Glossary—Chapter 19
alternative minimum tax (AMT) Designed by the IRS to curb excessive tax avoidance, this provision allows companies to compute their potential tax liability under the AMT, adjusting for various preference items that reduce their tax bills under the regular tax code (e.g., accelerated depreciation methods). Companies must then pay the higher of the two tax obligations computed under the AMT and the regular tax code. (p. 1005).
asset-liability method Method of accounting for income taxes. Sometimes referred to as the liability approach. Companies recognize on the current-year return a current tax liability/asset for the estimated taxes payable/refundable, and they recognize a deferred tax liability/asset for estimated future tax effects due to temporary differences and tax carryforwards. The measurement of current/deferred tax liabilities/assets is based on provisions of the tax law. Companies establish a valuation allowance account if it is more likely than not that some/all of the deferred tax asset will not be realized. (p. 1017).
average tax rate An average of the graduated rates at which the IRS taxes U.S. corporations. The first $50,000 of taxable income at 15 percent, the next $25,000 at 25 percent, with higher incremental levels of income at rates as high as 39 percent. (p. 1004).
current tax benefit (expense) The amount of income taxes refundable (payable/paid) for a year, as determined by applying the enacted tax rate to the taxable income or excess of deductions over revenues for the year. (pp. 995, 1008).
deductible amounts A temporary difference between the tax basis of an asset/liability and its reported (carrying or book) amount in the financial statements that will decrease taxable income in future years. (p. 994).
deductible temporary difference Temporary differences that will result in deductible amounts in future years, when the related book liabilities are settled. They give rise to recording deferred tax assets. Examples are: (1) expenses or losses that are deductible after they are recognized in financial income, and (2) revenues or gains that are taxable before they are recognized in financial income. (p. 1001).
deferred tax asset The increase in taxes refundable (or saved) in future years as a result of deductible temporary differences existing at the end of the current year. (p. 997).
deferred tax expense (benefit) The change during the year in a company’s deferred tax liabilities and assets. A deferred tax expense results from the increase in the deferred tax liability from the beginning to the end of the accounting period. A deferred tax benefit results from the increase in the deferred tax asset from the beginning to the end of the accounting period; it reduces income tax expense. (pp. 995, 998).
deferred tax liability The increase in taxes payable in future years as a result of taxable temporary differences existing at the end of the current year. (p. 994).
effective tax rate The tax rate a company actually pays, computed as total income tax expense for the period divided by pretax financial income. It differs from the enacted tax rate because of deductions and provisions allowed by the tax code. (p. 1004).
enacted tax rate The tax rate, passed by Congress, that is expected to apply to future periods. When determining the tax rate to apply to existing temporary differences, a company must consider presently enacted changes in the tax rate that become effective for a particular future year(s). (p. 1004).
Income Tax Refund Receivable The account to which a company records a tax benefit. The company reports this account on the balance sheet as a current asset and reports it on the income statement as an income tax benefit. (p. 1007).
loss carryback An income-averaging provision in the U.S. tax code that enables companies to carry a net operating loss back two years and receive refunds for income taxes paid in those years. A company must apply the loss to the earlier year first and then to the second year. (p. 1006).
loss carryforward An income-averaging provision in the U.S. tax code that enables companies to carry forward any loss remaining after a two-year carryback up to 20 years to offset future taxable income. Or, a company may forgo the loss carryback and use only the loss carryforward option, offsetting future taxable income for up to 20 years. (p. 1006).
more likely than not A level of likelihood of at least slightly more than 50 percent. This measure is used in connection with a deferred tax asset for all deductible temporary differences. If it is more likely than not that a company will not realize some portion of the deferred tax asset, the company should reduce the deferred tax asset by a valuation allowance. (p. 999).
net current amount The difference between the amounts of deferred tax assets and deferred tax liabilities that are classified as current. If the net result is an asset, report it on the balance sheet as a current asset; if a liability, report it as a current liability. (p. 1012).
net noncurrent amount The difference between the amounts of deferred tax assets and deferred tax liabilities that are classified as noncurrent. If the net result is an asset, report it on the balance sheet as a noncurrent asset; if a liability, report it as a noncurrent liability. (p. 1012).
net operating loss (NOL) A loss that occurs for tax purposes in a year when tax-deductible expenses exceed taxable revenues. Under certain circumstances, the federal tax laws permit companies to use the losses of one year to offset the profits of other years, through use of the carryback and carryforward of net operating losses. (p. 1006).
originating temporary difference The initial difference between the book basis and the tax basis of an asset/liability, regardless of whether the tax basis of the asset/liability exceeds or is exceeded by the book basis of the asset or liability. An originating temporary difference may be changed by a later reversing difference, which results in deferred tax expense. (p. 1002).
permanent difference A difference between taxable income and pretax financial income that results from items that enter into pretax financial income but never into taxable income, or that enter into taxable income but never into pretax financial income. (p. 1002).
Glossary, Chapter 19 (cont’d.)
pretax financial income A financial reporting term, determined according to GAAP and with the purpose of providing useful information to investors and creditors. Also often referred to as income before taxes, income for financial reporting purposes, or income for book purposes. Pretax financial income is not the same as taxable income, which is income calculated for tax purposes and determined according to the U.S. tax code. The main difference is that companies use the accrual method to report revenues for financial reporting and they use a modified cash basis to report revenues for tax purposes. (p. 992).
reversing difference The elimination of a temporary difference that originated in prior periods and removal of the related tax effect from the deferred tax account. (p. 1002).
taxable amounts A temporary difference between the tax basis of an asset/liability and its reported (carrying or book) amount in the financial statements that will increase taxable income in future years. (p. 994).
taxable income Income for tax purposes, determined according to the Internal Revenue Code (the tax code). It is measured as the excess of taxable revenues over tax-deductible expenses and exemptions for the year. (p. 992).
taxable temporary difference Temporary differences that will result in taxable amounts in future years. They give rise to recording deferred tax liabilities. Examples are: (1) revenues or gains that are taxable after they are recognized in financial income, and (2) expenses or losses that are deductible before they are recognized in financial income. (p. 1001).
tax effect (tax benefit) The result, for accounting as well as tax purposes, of a loss carryback. When a company recognizes a tax loss that gives rise to a tax refund, the company should recognize the associated tax benefit by reporting it as a current asset on the balance sheet and as a benefit due to loss carryback on the income statement. (p. 1007).
temporary difference The difference between the amounts reported for tax purposes and the book (carrying) amounts reported in the financial statements. The temporary difference will result in taxable amounts or deductible amounts in future years. Taxable amounts increase taxable income in future years; deductible amounts decrease taxable income in future years. (p. 993).
uncertain tax positions Tax positions for which the tax authorities may disallow in whole or in part, often the result of an aggressive approach in tax planning. (p. 1016).
valuation allowance An amount by which a company should reduce the valuation of a deferred tax asset if it is more likely than not that the company will not realize some portion of the deferred tax asset. (p. 999).