Briefly explain why tax-over-book depreciation and patent amortization are liste
ID: 2586514 • Letter: B
Question
Briefly explain why tax-over-book depreciation and patent amortization are listed as deferred tax liabilities?
Estimate the effective tax rate for Black Inc. in 2016. Why is it different from the 35% federal statutory rate?
In its 2016 annual report to shareholders, Bernie Inc. disclosed the following information about income taxes. A reconciliation of mcome taxes computed at the United States federal statutory income tax rate (35%) to the provision (benefit) for income taxes reflected in the Consolidated Statement of Operations for the years ended December 31, 2016, 2015, 2014, is as follows (S in millions) 2015 2014 Provision (benefit) for income taxes at United States federal statutory rate of 35%2 (49) (11.3) (43) State and local income taxes, net of federal income tax benefi.(4.1) Taxes on foreign income which differ from the (3.9) (2.5) 0.6 4.2 (0.7) 6.2 United States statutory rate 2.8 0.5 $1.9 S(7.6 (10.2) Losses with no tax benefit Benefit of foreign sales corporation Other (0.5) (3.2) The significant components of the net deferred tax assets at December 31, 2016 and 2015, were as follows (S in millions): 2016 2015 Deferred Tax AssetsExplanation / Answer
Deferred tax liability will occur when a higher amount of expense is deducted in income tax purposes but only a lower amount of expenses is recorded in financial statements.
Ex: Let us assume depreciation / amortisation on an asset costing $ 100,000, 10% depreciation is allowed which is $ 10,000 as per depreciation policy followed by the Company. However, in Income tax, 20% depreciation can be claimed on such asset.
Profit as per Financial Statements:
Profit before Depreciation $ 50,000
Less: Depreciation $ 10,000
Net Income $ 40,000
Assuming tax rate of 30%, income tax which would be paid has to be $ 12,000
However, taxable income as per income tax would be as below:
Profit before Depreciation $ 50,000
Less: Depreciation $ 20,000
Net Income $ 30,000
In this case, income tax would be be $ 9,000. i.e. income tax is paid less by $ 3,000 in current year which would be paid in subsequent years when book depreciation is more than income tax depreciation. To neutralise this effect, a deferred tax liability of $ 3,000 is provided in books so that total tax is 30% of Income.
Disclosure in Financials
Profit before Depreciation $ 50,000
Less: Depreciation $ 20,000
Net Income $ 30,000
Less:
Income Tax $ 9,000 (computed as per income tax laws)
Deferred tax expense $ 3,000 (provided so that total taxes are provided on taxable income)
Total tax expense $ 12,000
Net Income $ 18,000
b. Effective tax rate would be as per federal tax rate only if there are temporary differences like above i.e. both are deductible expenses in financial statements and income tax.
If there is any expense which is deductible in books but not allowed as per Income tax laws, tax has to paid on those expenses and hence, effective tax rate would be more than federal tax rate.
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