent that has been earned on the income statement by about $50,000 3. The amounts of imposed fines relating to activities of pollution have been presented as an expense of $20,000 within the income statement. The existing corporate tax rate stands at 40% for all operational years and it is expected that Tallow Co. will report taxable income in all future operational periods. Notably, there are no amounts of deferred taxes that are reported at the beginning of 2014. Requirements: A. Calculate the taxable income as well as income taxes payable for the period. Pretax income 120000 Excess of depreciation per tax return (40000) Excess Rent (Unearned rent) 50000 Non-deductible fines 20000 Taxable Income 150000 Income Tax Payable = Taxable income x Tax Rate = 150,000*40% = $60,000 B. Prepare the journal entry to record income tax expense, deferred income taxes and income taxes payable for 2014. STEP 1 Temporary Difference Future Taxable (Deductible) amount ($) Tax Rate Deferred Tax Assets ($) Deferred Tax Liabilities ($) Depreciation 40000 0.40 16000 Unearned Rent (50000) 0.40 (20,000) Total (10000) (20,000) 16000 STEP 2 $ Deferred Tax Liability at the end of 2014 16000 Deferred Tax Liability at the beginning of 2014 0000 Deferred Tax Expense for 2014 16000 STEP 3 Deferred Tax Asset at the end of 2014 (20000) Deferred Tax Asset at the beginning of 2014 00000 Deferred Tax Asset for 2014 (tax benefit) (20000) STEP 4 Deferred Tax Expense for 2014 16000 Deferred Tax Benefit for 2014 (20000) Net Deferred Tax Benefit (4,000) Current Tax for 2014 60,000 Income tax expense for 2014 56,000 STEP 5 Entry: (Dr) Income Tax Expense 56000 Deferred Tax Assets 20000 (Cr) Deferred Tax Liability 16000 Income Tax Payable 60000 C. Prepare the income tax expense section of the income statement for 2014, beginning with the line “Income before income taxes”. Income before Income Taxes = $ 120,000 Income Tax Expense: Current $ 60,000 Deferred $ (4,000) $ (56,000) Net Income $ 64,000 D. Compute the effective income tax rate for 2012. Effective Tax Rate = Total Income Tax= 56000 = 0.467 or 46.7% Pretax Financial Income 120000 From the calculation above, it can be noted that the minimum required by the government is 40% while Tallow Co actually was taxed using the 46.7% tax rate within the operational period. US GAAP Vs IFRS There are a significant amount of differences that exists between IFRS and US GAAP. The most notable being that GAAP is only practiced in the United States of America while IFRS is universal in nature. Subsequently, it should be noted that though the US companies mostly use the GAAPs, recent efforts have been made in order to ensure that they adopt the IFRS, which is mostly principle-focused as opposed to GAAPs, which is rule-based. This way, the US companies will enjoy the capacity to compare their operational activities with the rest of the companies operating within a similar industry regardless of their home countries. Despite their being few similarities between these two accounting frameworks, it is notable to comprehend their differences as explained using the table below; Differences among GAAP & IFRS Items Affected GAAP IFRS Income tax basis It is conducted under the given tax laws within the US especially the IRS stipulations It is basically reflected by the amounts that is deductible or taxable for purposes of tax payments Taxes related to the Intercompany transfers of assets that remain within the overall consolidated group It is required that these taxes that are paid on intercompany profits should be deferred and limits the potential recognition of deferred taxes on temporary differences between the different tax bases of assets that have undergone the transfer process between the entities at hand. The framework ascertains that taxes that are paid on intercompany profits should be recognized as having been incurred and also recognizes differed taxes on temporary difference between the tax bases of assets that are transferred between entities. Recognition of deferred tax assets The framework recognizes them in full except in cases of specific external basis differences however; the valuation allowances decrease the assets to the amount that is more likely than not be realized within a given period These amounts are recognized only to an extent where it is probable that they will be realized within a given financial period. Sales of Goods The framework ascertains that all public-traded companies should adhere to the SAB Topic 13 that necessitates the delivery of goods have already occurred, there is believable evidence of the delivery commitment. Under this framework, revenue is only recognized whenever both risks and rewards associated with the goods at hand have been transferred to the owner. Determination of segments The framework requires that entities with distinctive matrix structure should be made responsible and accountable for different product and service lines while other Chief operating decision maker are made accountable to different geographic regions. Under this framework, entities are allowed to establish their segments in relation to their respective management techniques. References http://www.accountingtools.com/income-tax-expense http://www.investopedia.com/terms/i/incometaxpayable.asp http://www.ey.com/Publication/vwLUAssets/IFRSBasics_BB2435_November2012/$FILE/IFRSBasics_BB2435_November2012.pdf https://www.pwc.com/us/en/issues/ifrs-reporting/publications/assets/ifrs-and-us-gaap-similarities-and-differences-2014.pdf Read More