TAX6134 Project I – Accounting for Income Taxes in Excel

Project I – Accounting for Income Taxes in Excel
Students will perform several tasks in Excel related to accounting for income taxes.

Project I – Accounting for Income Taxes in Excel | TAX 6134 | Fall 2024
Introduction –
A recent study performed by the AICPA and National Association of State Boards of Accountancy
uncovered “significant gaps between what practice is demanding and what students are learning in
accounting programs, especially when it comes to systems, data analytics, and digital acumen.”
This project is being assigned in part to help close that gap.
You will be applying ASC 740 rules to compute a corporation’s tax accruals and payables in Excel.
Faculty repeatedly hear from employers that students’ Excel skills could be more well developed—
especially the basic principles and best practices used and expected in professional workpapers.
In general, this project does not require any advanced coding knowledge or any other specialized
technology skillset. The emphasis is on helping develop basic Excel skills in the context of
professional workpapers while reinforcing course content.
The project fact pattern and instructions are loosely based on a project originally published by PwC
to provide students with realistic fact situations.
Deliverables –
The primary deliverable for this project is an Excel workbook with six sheets:
1.
2.
3.
4.
5.
6.
A sheet collecting data from the case study (pages 3–5 below)
A sheet with a completed trial balance (Items I–III on page 3)
A sheet with computations for state and federal taxable income and tax payable (Item IV)
A sheet determining the company’s total tax provision and effective tax rate (Item V)
A sheet showing changes to the company’s DTAs/DTLs and resulting journal entry (Item VI)
A sheet preparing reconciliation of the effective tax rate with the expected statutory rate in
both percentages and dollars (Item VII)
The workbook should be created as a workpaper that can be both easily reviewed by a supervisor
and easily followed by a colleague in a subsequent period. To achieve this, be sure to include
robust documentation of your process and findings. Use formatting to clearly identify cells
expected to change each period and cells containing formulas or cell references.
In short, you will perform all steps necessary to derive the financial statement tax accounts and
footnotes. This includes determining book income before taxes, identifying book–tax differences
and classifying each as temporary or permanent, computing federal and state income taxes,
completing the ASC 740 journal entry, and preparing the tax footnote income tax rate
reconciliation.
In addition to the workbook, please upload the certificate earned by completing the LinkedIn
Learning course described below.
Other Items –
The fact pattern features accounting for income taxes topics under ASC 740. You may rely on our
coverage of this material in Chapter C:3 (see Objective 6) for the technical subject matter
knowledge needed to complete the project. As an additional reference, I’ve also attached at the
end of these instructions an ASC 740 primer prepared by PwC.
Before beginning to work in Excel, you must review the following (short) resource and complete the
referenced LinkinIn Learning course. Note that LinkedIn Learning courses are made available to
USF students at no cost.
•
•
Guidelines for organizing and formatting data on a worksheet –
https://support.microsoft.com/en-us/office/guidelines-for-organizing-and-formattingdata-on-a-worksheet-90895cad-6c85-4e02-90d3-8798660166e3
Excel for Accounting (a LinkedIn Learning course) –
https://www.linkedin.com/learning/excel-for-accounting/being-good-at-excel?u=2343682
Miscellaneous Notes –
Deliverables will be evaluated primarily on effort and completion, but I do expect your submission
to reflect a serious attempt. Where possible, your workbook should reflect the skills and best
practices covered in the ‘Deliverables’ section and LinkedIn Learning course cited above.
I am available to help with any technical inquiries or issues. Please let me know if you have any
questions.
Sabal Palm Corporation
The Sabal Palm Corporation is a custom business signage company organized in Florida. The CFO
has asked for your assistance in completing several items related to the tax numbers in the
company’s financial statements.
Follow all the public company disclosure rules of ASC 740, without regard to materiality or
significance.
Item I
Using the information provided, compute book income before taxes for Sabal Palm.
Item II
Identify and measure Sabal Palm’s book–tax differences. Classify each of the book–tax differences
as temporary or permanent.
Item III
Complete the construction of the trial balance.
Item IV
Determine Sabal Palm’s state taxable income, state tax payable, federal taxable income, and
federal tax payable.
Item V
Determine Sabal Palm’s total tax provision (i.e., the “tax accrual”). Hint: compute the state
provision first. Using this total tax provision amount, compute the corporation’s effective tax rate.
Item VI
Summarize Sabal Palm’s changes in its deferred tax assets and liabilities for the year and prepare
the condensed journal entry to record these changes to the net deferred tax balance.
Item VII
Prepare a reconciliation of the effective tax rate with the expected statutory rate (in both
percentages and dollars). For this purpose, use a combined state and federal tax rate.
Note: because you are performing this work in Excel, worksheet templates are offered below for
each item.
Information from Sabal Palm (all figures in $000)
1. Sabal Palm recorded an expense of $1,200 for its defined benefit retirement plans, but only
$900 of this amount qualified for an income tax deduction in the current year.
2. The interest income was received from bonds issued by Nvidia ($36) and the City of Tampa
($14).
3. The Deferred Revenue account was established because Sabal Palm received full payment last
year on a contract for services, one-half of which Sabal Palm performed this year, and one-half
of which it will perform next year. (For tax purposes, assume deferral is elected under Sec. 451.)
4. Sabal Palm holds life insurance policies on its five officers. Activity concerning these policies
this year is as follows:
Key employee life insurance
Proceeds collected, death of CIO
Premiums paid, all policies
Increase in cash value, all policies
1,200
780
150
5. Sabal Palm sold some of its investment land, held as a capital asset per a previous IRS audit
settlement, at an $18 loss.
6. Sabal Palm’s tax department reported a $53 total of documented expenses for meals.
7. Sabal Palm truck drivers were responsible for $12 in speeding tickets, all of which the company
paid during the current year.
8. Sabal Palm accrued a current year tax expense of $600 for federal and $150 for state.
9. Statutory tax rates for Sabal Palm are 21% for federal and 6% for the states (blended). Unless
otherwise noted, state income tax laws conform with the federal income tax provisions in all
states in which the company has nexus. None of the states with which the company has nexus
allows a deduction for book federal income tax expense.
10.
There are no enacted state or federal income tax rate changes that apply to Sabal Palm. The
company anticipates no need for a valuation allowance relative to its tax deferrals.
[other balance sheet data is presented below for items 11., 12., and 13.]
Select balance sheet items
11. Bad debt allowance
12. Tax basis vs book basis in PP&E
13. Cumulative UNICAP adjust.
BOY
EOY
132
(138)
48
150
(166)
90
Note: Sabal Palm keeps its books using generally accepted accounting principles (GAAP) and is
required to file a Schedule M-3 with its annual Form 1120. The company has no net operating loss
(NOL) carryovers.
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and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
Sabal Palm Corporation
Balance Sheet (summary) ($000)
End of current year (2024)
Cash
Investment land
Accounts receivable
Inventories
Property, plant, equip. (net)
Notes receivable (long-term)
Deferred tax assets*
All other assets
Assets
1,800
3,060
1,320
1,680
2,400
252
48
3,300
Total
13,860
Accounts payable
Taxes payable
Deferred revenues
Accrued pension liabilities
Notes payable, current
Notes payable (long-term)
Deferred tax liabilities*
Liab. & Equity
(420)
(750)
(240)
(3,900)
(210)
(1,806)
(78)
Common stock
Retained earnings
(1,200)
(5,256)
Total
(13,860)
* before ensuing computations
© 2020 PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates,
and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
Template for Items I–III above
Sales & expenses with no
book–tax differences
Cost of goods sold (w/o UNICAP)
Fines paid to governments
Bad debt expense
Total
Book
Tax
12,000
(9,000)
(12)
(18)
12,000
(9,000)
(12)
(18)
12,000
(9,000)
Differences
Temp
Perm
Explanation
Item #
12
18
Book income, after taxes
Taxable income (federal)
Total differences, before taxes
Total differences, after taxes
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and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
Template for Item IV above
State Taxes
Federal taxable income w/ accrued state tax
State income tax accrual
State taxable income
Statutory tax rate
State tax payable
Federal Taxes
Federal taxable income w/ accrued state tax
State income tax accrual
State income tax actual
Federal taxable income w/ actual state tax
Statutory tax rate
Federal tax payable
Template for Item V above
Current tax
provision
Summary
Deferred tax
provision
Pre-tax book income (PTBI)
Permanent differences
Adjusted pre-tax income
State income tax
Federal income tax
a
b
Tax provision
Effective tax rate on PTBI
c
a State temporary differences x State rate
b (Federal temporary differences – State deferred income tax) x Federal rate
c Tax provision / PTBI
© 2020 PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates,
and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
Template for Item VI above
Dr
Cr
Federal income tax expense
State income tax expense
Federal income tax payable
State income tax payable
Template for Item VII above
Statutory tax rate, current year, federal
Statutory tax rate, current year, state (net of federal benefit)
Effective state + federal income tax rate (based on book income)
In $
In %
PTBI
ETR
© 2020 PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates,
and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
ASC 740 Primer (prepared by PwC)
The expense for income taxes typically is one of the largest items on the income statement of a business.
Entities make interperiod allocations of the income tax expense because financial accounting and the taxing
system use different rules to accomplish different objectives. 1 Income tax rules are created by a large
number of governmental jurisdictions, and financial accounting rules are created by several different bodies
as well.
Some observers believe that the book expenses for income taxes for the year should simply be the “cash tax”
amount payable on the income tax returns for the period, but this approach would ignore the matching
principle of financial accounting, and it often takes longer in time for a client to determine tax payable
amounts than is required to compute book income for reporting purposes.
Instead, ASC 740 requires that the book tax expense relate to the income that is reported for the period. If
book income includes taxable or deductible amounts that are recognized in future time periods, a deferred
tax asset and/or liability is created on the balance sheet. This balance sheet approach to the accounting for
income taxes means that an asset or liability is created when a tax amount that relates to current book
income is actually recognized in a future period. The ASC 740 rules assume that all deferred tax assets and
liabilities are realized in full in the future.
Permanent and Temporary Book-Tax Differences
The vast majority of items encountered by a business enterprise are treated identically for financial reporting
and tax purposes. But some items receive differing treatment, and they are known as book-tax differences.
Book-tax differences for revenue and expense items are classified as permanent or temporary.
Permanent differences are book items that never affect the taxable income computation. Permanent
differences affect the effective tax rate of the entity for the period (Tax Expense/Pre-Tax Book Income), as
reported in a footnote to the GAAP financial statements. A permanent difference might arise because:
• The tax law permanently excludes an income item. This reduces the entity’s effective tax rate.
• The tax law disallows a deduction for a book expense item in computing taxable income. This increases
the entity’s effective tax rate.
• The entity operates in a jurisdiction, say the US state of Nevada or the Cayman Islands, which does not
levy an income tax. This reduces the entity’s effective tax rate.
Temporary differences are book items that are recognized on the tax return in future reporting periods.
Temporary differences are summarized and accounted for on the balance sheet as deferred tax assets or
liabilities. This requires that the entity make journal entries to record the income tax expense (also called the
income tax provision) and any deferrals due to book-tax differences.
A book-tax difference that relates to taxable income that will be recognized in the future generally creates a
deferred tax liability. A book-tax difference that relates to a deduction that will be recognized in the future
generally creates a deferred tax asset. Deferred tax accounts are treated as non-current items on the GAAP
balance sheet.
1
Thor Power Tool, 99 SCt 773 (1979).
Usually, temporary differences are recorded in one period and then “reverse” in the future, perhaps over a
period of years. Book amounts for future tax benefits are not recorded under financial accounting rules
unless it is more likely than not (> 50 percent probability) that they will occur. 2
Examples of book-tax differences include:
• Municipal bond interest (permanent)
• Bad debt reserves (temporary)
• Depreciation computations (temporary)
Many balance sheets include both deferred tax assets and deferred tax liabilities, because these accounts
relate to various transactions and taxing jurisdictions. GAAP rules also discourage the “netting” of large tax
deferral amounts against each other, so that the balance sheet and its footnotes lose transparency as to
operating results that might be important to those who wish to analyze the financial statements thoroughly.
Tax Provision v Tax Payable
The tax payable (sometimes called cash tax) is the amount determined on the entity’s current-year tax
returns. This amount is calculated under the taxing rules of the various jurisdictions in which the business
operates. For most entities, these include taxes imposed by governments such as the US federal, one or
more US states, other countries, and states/provinces/etc. within the other countries. Tax payable generally
is computed relative to taxable income, and then certain tax credits and carryovers are allowed.
A tax provision (tax expense) is the amount used on financial accounting records to reduce book income. The
financial accounting rules of the US and other countries are used to summarize the entity’s current-year
results on its financial statements. The tax expense can be seen as the tax payable amount adjusted for
current-year tax deferrals relating to both taxable and deductible items.
GAAP provisions concerning tax deferrals are found chiefly in ASC 450 and ASC 740. Under the rules of the
International Financial Reporting Standards (IFRS), IAS 12 (2012) uses many of the same rules and concepts
as have been developed in GAAP. IFRS rules use a probable profits test regarding deferred tax assets, in
place of the GAAP more likely than not requirement.
For instance, some discussion about the proper accounting for income taxes asserts that tax deferrals are
not legally enforceable assets or liabilities of the entity, i.e., their recognition depends fully upon future
events, such that they are not balance sheet items similar to others included in the balance sheet. Examples
of seemingly-contingent subsequent events include the recognition of taxable income in future tax years, so
that a loss or credit carryforward can be used, or the fulfilling of statutory requirements to avoid the pay-back
of a tax credit, say because the required number of jobs were created by the entity under the terms of the
credit as granted by the taxing jurisdiction. 3
2
ASC 740-10.
3
Sometimes this is termed a clawback of the government tax incentive.
Applicable Tax Rates
Deferred tax accounts on the balance sheet are not discounted to their present values. The ASC 740 rules
require that computations of the tax deferrals apply the tax rates that are scheduled to be in effect in the
future years when the temporary differences are expected to reverse.
In the US, the corporate rate was decreased from 35% to 21% effective for income earned after December
31, 2017.
If tax rates do change between the dates of the tax deferral and its recognition, the balance sheet accounts
are adjusted when the legislative change occurs.
Valuation Allowance
A deferred tax asset is created when, say, the entity generates a tax net operating loss that it carries forward
to future years. The deferred tax asset, though, might be offset by a balance sheet contra-asset account
known as a valuation allowance. This book-only allowance is derived when the entity’s management applies
its professional judgment to determine that it is more likely than not (> 50 percent probability) that some
portion of the deferred tax asset never will be recognized on the income statements of the business.
For instance, if taxable income projections are so low as to call into question whether an NOL carryforward
actually will be used, the entity creates a valuation allowance against the deferred tax asset. These
projections might come from data about future sales and receivables collections, tax and book reporting
history, and built-in gains and losses that might be recognized in the future.
Management can take into account its various tax planning strategies, e.g., to accelerate taxable income into
the period of the NOL carryforward, in constructing the valuation allowance. 4
4
ASC 740.
Summary of the Steps
ASC 740 rules summarize the procedures used to construct a full accounting for the entity’s current and
deferred income tax expense.
Identify the types and amounts of permanent and temporary booktax differences that relate to current-year book income
For taxable temporary differences, use the applicable current and
future tax rates to determine any deferred tax liability
For deductible temporary differences, use the applicable current
and future tax rates to determine any deferred tax asset
If it is more likely than not that some or all of a deferred tax asset
will not be realized, measure and apply a valuation allowance to
offset the asset
Track specific deferred tax assets and liabilities over their life
cycle and adjust them on future financial statements due to
changes in management expectations, tax rates, and tax laws
Example
Trucco Limited has one book-tax difference to report. It uses accelerated depreciation on its operating
equipment. This year, Trucco is subject to a blended 26 percent income tax rate. Its book income totals $75,
and the excess of tax over book depreciation is $15.
Here is the journal entry to record the deferred tax liability relating to the depreciation.
Income Tax Expense (.26 x $75)
19.5
Income Tax Payable [.26 x ($75 – 15)]
15.6
Deferred Tax Liability
3.9
Here is the presentation of the deferral on Trucco’s income statement.
Pre-Tax Book Income
Income Tax Expense
Current
$ 75
$ 15.6
(19.5)
3.9
Deferred
Financial Accounting Net Income
$55.5
Example
Fallert Limited generated a tax net operating loss (NOL) this year of $35. It is subject to a 30 percent blended
income tax rate. Carrybacks of NOLs are no longer allowed. The NOL is carried forward to future tax years, to
offset positive taxable income recognized then.
Here is the journal entry to account for the current-year Fallert NOL. The debit is a balance sheet item, and
the credit shows up on the income statement as an offset to the book net operating loss. The loss to Fallert is
really only $24.5 ($35 – 10.5), because of the tax benefits (current and future tax savings in cash) from the
NOL.
Deferred Tax Asset, NOL
10.5
Income Tax Benefit, NOL carryforward
10.5
Now assume that management projects that there will be positive operating income during the tax NOL
carryforward period sufficient only to use up forty percent of the carryforward, several years from now. A
valuation allowance is created to reduce the deferred tax asset accordingly. The journal entry as revised for
this additional information is:
Deferred Tax Asset, NOL
10.5
Income Tax Benefit, 40% of NOL carryforward
4.2
Valuation Allowance to Reduce Deferred Tax Asset to Realizable Value –
NOL Carryforward
6.3
The Fallert balance sheet is affected by the receivable, deferred tax asset, and valuation allowance. The
income tax benefit to reduce the $35 operating loss on the income statement is now only $4.2. Combined
with the valuation allowance, the deferred tax asset nets to only $4.2, the tax benefit that is more likely than
not to be realized.
Other Financial Reporting for Taxes
The footnotes to the financial statements report the entity’s effective tax rate that falls on current book
income, often separately for US federal, US state/local, and international taxing jurisdictions. Some detail is
required to be disclosed as to the specific temporary book-tax differences that lead to the balance sheet
amounts. Other footnotes, e.g., relating to accounting methods and policies, the use of stock options, and
pension obligations, also include some information about the entity’s income tax positions.
In addition, a “rate reconciliation” is used to explain why the entity’s effective rate of income tax for the
period (Tax Provision/Pre-tax Book Income) is greater or less than its expected combined federal, state/local,
and international statutory tax rate. The rate reconciliation provides some detail concerning the permanent
book-tax differences that the entity employed for the reporting period, e.g., concerning the non-taxable
portion of dividend income received. It further might disclose the tax benefit resulting from the entity’s use of
reduced tax rates available through a treaty with another country.
Changes in the tax deferral accounts also are reflected in the entity’s statement of cash flows, usually
classified with continuing operating activities. 5 For instance, an increase in the deferred tax liability account
relating to the current-year tax provision generally is a positive amount in the cash flow statement. This entry
also should include adjustments to the deferrals that are caused by pertinent tax rate and tax law changes. 6
The income statement also discloses the entity’s obligations for other taxes, e.g., sales, property, excise, and
payroll taxes incurred. Book-tax differences from these items are rare, except as they might relate to audit
adjustments, and to governmental challenges over whether there is a need for the taxpayer to pay taxes at all
(these often are known as nexus or permanent establishment issues). But those obligations are reported
under the general GAAP rules for measuring contingent liabilities, 7 not ASC 740, which relates only to
income tax expenses and obligations.
Ethical Considerations
Tax deferral accounts, and especially those relating to changes in the valuation allowances, turn to a great
extent on subjective decisions and projections that are made by management. Thus, some observers
maintain that there is an opportunity for the tax accounts to be used to “manage the income” of the entity to
meet or beat the expectations of analysts or the markets. The valuation allowance rules require that a morelikely-than-not standard be met as to anticipated future events before the allowance be adjusted.
Documentation should be generous and contemporaneous in providing a rationale for the changes in the
valuation allowance.
Conceivably, changes to the valuation allowance are assessed and measured every reporting quarter for the
business. If an income-smoothing strategy is being executed and the business is profitable, one might expect
that the tax deferral valuation allowances would increase. But proper unbiased documentation could be
available to back up such an increase in the allowance as correct.
5
ASC 230.
6
ASC 740, ¶45.
7
ASC 450.
Summary
Here is a summary of the most commonly encountered adjustments used by C corporations in completing
the Schedules M-1 and M-3.
General tax
treatment
General book
treatment
IRC section
reference
Temporary
Various
accelerated
methods
Straight line, or
some acceleration
167,168, others
Municipal bond
interest
Permanent
Exclude
Include
103
Dividends
received
deduction
Permanent
Exclude 50, 65, or
100 percent
n/a
243, 245, 246
Meals
Permanent
Deduct 50 percent
Expense 100
percent
274
Entertainment
Permanent
Nondeductible
Expense 100
percent
274
Net capital loss
Temporary
Only to offset
capital gains
Expense as
incurred
1211
Federal income
tax
Permanent
Do not deduct
Expense
275
State/local
income tax
Temporary
Deduct
Expense per
provision amount
164
Bad debts
Temporary
Deduct per
specific write-off
Expense using
allowance
166
Excessive
compensation
Permanent
Deduction limited
to $1M if publicly
traded
Expense
162(m)
Item
Type
Depreciation
General tax
treatment
General book
treatment
IRC section
reference
Temporary
Deduct per
actuary, with 8 ½
month grace
period
Expense
404
Political
contributions &
lobbying
expenditures
Permanent
Do not deduct
Expense
162
UNICAP costs
Temporary
Capitalize into
inventory
Reserves allowed
263A
Inventory
reserves
Temporary
Reserves not
allowed
Reserves allowed
471
LIFO reserves
Temporary
Reserves not
allowed
Reserves allowed
472
Self-insurance
reserves
Temporary
Reserves not
allowed
Reserves allowed
461
Warranty
reserves
Temporary
Reserves not
allowed
Reserves allowed
461
Accrued vacation
and bonus
Temporary
Deduct as paid,
with ½ month
grace period
Reserves allowed
404
Organizational &
start-up costs
Temporary
Amortize over 180
months; one-year
rule; may deduct
up to $5,000
currently
Expense as
incurred
248
Gain (loss) on
asset sale
Temporary
Reflect tax basis
Reflect book cost
168,1245
Item
Type
Qualified plans
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and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
General tax
treatment
General book
treatment
IRC section
reference
Temporary
Recognize gross
profit over
collection period
Realize in year of
sale
453
Gifts to charity
Temporary
Deduct payment
made within
taxable year,
within income
limits,
carryforward
excess
Expense
170
Prepaid rent
Income
Temporary
Include as
received
Realize as earned
451
Goodwill,
purchased
Temporary
Amortize over 15
years
Expense per
impairment of
value
197
Covenants not to
compete
Temporary
Amortize over 15
years
Expense over
contract term
197
Software
developed
Temporary
Immediate
deduction
(through 2021), or
3 year
amortization
Amortize over
useful life
162,167
Premium paid,
key employee life
insurance
Permanent
Do not deduct
Expense
264
Cash surrender
value increase,
key employee life
insurance
Permanent
Exclude
Include
101
Proceeds
received, key
employee life
insurance
Permanent
Exclude
Include
101
Item
Type
Installment sale
gain
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and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.
General tax
treatment
General book
treatment
IRC section
reference
Temporary
Deduct as paid,
harmonize
(through 2021)
with credit.
Expense as work is
carried out
41,174
Luxury box, club
dues
Permanent
Do not deduct
Expense
274
Futures and
options
Temporary
Include mark-tomarket amount at
year-end
Include as earned
1256
Item
Type
Expenditures for
R&D
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and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see
www.pwc.com/structure for further details.