Question

Lower Texas, Inc. (LTI) took a tax position to treat $100,000 of income as tax-exempt. However, LTI is not certain that the treatment will be sustained. After analyzing the position, LTI determines that the there is a 40% chance that $80,000 will be treated as tax-exempt and a 75% chance that $40,000 will be treated as tax-exempt. Assuming a 35% tax rate, and if the more likely than not threshold is met, what is the uncertain tax liability associated with this position?

Answer 1

The uncertain tax liability associated with this position is -$20,000, which means it could potentially result in a tax benefit of $20,000. The calculation is done by multiplying the probability of each outcome by the corresponding amount of income treated as tax-exempt and then subtracting the amount that would be taxed at the marginal tax rate.

Step-by-step explanation:

In this case, the uncertain tax liability associated with the tax position can be calculated by multiplying the probability of each outcome by the corresponding amount of income treated as tax-exempt and then subtracting the amount that would be taxed at the marginal tax rate. Let's break it down step-by-step:

1. Calculate the amount of income that would be taxed at the marginal tax rate: $100,000 - $80,000 - $40,000 = $20,000
2. Calculate the tax liability for each outcome:
3. Calculate the uncertain tax liability by subtracting the amount taxed at the marginal tax rate from the total tax liability: $0 - $20,000 = $-20,000

Therefore, the uncertain tax liability associated with this position is -$20,000. This means that it could potentially result in a tax benefit of $20,000 if the tax position is sustained.