Question

Why is prepaid rent subtracted from the book income (in order to get taxable income) ? Isn't prepaid rent a deferred tax asset and is already recognized as an expense for tax purposes, right ? Can you please explain what I am incorrect about and why you would subtract it from book income to get taxable income.

At the beginning of 2015; Elephant, Inc. had a deferred tax asset of $10,000 and a deferred tax liability of $15,000. Pre-tax accounting income for 2015 was $750,000 and the enacted tax rate is 40%. The following items are included in Elephant’s pre-tax income:

Interest income from municipal bonds	$ 60,000
Accrued warranty costs, estimated to be paid in 2016	$130,000
Operating loss carryforward	$ 95,000
Installment sales revenue, will be collected in 2016	$ 65,000
Prepaid rent expense, will be used in 2016	$ 30,000

Answer 1

Taxable income is calculated by deducting expenses allowed as per IRS from the income earned. Rent expenses are allowable expenses and they are recognised with the revenue matching concept. Though prepaid expenses form part of deffered tax asset but DTA is just used for reporting purpose in the Financial Statements and to reconcile the difference between book profit and tax profit. It has no bearing on the calculation of tax profit.

Though it do affect calculation of Tax from the tax profit as we deduct the DTA from the Tax we calculated from the tax profit. But it does not affect the calculation of tax profit.

Hope u understood. If yes please give it a like. If not let know via comment.