Question

1. Firm B uses the calendar taxable year and the cash method of accounting. On December 31, 20x6, Firm B made certain cash payments. To what extent can it deduct the payment in 20x6? (Please note: payments for assets to be consumed in the following year are fully deductible in the year of payment if the expenditure results in a benefit with a duration of 12 months or less and is consumed by the end of the following year.) a) $3,000 compensation to a consultant who spent three weeks in January 20x7 analyzing B's internal control system. b) $500,000 to purchase a new piece of commercial real estate. The equipment was delivered on January 8, 20x7 and has a useful life of 40 years. c) $16,900 property tax to the local government for the first six months of 20x7. d) $50,000 for a two-year lease beginning on February 1, 20x7.

Answer 1

Hi There,

Here is my answer to the given question.

There are two types of accounting that most of the organisations follows viz cash based & accrual based accounting.

CASH BASED ACCOUNTING :

It is an accounting method where payment & receipts are recorded during the period in which they are actually received in terms of cash and expenses are recorded in the period in which they are actually paid in terms of cash.

In other words revenues and expenses are recorded when cash is received and paid, respectively. It is also called cash accounting.

It is mostly used by small businesses.

ACCRUAL BASED ACCOUNTING :

It measures a company's performance and position by recognizing economic events regardless of when cash transactions occur. Typically it recognise transactions when a revenue earned or expenditure occured irrespective of cash has been received or paid.

It is mostly used by large businesses.

CONCLUSION :

So in cash based accounting we shall record transactions when there is a payment or receipt has been made irrespective of period to which it belongs.

So in the given question as B uses cash based accounting he has to record all the four transactions in dec 20x6 itself as cash has been paid in Dec 20x6 only. So all the four payments made should be deducted from cash balance as on 31 dec 20x6.

So a total of $ 5,69,900 has to be deducted from cash payments on 31 dec 20x6.