Question

A reconciliation of pretax financial statement income to taxable income is shown below for Chan Inc. for the year ended December 31, 2021, its first year of operations. The income tax rate is 25%.

Pretax accounting income (income statement)	$	500,000
Inventory impairments in excess of deductible amount		40,000
Depreciation in excess of financial statement amount		(120,000	)
Taxable income (tax return)	$	420,000

The inventory impairments relate to Chan's Columbian tax return. The depreciation relates to Chan's U.S. tax return. What amount(s) should Chan report related to deferred income taxes in its 2021 balance sheet?

Multiple Choice

• Noncurrent deferred tax asset of $20,000.

• Noncurrent deferred tax asset of $10,000 and noncurrent deferred tax liability of $30,000.

• Noncurrent deferred tax liability of $20,000.

• Current deferred tax asset of $10,000 and noncurrent deferred tax liability of $30,000.

Answer 1

Deferred income tax is created because of temporary differences between accounting income and tax income. In the given case, Inventory impairments in excess of deductible amount will give rise to deferred tax asset as it will be deductible in future on tax return thus less tax will be paid in future. Depreciation in excess of financial statement amount will give rise to deferred tax liability as higher expenses in early years for tax purposes than for financial-reporting purposes gives rise to a deferred tax liabilities.

Deferred tax asset = $40,000*0.25 = $10,000.

Deferred tax liability = $120,000*0.25 = $30,000

The deferred tax asset and liability would be offset and shown as a single noncurrent deferred tax liability. Thus, Chan report related to deferred income taxes in its 2021 balance sheet:

Noncurrent deferred tax liability of $20,000.