Question

Exercise 14-21 ( LO. 1,4)

Mini, Inc., earns pretax book net income of $750,000 in 2021, its first year of operations. Mini recognized $20,000 in bad debt expense for book purposes. This expense is not yet deductible for tax purposes.
Mini reports $800,000 of pretax book net income in 2022. Mini did not recognize any bad debt expense for book purposes in 2022 but did deduct $15,000 in bad debt expense for tax purposes. Mini reports no other temporary or permanent book-tax differences. The applicable U.S. Federal corporate income tax rate is 21%, and Mini earns an after-tax rate of return on capital of 4%.
Enter below the 2022 end-of-year balance in Mini's deferred tax benefit or expense and total tax benefit or expense. If an amount is zero, enter " 0 ". If required, round your answers to the nearest dollar.
c. In net present value terms, what has been the cost to Mini of the deferred tax deduction for bad debts? The present value factor at 8% is 0.9615. X

Answer 1

Mini's 2022 end-of-year deferred tax asset balance is $1,050, and the net present value cost of the deferred $5,000 tax deduction for bad debts is $4,807.50 using an 8% discount rate.

Step-by-step explanation:

The question pertains to calculating the end-of-year balance in Mini's deferred tax benefit or expense and total tax benefit or expense for 2022, and the net present value cost of the deferred tax deduction for bad debts. In 2021, Mini recognized a $20,000 bad debt expense for book purposes which was not deductible for tax purposes. In 2022, Mini deducted $15,000 in bad debt expense for tax purposes, although it didn't recognize any bad debt expense for book purposes. There are no other temporary or permanent book-tax differences noted.

To calculate the 2022 end-of-year balance in Mini's deferred tax benefit, we would adjust for the $20,000 that was recognized in 2021 but not deductible until 2022 and consider the $15,000 deduction taken in 2022. With a tax rate of 21%, the deferred tax asset created at the end of 2021 would be $4,200 (21% of $20,000). Then, when $15,000 of the bad debt expense is deductible in 2022, this would lead to a tax benefit of $3,150 (21% of $15,000). The remaining balance of the deferred tax asset would be $1,050 ($4,200 - $3,150) at the end of 2022.

The net present value (NPV) cost of the deferred tax deduction for bad debts requires the calculation of the future tax savings in today's dollars. The NPV of the deferred $5,000 ($20,000 - $15,000) tax deduction is $5,000 multiplied by the present value factor at 8%, which is 0.9615. Therefore, the NPV cost is $4,807.50 ($5,000 ×0.9615).

Answer 2

In 2022, Mini's deferred tax expense for bad debts is $3,150 and the total tax expense is $164,850.

Step-by-step explanation:

To calculate the end-of-year balance in Mini's deferred tax benefit or expense for 2022, we need to consider the bad debt expense recognized for tax purposes and book purposes. In 2022, Mini deducted $15,000 in bad debt expense for tax purposes, which reduces its taxable income.

However, Mini did not recognize any bad debt expense for book purposes in 2022. This creates a temporary difference between the book and tax bases of bad debt expense.

The taxable temporary difference is $15,000 (tax deduction for bad debt expense) - $0 (book recognition of bad debt expense) = $15,000. Considering a tax rate of 21%, the deferred tax expense is $15,000 × 21% = $3,150.

As for the total tax benefit or expense in 2022, we can calculate it using the taxable income and the applicable tax rate. The taxable income is $800,000 - $15,000 = $785,000. The total tax expense is $785,000 × 21% = $164,850.