Question

As Dennis-Escoffier & Fortin (2017) explain “the income tax expense reported on the current-year financial statements must be based on financial statement income rather than taxable income” (p. 298). This may be quite confusing; however, understanding this practice based on the provisions of Accounting Standards Codification (ASC) Section 740–10–05 will guide you as you determine how corporate taxes are paid. Another item to consider is tax legislation. As the United States Congress meets every year, what might you need to consider as corporate income tax rates change?

Explain the effect to deferred tax liabilities and tax assets if US Congress reduces income tax rates.

Please provide a detailed explanation.

Answer 1

1. There is a difference between Book Profits and Tax Profits due to specific allowances and disallowances in taxation.

2. Deferred taxation arises due to two reasons below

a. Temporary differences >> These are differences between book income and tax income in subsequent periods capable of reversing in subsequent periods.

b. Permanent differences > > cannot be reversed in subsequent periods.

3. Now what happens in falling tax rates :

Your Book profit is more and your tax profit is less due to lower tax. WE are going to pay less tax now. Hence a Deferred Tax Liability situation is created.