Question

Ethics and Deferred Taxes

It is the end of 2017, and your auditing firm is auditing ABC Company for the first time. Prior to 2017, ABC Company was audited by another firm. A substantial amount of ABC Company’s revenues for 2016 came from accrual-basis sales. ABC Company has considerable property, plant, and equipment. It also has a large amount of debt outstanding, and one of the debt covenants is that the company maintain a 2.00 current ratio.

You have been reviewing ABC Company’s deferred taxes at the end of 2017. On its preliminary ending balance sheet for 2017, ABC Company has included a noncurrent deferred tax liability of $45,000. On its ending 2016 balance sheet, Weiss had also reported a noncurrent deferred tax liability. Upon examining the calculations supporting the $45,000, you find that one-third relates to the receivables from the accrual-basis sales and two-thirds relates to the depreciation on the Statement of Cash Flows Revisited. Nearly all of the 2016 deferred tax liability related to the latter.

Based on your analysis, you raise the issue with ABC Company’s Controller about the possibility of reclassifying $15,000 of the deferred taxes as a current liability. The Controller states that the company has always listed their deferred taxes as a non-current liability. This was okay with our previous auditor. It just isn’t worth the hassle of splitting the amount into current and non-current portions. It is clearly not material, since our total equity is over $400,000. Besides, if we did that, it would bring our current ratio down to 1.95, and we would have our creditors on our backs. Everyone knows that deferred taxes are never really paid, so that is a good reason for not including the amount in our current liabilities.

Required:

From financial reporting and ethical perspectives, prepare a response to Weiss’s controller.

Answer 1

As per Financial Reporting Framework

Current Liabilities are the obligations which are to be paid off within 1 year whereas Non current Liabilities all those debts and obligations has aong term, i e debt maturing more than one year

Deffered Liability arose due to sales made of $15000 is in nature of current Liability and shall not be classified as long term Liabilties

Materiality is not considerate factor for classifying it as Non current Liability as it is a requirment of Reporting Framework which is over Materiality

Current Ratio which will be down to 1.95 shows true & correct position as actual ratio is 1.95 not 2

deferred taxes are never really paid is irrelevant because provision is made as per requirement of Law not and it doesnt matter whether it is paid or not