Chapter 12 - Solution Manual

Fasb no 109 omitted discounting from its scope the

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FASB No. 109 omitted discounting from its scope. The result is that discounting deferred taxes is not allowed. Critics of discounting counter that discounting deferred taxes mismatches taxable transactions and their related tax effects. If companies discount deferred taxes, the amount of tax reported will be less than the amount of tax that will eventually be paid. The result would be that the future cash flows would be divided between interest and principal amounts. This would cause part of the deferred tax amount to be recognized in future periods as interest expense. So, the tax related to income statement items in one period would not be reported in the same period as the income statement items, rather some would be recognized over several periods as interest expense. As a result, discounting deferred taxes would conceal a company’s actual tax burden by reporting as interest expense the discount factor that would otherwise be reported as part of income tax expense. Furthermore, deferred taxes may be considered as interest-free loans from the government that do not require discounting because the effective interest rate is zero. The government will not charge interest on income tax unless it is a past due amount resulting from filing a tax return. No tax return has been files for deferred taxes, thus, there is no interest expense. Debate 12-3 Income Tax Allocation The FASB requires comprehensive interperiod income tax allocation using the asset/liability approach. Some feel that there should be only partial interperiod income tax allocation. Others feel that there should not be any interperiod income tax allocation. Team 1: Present arguments favoring no allocation of income taxes We believe that it is inappropriate to give any accounting recognition to the tax effects of differences between accounting income and taxable income. A company should report the results of transactions and events. The difference between taxable income and accounting income is neither a transaction nor an event. Instead, the amount of income tax expense reported on a company’s income statement should be the same as the income taxes payable for the accounting period as determined by the income tax return. Thus, there should be no interperiod allocation of income taxes. Our position is buttressed by the following arguments. First, income taxes result only from taxable income. In so far as income tax is concerned, whether or not the company has accounting income is irrelevant. Hence, attempts to match income taxes with accounting income provide no relevant information for users of published financial statements. Moreover, income taxes are levied on total taxable income, not on individual items of revenue or expense. Therefore, there can be no temporary differences related to these individual items.
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