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Reconciling Pretax Income and Taxable Income

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19-2 (One Temporary Difference, Tracked for 4 Years, One Permanent Difference, Change in Rate)
The pretax financial income of Parker-Gregory Company differs from its taxable income throughout each
of 4 years as follows.
Pretax Taxable
Year Financial Income Income Tax Rate
2007 280,000.00 180,000.00 35%
2008 320,000.00 225,000.00 40%
2009 350,000.00 270,000.00 40%
2010 420,000.00 580,000.00 40%

Pretax financial income for each year includes a nondeductible expense of $30,000 (never deductible for
tax purposes). The remainder of the difference between pretax financial income and taxable income in
each period is due to one depreciation temporary difference. No deferred income taxes existed at the
beginning of 2007.

Instructions
(a) Prepare journal entries to record income taxes in all 4 years. Assume that the change in the tax
rate to 40% was not enacted until the beginning of 2008.
(b) Prepare the income statement for 2008, beginning with income before income taxes.

--------------------------

P19-7 (One Temporary Difference, Tracked 3 Years, Change in Rates, Income Statement Presentation)
Gators Corp. sold an investment on an installment basis. The total gain of $60,000 was reported for financial
reporting purposes in the period of sale. The company qualifies to use the installment sales method for
tax purposes. The installment period is 3 years; one-third of the sale price is collected in the period of
sale. The tax rate was 35% in 2006, and 30% in 2007 and 2008. The 30% tax rate was not enacted in law
until 2007. The accounting and tax data for the 3 years is shown below.

Financial Tax
Accounting Return
2006 (35% tax rate)

Income before temporary difference 70,000.00 70,000.00
Temporary difference 60,000.00 20,000.00

Income 130,000.00 90,000.00

2007 (30% tax rate)

Income before temporary difference 70,000.00 70,000.00
Temporary difference 0 20,000.00

Income 70,000.00 90,000.00

2008 (30% tax rate)

Income before temporary difference 70,000.00 70,000.00
Temporary difference 0 20,000.00

Income 70,000.00 90,000.00

Instructions
(a) Prepare the journal entries to record the income tax expense, deferred income taxes, and the income
tax payable at the end of each year. No deferred income taxes existed at the beginning of 2006.
(b) Explain how the deferred taxes will appear on the balance sheet at the end of each year. (Assume
the Installment Accounts Receivable is classified as a current asset.)
(c) Draft the income tax expense section of the income statement for each year, beginning with
"Income before income taxes."

See attached for fully-formatted data tables.

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The solution provides an Excel spreadsheet that answers these questions on one temporary difference, tracked for 4 years, one permanent difference and change in rate.

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