Question

Maui Resort Inc. determined that the balance in its deferred tax asset account on December 31, 2020, was $50,000. Management reviewed all available positive and negative evidence to estimate that 30% of the deferred tax asset was more likely than not to be realized. The valuation allowance for deferred tax assets has a December 31, 2020, unadjusted balance of $4,000 (credit).

Required:
Record the entry to adjust the allowance on December 31, 2020.

Answer 1

Maui Resort Inc. must adjust its valuation allowance to $35,000 for non-realizable deferred tax assets, an increase of $31,000 from the existing $4,000 balance, resulting in a debit to the allowance account and a credit to income tax benefit.

Step-by-step explanation:

Maui Resort Inc. needs to adjust its valuation allowance for deferred tax assets based on the anticipated realizability of those assets. The initial deferred tax asset is $50,000, and management estimates 30% is likely to be realized. This implies that 70% is not likely to be realized, which is $35,000 (70% of $50,000). The current valuation allowance has a credit balance of $4,000, so we need to adjust this balance to match the un-realizable portion of the deferred tax asset.

To calculate the necessary adjustment to the valuation allowance, subtract the existing allowance balance from the estimated unrealizable deferred tax asset:

$35,000 (unrealizable portion) - $4,000 (existing valuation allowance) = $31,000 (needed adjustment)

The journal entry to record this adjustment is:

• Debit: Deferred Tax Asset Valuation Allowance $31,000

• Credit: Income Tax Benefit $31,000

By recording this entry, Maui Resort Inc. is ensuring that its financial statements provide a realistic view of the potential future tax benefits.

Answer 2

Maui Resort Inc.

Journal Entry:

December 31, 2020:

Debit Loss from Unrealizable DTA $31,000

Credit Allowance for Unrealizable DTA $31,000

To record the loss from unrealizable DTA and increase the balance to $35,000 (credit).

Step-by-step explanation:

a) Data and Calculations:

December 31, 2020 Deferred Tax Asset (DTA) = $50,000

Estimate of realizable DTA = 30% of $50,000 = $15,000

Allowance for unrealizable DTA for 2020 = 70% of $50,000 = $35,000

Loss from unrealizable DTA = $31,000 ($35,000 - $5,000)

b) Like the Allowance for Doubtful Accounts, the DTA Valuation Allowance is a contra-account to the Deferred Tax asset Account. It shows the amount of the deferred tax asset with a more than 50% probability of being lost or unutilized in the future as a result of the non-availability of sufficient future taxable income.