Gabriela H. Schneider, CMA; Grant MacEwan College INTERMEDIATE ACCOUNTING Sixth Canadian Edition KIESO, WEYGANDT, WARFIELD, IRVINE, SILVESTER, YOUNG, WIECEK Prepared by Gabriela H. Schneider, CMA; Grant MacEwan College 2

C H A P T E R 19 Income Taxes

Learning Objectives 1. Explain the difference between accounting income and taxable income. 2. Explain what a taxable temporary difference is and why a future tax liability is recognized. 3. Explain what a deductible temporary difference is and why a future tax asset is recognized. 4. Differentiate between timing, temporary, and permanent differences.

Learning Objectives 5. Prepare analyses and related journal entries to record income tax expense when there are multiple temporary differences. 6. Explain the effect of various tax rates and tax rate changes on future income tax accounts. 7. Apply accounting procedures for a tax loss carryback. 8. Apply accounting procedures and disclosure requirements for a tax loss carryforward.

Learning Objectives 9. Explain why the future income tax asset account is reassessed at the balance sheet date. 10. Explain the need for and be able to apply intraperiod tax allocation. 11. Identify the reporting and disclosure requirements for corporate income taxes. 12. Describe key aspects of the asset-liability (liability) method and identify outstanding issues with this method.

Accounting for Income Taxes Fundamentals of Accounting for Income Taxes Accounting income and taxable income Future taxable amounts and future taxes Future deductible amounts and future taxes Calculation of taxable income Tax rate considerations Accounting for Income Tax Loss Carryover Benefits Introduction Loss carryback illustrated Loss carryforward illustrated Review of future tax asset Intraperiod Tax Allocation Objective Illustration Financial Statement Presentation Balance sheet presentation Income statement presentation Other disclosures Review of Asset-Liability Method Some conceptual questions Comprehensive Illustration

Permanent vs. Timing Differences Taxable income is determined by taking the accounting income and adjusting it for permanent and timing differences CICA Handbook, Section 3645 refers to the accounting for future tax liabilities and future tax assets based on the tax impact of the timing differences

Temporary and Permanent Differences Temporary Differences Example: Tax and book depreciation deductions may be different These are differences in revenue and expense amounts reported on tax returns and for financial purposes Over a given period, they reverse Permanent Differences Example: Interest on municipal obligations is not taxed but is income for accounting purposes Items included on the financials, but either excluded or not deducted on tax return These differences do not reverse

Summary of Temporary Differences Transaction When recorded in books on tax return Deferred tax effect Revenue or Gain Earlier Later Liability Revenue or Gain Later Earlier Asset Expense or Loss Earlier Later Asset Expense or Loss Later Earlier Liability

Permanent Differences - Examples Items, recognized for financial accounting purposes, but not for income tax purposes: Non-tax-deductible expenses (fines, expenses relating to non-taxable revenue) Dividends from taxable Canadian corporations Items, recognized for tax purposes, but not for financial accounting purposes: Depletion allowance of natural resources in excess of cost

Summary of Permanent Differences Sources of PERMANENT DIFFERENCES Some items are recorded in Books but NEVER on tax return Other items are NEVER recorded in books but recorded on tax return No future tax effects for permanent differences

Timing Differences Relate to income Temporary differences relate to balance sheet values Cause the balance of a temporary difference to change from period to period Originating timing difference Cause of the initial difference Reversing timing difference Causes a temporary difference to decrease

Future Tax Asset and Future Tax Liability - Sources Future taxes may be a: Future tax liability, or Future tax asset Future tax liability arises due to net taxable amounts in the future Future tax asset arises due to net deductible amounts in the future

Recording Future Tax Liability - Example Book tax expense = $20,000 Tax liability = $18,000 Journal Entry: Income Tax Expense 20,000 Future Tax Liability 2,000 Tax Payable 18,000

Recording Future Tax Asset - Example Book tax expense = $5,000 Tax payable = $6,000 Journal Entry: Income tax expense 5,000 Future Tax Asset 1,000 Tax payable 6,000 Future tax asset is recognized for all deductible differences

Temporary Differences - Originating & Reversing Year Tax Expense Tax Liability Difference Nature (per GAAP) (per CCRA) FTA / FTL 1 $17,600 $16,000 $1,600 FTL 2 $17,600 $16,800 $ 800 FTL 3 $17,600 $18,400 $ 800 FTA 4 $17,600 $19,200 $1,600 FTA Net Future Tax Effect $ -0-

Future Taxes – Final Notes Use separate accounts, but remember to report the net effects A future tax asset or liability is classified as long-term if the item which originated or caused the future tax amount is long-term Future tax amounts have no impact on the current year’s tax calculations On the income statement, report current year’s income tax separately from future year’s income tax expense or benefit The Future Income Tax Asset account is periodically reassessed

Tax Loss Carryback and Carryforward The amount reported is the tax calculated from the loss May be carried back three years, or forward for the next seven years When applying the carry back, always apply to the oldest available year first Tax loss carry forward is reported if it is likely that a profit will be earned in future periods

Intraperiod Tax Allocation Income tax expense is to reported with its related item Intraperiod Tax Allocation Tax expense is allocated within the financial statements of the current period Interperiod Tax Allocation Tax expense is allocated between years

Basic Principles of Accounting for Income Tax Asset-liability method (liability method) objectives Recognize taxes payable (refundable) amount for the current year Recognize future tax liabilities or assets for events (transactions) that have been included in the current year’s financial statements or tax returns Basic principles to achieve these objectives

Basic Principles of Accounting for Income Tax Current tax liability or asset is based on current year’s taxes payable (or refundable) and is recognized in the current year A future tax liability or asset is recognized for future tax effects of temporary differences and carryforwards Measurement of current and future tax liabilities and assets is based on the tax rate expected at the time the liability or asset will be settled Future tax asset is reduced by any tax benefits not expected to be realized

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