California Surplus Inc.

California Surplus Inc. qualifies to use the installment-sales method for tax purposes and sold an investment on an installment basis. The total gain of $75000 was reported for financial reporting purposes in the period of sale. The installment period is 3 years; one-third of the sale price is collected in 2012 and the rest in 2013. The tax rate was 35% in 2012, 30% in 2013, and 30% in 2014. The accounting and tax data are shown below.

Financial Accounting Tax Return

2012 (35% tax rate)

Income before temporary difference $ 175,000 $ 175,000

Temporary difference $ 75,000 $ 25,000

Income $ 250,000 $ 200,000

2013 (30% tax rate)

Income before temporary difference $ 200,000 $ 200,000

Temporary difference $ - $ 25,000

Income $ 200,000 $ 225,000

2014 (30% tax rate)

Income before temporary difference $ 180,000 $ 180,000

Temporary difference $ - $ 25,000

Income $ 180,000 $ 205,000

Prepare the journal entries to record the income tax expense, deferred income taxes, and the income taxes payable for 2012, 2013, and 2014. No deferred income taxes existed at the beginning of 2012.

Explain how the deferred taxes will appear on the balance sheet at the end of each year. (Assume Installment Accounts Receivable is classified as a current asset.)

Show the income tax expense section of the income statement for each year, beginning with “Income before income taxes.”

Answer:

1) Before deferred taxes can be computed, the amount of cumulative temporary difference existing at the end of each year must be computed:

2012 2013 2014

Pretax financial income $...