CORPORATE FINANCIAL REPORTING 2

1. Dilutive Securities and EPS 19 - Financial Reporting Of Income Taxes CORPORATE FINANCIAL REPORTING 2

2. ACCOUNTING FOR INCOME TAXES I. Tax loss carryback & carryforwardII. Tax allocation because of differences between public reporting and tax returns: A. Differences either called: 1. temporary differences (create “deferred income taxes”) 2. permanent differences B. Accounting for differences

3. TAX LOSS CARRYBACK & CARRYFORWARD YEARIBTTAX RATETAX PAID 2011 11,000 .25 2,750 2012 10,000 .20 2,000 2013 12,000 .30 3,600 2014(30,000) .30 Tax journal entries for 2011, 2012 and 2013 are straight forward.

4. TAX LOSS CARRYBACK & CARRYFORWARD IRS says we can do one of two things with our loss.

5. TAX LOSS CARRYBACK & CARRYFORWARD We choose to carryback the loss, what will our accountant do?

6. TAX LOSS CARRYBACK & CARRYFORWARD We still have some loss we couldn’t carryback – what will we do with that remaining loss if management says: “It is more likely than not that we will have at least $8,000 of income in the next 20 years.”? Financial Reporting of Income Taxes · 6

7. TAX LOSS CARRYBACK & CARRYFORWARD YEARIBTTAX RATETAX PAID 2011 11,000 .25 2,7502012 10,000 .20 2,0002013 12,000 .30 3,6002014(30,000) .30 2015 5,000 .33 Financial Reporting of Income Taxes · 7

8. TAX LOSS CARRYBACK & CARRYFORWARD YEARIBTTAX RATETAX PAID 2011 11,000 .25 2,7502012 10,000 .20 2,0002013 12,000 .30 3,6002014(30,000) .30 2015 5,000 .332016 9,000 .34 Financial Reporting of Income Taxes · 8

9. TAX LOSS CARRYBACK & CARRYFORWARD “It is more likely than not that we will not have sufficient income in the future to use all of the loss carryforward. We estimate that we will only have $2,000 of future income in the next 20 years.”? Financial Reporting of Income Taxes · 9

10. TAX LOSS CARRYBACK & CARRYFORWARD QUESTIONS about loss carryback/carryforward?

11. DEFERRED INCOME TAXES PUBLIC INCOME TAXSTATEMENTRETURN estimate bad debt expense ? estimate warranty expense ? straight line depreciation ? first-in first-out inventory flow ? rent revenue when earned ? rent expense when incurred ? etc, etc.

12. DEFERRED INCOME TAXES The point is, all publicly traded companies have at least two sets of books – one for the IRS and one for their stockholders (and if they are in a regulated industry, like the banking industry, they have a third set of books).

13. DEFERRED INCOME TAXES That poses a problem – what should the company report as income tax expense on their public income statement? What they really owe the IRS or something else. The FASB answer (in FAS 109/ASC 740) is “something else.”

14. DEFERRED INCOME TAXES The FASB approach is best illustrated by two examples we will discuss in class. But first, to use the FASB (or “asset and liability”) approach you need to understand the difference between “temporary” and “permanent” differences between public income and tax income.

15. DEFERRED INCOME TAXES Temporary (or timing) differences are things like we discussed earlier (depreciation, bad debts, rent, etc.) – they are differences that, over time, “balance out” (or “reverse”). Temporary differences require the use of deferred tax assets or liabilities.

16. DEFERRED INCOME TAXES Permanent differences are things that never reverse, such as: municipal interest fines the company pays life insurance premiums paid on key employee insurance policies