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Alpha plc is a furniture manufacturer. The finance director of the company is preparing the 2010 annual financial statements and has collected the following information with respect to the accounting for income taxes.
– pre-tax financial statement income: £900,000
– tax rate for 2010: 30%The finance director needs to consider a number of issues which can possibly result in differences between the 2010 income for financial statement reporting purposes and the 2010 income for tax reporting purposes:
(i) Property, plant and equipment include an asset that cost £100,000 when it was purchased; as of 31 December 2010 this asset was charged with £40,000 of depreciation expense and the company has claimed total tax allowances on the asset of £70,000. On 31 December 2010, the asset was revalued to £80,000.
ii) The company wrote down its inventory by £10,000 to a net realisable value of £25,000. The reduction is taken into account for tax purposes when the inventory is sold.
iii) Trade debtors have a carrying amount of £50,000. The related revenue has already been included in taxable profit.
(iv) Current liabilities include accrued expenses of £18,000. This amount is deductible for tax purposes on a cash paid basis.
v) The company capitalised £200,000 research and development on 1 January 2007 and estimated that its useful life is 5 years. The company charged as Tax depreciation: 50% first year allowance and then equal amounts for each of the following years. For financial accounting purposes the company uses the straight line depreciation method.
a) Calculate the DEFERRED TAX BALANCE as at 31 December 2010
b) Calculate for 2010 the DEFERRED TAX CHARGE that Alpha plc will report on its income statement in relation to the capitalised research and development expenditure.
The way I solved it:
a) DEFERRED TAX BALANCE
i) carrying value of the asset is £100,000 (cost) – £40,000 (I suppose that by saying ” AS OF 31 December 2010 this asset was charged with £40,000 of depreciation expense” it means accumulated depreciation) = £60,000 which is greater than its tax base: £100,000 – £70,000 = £30,000 => (temporary difference of £60,000 – £30,000)* 0.30 = -£ 9,000 (deferred tax liability)
ii) HERE with Inventory I am almost sure that probably I got it wrong, but this is the way I thought about it: carrying value (is the net realisable value)= £25,000 which is greater than its tax base which must be (£25,000 + £10,000) £35,000 => temporary difference of (£25,000- £35,000)* 0.30 = £3,000 (which here must be a deferred tax asset, I suppose)
iii) Trade debtors have a carrying amount of £50,000. The related revenue has already been included in taxable profit. => here I suppose there is no temporary difference as it has been included in both accounting and taxable profit
iv) ACCRUED EXPENSES (Liability): carrying amount = £18,000 which is greater than its tax base of 0 => temporary difference of £18,000* 0.30 = £5,400 (which must be a deferred tax asset, I suppose)
v) RESEARCH AND DEVELOPMENT: carrying amount = £200,000 – £40,000*4= £40,000 which is greater than its tax base = £200,000 – £100,000 – £25,000*3 = £25,000 => temporary difference of £15,000* 0.30 = £4,500 (deferred tax liability)
SO,
DEFERRED TAX BALANCE = -£9,000 + £3,000 + £5,400 – £4,500 = -£5,100 (deferred tax liability)
b) DEFERRED TAX CHARGE for 2010
tax depreciation = £25,000
accounting depreciation = £40,000
=> temporary difference of (25,000- 40,000)* 0.30 = – £4,500 must be the TAX charge that will go on the I.S. for 2010Is this correct?
sir please (iv) the accrued expenses should not be recognised when the expense is paid? why the treatment of thomasrebecca is right? i though it won’t be any deduction yet.
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