Asked by Brenda Levina on Jun 25, 2024
Verified
Duncanville Company appropriately uses the installment sales method for tax purposes and the accrual method for revenue recognition for accounting purposes.Pertinent data at December 31, 2010, the close of the first year of operations, are as follows: Revenue Recognized Revenue Recogrized Customer for Accounting Purposes for Tax Purposes Ace’sBuilders $200,000$100,000 Tip Top Plumbing 500,000350,000 Clearly Windows 600,000350,000\begin{array}{lll}& \text { Revenue Recognized } & \text { Revenue Recogrized } \\\text { Customer } & \text { for Accounting Purposes } & \text { for Tax} \text { Purposes }\\ \text { Ace'sBuilders } & \$ 200,000 & \$ 100,000 \\\text { Tip Top Plumbing } & 500,000 & 350,000 \\\text { Clearly Windows } & 600,000 & 350,000\end{array} Customer Ace’sBuilders Tip Top Plumbing Clearly Windows Revenue Recognized for Accounting Purposes $200,000500,000600,000 Revenue Recogrized for Tax Purposes $100,000350,000350,000
Duncanville's tax rate is 30%.What amount should be included in the deferred tax account at December 31, 2010 for these installment sales?
A) $150, 000 deferred tax asset
B) $150, 000 deferred tax liability
C) $500, 000 deferred tax asset
D) $500, 000 deferred tax liability
Installment Sales Method
An accounting method that recognizes revenue when payments are actually received rather than at the point of sale.
Accrual Method
A bookkeeping approach that registers revenues and costs as they are accrued or realized, irrespective of the timing of the associated cash transactions.
- Uncover and maintain a record of deferred tax assets and liabilities.
- Understand the implications of different revenue recognition methods for tax and financial purposes.
Verified Answer
QM
Quinn MenziesJun 28, 2024
Final Answer :
B
Explanation :
Under the installment sales method, income is recognized in the year that cash is received, even though the sale may span multiple years. However, for tax purposes, income is recognized in the year the sale is made. This creates a timing difference between accounting income and taxable income.
Since Duncanville uses the accrual method for accounting purposes, they will recognize all revenue immediately when it is earned, regardless of whether payment is received. This means that Duncanville will have recognized more revenue for accounting purposes than for tax purposes.
Therefore, at the end of the first year of operations, Duncanville will have a deferred tax liability because they will owe more taxes in future years when they collect the remaining payments on the installment sales.
The amount of the deferred tax liability can be calculated as follows:
Total installment sales recognized for accounting purposes = $2,000,000
Total installment sales recognized for tax purposes =$500,000 (assuming they made one sale for $2,000,000 and recognized $500,000 of that as income for tax purposes).
Timing difference = $2,000,000 - $500,000 = $1,500,000
Deferred tax liability = $1,500,000 x 30% (tax rate) = $450,000
Therefore, choice B is the correct answer, with a deferred tax liability of $450,000, which is the closest option to $500,000.
Since Duncanville uses the accrual method for accounting purposes, they will recognize all revenue immediately when it is earned, regardless of whether payment is received. This means that Duncanville will have recognized more revenue for accounting purposes than for tax purposes.
Therefore, at the end of the first year of operations, Duncanville will have a deferred tax liability because they will owe more taxes in future years when they collect the remaining payments on the installment sales.
The amount of the deferred tax liability can be calculated as follows:
Total installment sales recognized for accounting purposes = $2,000,000
Total installment sales recognized for tax purposes =$500,000 (assuming they made one sale for $2,000,000 and recognized $500,000 of that as income for tax purposes).
Timing difference = $2,000,000 - $500,000 = $1,500,000
Deferred tax liability = $1,500,000 x 30% (tax rate) = $450,000
Therefore, choice B is the correct answer, with a deferred tax liability of $450,000, which is the closest option to $500,000.
Learning Objectives
- Uncover and maintain a record of deferred tax assets and liabilities.
- Understand the implications of different revenue recognition methods for tax and financial purposes.