Question

Dream Home Inc., a real estate developing company, was accounting for its long-term contracts using the completed contract method prior to 2018. At the beginning of 2018, it changed to the percentage-of-completion method.

The company decided to use the same for income tax purposes. The tax rate enacted is 40%.

Income before taxes under both the methods for the past three years appears below.

                                                               2016               2017               2018  

Completed contract                         $650,000       $375,000       $350,000

Percentage-of-completion              825,000       465,000       470,000

Journal Entry at the beginning of 2018

a What amount will be debited to “Construction in Process” account, to record the change at beginning of 2018?

b What amount will be credited to “Deferred Tax Liability” account?

c What amount will be credited to “Retained Earnings” account?

___________________________________________________________________

Answer 1

Solution:

1. $265,000

2. $106,000

3. $159,000

Explanation:

	2016	2017	Total
Percentage of completion	$825,000	$465,000	$1,290,000 (825,000+465,000)
Completed contract	$650,000	$375,000	$1,025,000 (650,000+375,000)
Differecne	$175,000 (825,000-650,000)	$90,000 (465,000-375,000)	$265,000 (175,000+90,000)
Tax effect at 40%	$70,000 (175,000 x 40%)	$36,000 (90,000 x 40%)	$106,000 (70,000+36,000)
Income effect (Net of tax)	$105,000 (175,000-70,000)	$54,000 (90,000-36000)	$159,000 (105,000+54,000)

Journal entry

Construction in process a/c Dr	$265,000
To Deferred Tax Liability a/c		$106,000
To Retained earnings a/c		$159,000