R3 M2 - Difference between Book and Tax Flashcards
(12 cards)
Lite-Mart, a C corporation, had a beginning credit balance in its warranty reserve account of $120,000. During the year, Lite-Mart accrued estimated warranty expense of $16,000. At the end of the year, Lite-Mart’s warranty reserve had a $90,000 credit balance. What amount of warranty expense should Lite-Mart deduct?
A. $46,000 B. $30,000 C. $16,000 D. $14,000
Filler-Up is an accrual-basis calendar-year C corporation. Filler-Up uses an allowance method for accounting for bad debts. The allowance for bad debts was $20,000 at the beginning of the year and $30,000 at the end of the year. During the year, Filler-Up wrote off $5,000 of uncollectible receivables and accrued an additional $15,000 of expenses for accounts estimated to be uncollectible. What is the Schedule M-1 adjustment on Filler-Up’s federal income tax return?
A. $10,000 decrease in taxable income. B. $10,000 increase in taxable income. C. $5,000 decrease in taxable income. D. $5,000 increase in taxable income.
Explanation
Choice “B” is correct. For tax purposes, Filler-Up may only deduct the amount of uncollectible receivables actually written off during the year, which in this case was $5,000. For financial accounting purposes, Filler-Up recorded $15,000 of expenses for accounts estimated to be uncollectible. So, the amount recorded as an expense for financial accounting purposes was $10,000 more than that allowed to be deducted for tax purposes. On the Schedule M-1 reconciliation, that $10,000 difference must be added back in reconciling financial accounting income to taxable income.
Choice “A” is incorrect. Although the adjustment is $10,000, the adjustment is a $10,000 increase, not decrease, because the $10,000 represents expenses that are not being allowed as deductions in determining taxable income.
Choices “C” and “D” are incorrect. The adjustment is a $10,000 increase, as explained above. $5,000 is the actual amount written off.
In Year 2, a corporation had book income and taxable income of $200,000 before taking the corporation’s charitable deductions into account. The corporation made $50,000 in charitable contributions during Year 2. How will the corporation’s tax deduction for the charitable contribution differ from its deduction for financial accounting purposes?
A. The tax deduction will be $30,000 lower than the financial accounting expense. B. The tax deduction will be the same as the financial accounting expense. C. The tax deduction will be $30,000 greater than the financial accounting expense. D. The tax deduction will be $20,000 lower than the financial accounting expense.
Choice “A” is correct. The corporation’s financial accounting expense for its charitable contributions equals the amounts donated to charity for the year. As such, the corporation’s financial accounting expense for charitable contributions is $50,000. On the other hand, for tax purposes, the corporation’s limitation for deducting its charitable contributions is equal to 10 percent of the corporation’s adjusted taxable income. Because the corporation’s taxable income is $200,000, the corporation can only deduct up to $20,000 of charitable contributions in Year 2. As a result, the corporation’s tax deduction for charitable contributions is $30,000 lower than its financial accounting expense for charitable contributions.
Choice “B” is incorrect. The corporation’s financial accounting expense for its charitable contributions is equal to the $50,000 it contributed to charity during the year. For tax purposes, the amount that the corporation can deduct is limited to 10 percent of the corporation’s taxable income. Because the corporation’s taxable income is $200,000, the corporation can only deduct $20,000 of the charitable contributions, which is not the same as the financial accounting expense.
Choice “C” is incorrect. The corporation’s financial accounting expense for its charitable contributions is $50,000, which is equal to the amounts actually contributed for the year. For tax purposes, the corporation can only deduct an amount equal to 10 percent of the corporation’s $200,000 of taxable income, which is $20,000. As a result, the corporation’s tax deduction is $30,000 lower, not greater, than the corporation’s financial accounting expense.
Choice “D” is incorrect. The corporation’s financial accounting expense for its charitable contributions is $50,000, which is equal to the amounts actually contributed during the year. For tax purposes, the corporation is limited to a deduction of $20,000, which represents 10 percent of its $200,000 in taxable income. This answer choice is incorrect because it states that the tax deduction will be $20,000 lower than the financial accounting expense. However, because the corporation’s tax deduction is $20,000 and the corporation’s financial accounting expense is $50,000, the tax deduction will be $30,000 lower than the corporation’s financial accounting expense.
A C corporation had business meals of $40,000 and business entertainment of $12,000. Based on this information, what increase to book income should be made in calculating the corporation’s taxable income?
A. $26,000 B. $32,000 C. $46,000 D. $52,000
Choice “B” is correct. The corporation must increase its book income by any expenses that are not deductible for federal income tax purposes when computing its taxable income. The $12,000 of business entertainment is nondeductible for tax purposes and, thus, must be added back as an increase to book income in computing the corporation’s taxable income. Furthermore, only 50 percent of the business meals expense is deductible for income tax purposes. As such, $20,000 of **the business meals expense is nondeductible for tax purposes **and must be added back as an increase to book income in computing taxable income. The total increase in book income equals $32,000.
Choice “A” is incorrect. The total increase to book income includes all items that are expenses for book purposes but not deductible for tax purposes. This includes 50 percent of the corporation’s business meals expense and all of the corporation’s business entertainment expense. While the answer choice adds back 50 percent of the business meals expense, it also only adds back 50 percent of the business entertainment expense. Because business entertainment expenses are nondeductible, the entire $12,000 of business entertainment expenses should be added back as an increase to book income.
Choice “C” is incorrect. This answer choice adds back the entire $40,000 of business meals expense, instead of only adding back 50 percent of that amount ($20,000). Furthermore, the answer choice adds back only 50 percent of the business entertainment expense of $10,000 instead of adding back the entire amount.
Choice “D” is incorrect. This answer choice not only adds back all of the business entertainment expense but also adds back the entire amount of business meals expense. This is incorrect because only 50 percent of the business meals expense should be added back as an increase to book income.
