Essay: Accounting for Income Taxes

Inter-period tax allocation is necessary because there are differences in the timing of revenues and expenses between a corporation's financial statement and its federal income tax returns.

To implement inter-period income tax allocation, an accountant must be able to distinguish between permanent and temporary differences. The following is a list of three differences between a corporation's pretax financial income and taxable income:

• Estimated warranty costs (covering a 3-year warranty) are expensed for financial reporting purposes at the time of sale but are deducted for tax purposes when incurred.
• Proceeds from the life insurance policy on a corporate officer was included for financial reporting purposes but was not included for tax purposes in the current year.
• MACRS depreciation for income tax purposes exceeds straight-line depreciation for financial reporting purposes.
• Percentage depletion for tax purposes exceeds cost depletion for financial reporting purposes.
• Fines imposed for securities violations were deducted for financial reporting purposes but were not deducted for tax purposes in the current year.

Required:

1. Identify the two goals and four basic principles of accounting for income taxes.

2. Explain the difference between inter-period and intra-period income tax allocation.

3. Define (a) permanent difference and (b) temporary difference.

4. Briefly explain inter-period income tax allocation under GAAP. List the four groups of items that result in temporary differences (not the individual items).

5. Indicate and explain whether each of the five differences listed in this case should be treated as a temporary or permanent difference and as a deferred tax asset or a deferred tax liability.