Implication of Tax and its Treatments

Questions: Mr Tom Crane, the president of Australian Crane Mining Enterprises (ACME), informed you that ACME has an accounting profit before tax (PBT) of $550,000, the corporate tax rate is 30 percent, and (during the tax year) WCIL experienced and journalised the following items:i. Goodwill was found to be impaired and was written down by $50,000.ii. During the year, the CIL sales people spent $35,000 entertaining customers.iii. A $240,000 fine for unlawful environmental degradation after one of its tailings-pond dam broke and contaminated sensitive wetlands with slurry.iv. Payments of $50,000 to lawyers who represented ACME in an unsuccessful court challenge of the above fine.v. Prepaid rent of $200,000 was paid for a new warehouse that will be used in the following tax year.vi. Dividends of $45,000 were paid to common shareholders.vii. An accounting depreciation expense of $100,000 and for tax purposes will claim depreciation of $180,000.viii. An accounting Warranty Expense of $300,000 and a ctual payouts for warranty costs of $280,000.ix. Long service leave payments of $335,000 and accruals of $240,000x. The Bad Debt Expense for accounting purposes was $83,000 and during the year $63,000 in Accounts Receivable (A/R) was written-off.Required:In Good memo form provide Mr Tom Crane with the:a) Income Tax Expense and show the workings.b) Income Tax Payable and show the workings.c) Difference between the Income Tax Expense and the Income Tax Payable say what it is called and discuss whether its attributes the same as any other asset/(liability)? Answers: Date: 28th January 2015 To: Mr. Tom Crane From: John Dell, CPA Subject: Re: Implication of Tax and its treatments Context: We have provided you the consequences regarding tax that you will come across in your query. Respected Sir, We received you queries dated 26th January 2015. We are glad to inform you the tax consequences of the same. The first part is regarding the income tax expenses along with the workings. The calculations are done as follows A) Particulars Note No. Amount Amount Accounting Profit Before Tax $5,50,000.00 Add Inadmissible Expense Goodwill 1 - Entertainment Expense 2 - Fine for environmental degradation 3 $2,40,000.00 Payment to lawyer 4 $50,000.00 Dividend 5 - Depreciation provided in Books 6 $1,00,000.00 Warranty Provision 7 $3,00,000.00 $6,90,000.00 Less Admissible Expense Depreciation as per Tax 8 $1,80,000.00 Warranty Expense 9 $2,80,000.00 Prepaid Rent 10 $2,00,000.00 Additional Bad Debt expenses 11 $20,000.00 $6,80,000.00 Net Profit for tax purpose $5,60,000.00 Tax @ 30% $1,68,000.00 Profit After Tax $3,92,000.00 Notes to account 1. Impairment expense is allowed as a deduction from the income tax. Impairment of an asset takes place when the value of an asset be it tangible or intangible falls below the value stated in the books of accounts than we can say that the asset has been impaired. The impairment loss i.e. the difference between book value and the market value is charged to profit and loss account. This expense is allowable for tax purpose.2. Entertainment expense for the customers is allowable for tax purpose. Such expense was incurred for business purpose. After such expense some customers will become loyal. So such expense is allowable for tax purpose 3. $240000 was paid as a fine for unlawful environmental degradation after one of its tailings- pond dam broke and contaminated sensitive wetlands with slurry. Any expense in nature if fine is not allowed for tax purpose. Such expense are illegal in nature so it is added back to the profit before tax4. The payment made of $50,000 to lawyers who represe nted ACME in an unsuccessful court challenge of the above fine is also not allowed as expenditure to be deducted from profit for tax purpose. Payment of fine for illegal activities is not allowed. Apart from that the expense incurred in relation with illegal expenditure is also not allowed. In case if the 5. Dividend expense is not tax deductible. Tax is paid separately on dividends6. Depreciation provided in the books is added but depreciation as per income tax is allowed to be deducted from profit and loss account7. All kinds of provisions are not allowed as per the provision for income tax. The actual expense is allowed as per income tax.8. Prepaid rent is paid for more than one year and whole of the expense is claimed as a deduction from the profit. So it is added back9. The additional bad debt is claimed as a deduction.In the next part you have asked to show you the income tax payable. We would like to inform you that the income tax expense is different from income tax payable because of the timing difference. The company is required to follow the provision of Minimum Alternate Tax wherein there is a difference between profits as per accounts and profit as per tax. The company has to calculate the tax liability as per both the methods and has to pay tax on whichever is higher from the above two.The income tax payable expense is calculated as follows B) Particulars Note No. Amount Amount Accounting Profit Before Tax $5,50,000.00 Add Inadmissible Expense Goodwill - Entertainment Expense - Fine for environmental degradation $2,40,000.00 Payment to lawyer $50,000.00 Dividend - Depreciation provided in Books $1,00,000.00 Warranty Provision $3,00,000.00 $6,90,000.00 Less Admissible Expense Depreciation as per Tax $1,80,000.00 Warranty Expense $2,80,000.00 Prepaid Rent $2,00,000.00 Additional Bad Debt expense $20,000.00 $6,80,000.00 Net Profit for tax purpose $5,60,000.00 Add Temporary differences Depreciation Note 1 $80,000.00 Warranty Provision Note 2 -$20,000.00 Prepaid Rent Note 3 -$20,000.00 $6,00,000.00 Tax @ 30% $1,80,000.00 Income tax payable $180000 Note 1: There is a difference between depreciation expense claimed in the books and the depreciation expense as per income tax. This creates deferred tax asset as the company will be benefitted in future by paying higher tax in the current year. Note 2: Provision for warranty is not allowed as per income tax but has been claimed in books. This creates deferred tax asset as the company will be benefitted in future by paying higher tax in the current year Note 3: Prepaid Rent is the expense of future year and is charged to current year. This creates deferred tax asset as the company will be benefitted in future by paying higher tax in the current year In the final part you asked us the difference between Income tax expense and Income tax payable. C) There is a difference between income tax payable and income tax expense. Income tax payable includes deferred tax and future tax expense. A deferred tax asset A deferred tax asset shall be recognised for all deductible temporary differences to the extent that it is probable that taxable profit will be available against which the deductible temporary difference can be utilised, unless the deferred tax asset arises from the initial recognition of an asset or liability in a transaction that is not a business combination; and at the time of the transaction, affects neither accounting profit nor taxable profit tax loss Whereas the income tax expense as per the income tax assessment act only those expenses are allowable which are stated under the act. Conclusion Profit after tax is $392000 where as income tax payable is $180000. There is a difference between income tax payable and tax as per profit. The reason for such difference is due to the fact that as per the income tax assessment act only those expenses are allowable which are stated under the act. References Income Taxes, 2013, AASB 112, viewed on 27th January 2015 available at https://www.aasb.gov.au/admin/file/content105/c9/AASB112_07-04_COMPsep11_07-12.pdf Blind Freddy, 2012, Common errors while applying AASB 112 viewed on 27th January 2015 available at https://www.bdo.com.au/resources/newsletters/accounting-news/accounting-news,-september-2012/blind-freddy-continued-common-errors-when-applying-aasb-112-income-taxes Australian Government ComLaw, AASB 112 Income Taxes July 2004, viewed on 27th January 2015 available at https://www.comlaw.gov.au/Details/F2012C00154