Aaron Engines Ltd operates small engine repair outlets and is
Aaron Engines Ltd. operates small engine repair outlets and is a tenant in several of Tran Holdings Inc.'s strip shopping malls. Aaron signed several lease renewals with Tran that each called for a three-month rent-free period. The leases start at various dates and are for three to five years each. As with all of Tran's tenants, Aaron pays rent quarterly, three months in advance, and records the payments initially to Prepaid Rent.
The rent-free period obtained in the lease agreement with Tran Holdings Inc. reduces the overall rental costs of the outlets over the term of each lease. Aaron's accounting policy requires the leasing costs of each outlet to be allocated evenly over the term of the lease to fairly match expenses with revenues. Aaron accrues rent expense during the rent-free period to an account called Rent Payable. Following the rent-free period, the Rent Payable account is amortized to Rent Expense over the remaining term of the lease. For tax purposes, Aaron must use the cash basis and is unable to deduct the rent expense accrued during the rent-free periods. On its tax return, Aaron can only deduct the actual rent payments when they are made.
The balances for the accounts related to prepaid rent and rent payable under leases as well as payments for interest to earn tax-exempt income and payments for golf club dues for the years ending December 31, 2013 and 2012, follow:
In 2012, Aaron’s tax rate is 43%, and it is 42% for subsequent years. Income before income tax for the year ended December 31, 2012, was $884,000. During 2013, Aaron’s tax rate changed to 44% for 2013 and subsequent years. Income before income tax for the year ended December 31, 2013, was $997,000.
(a) Calculate the future income tax asset or liability balances at December 31, 2012 and 2013.
(b) Calculate taxable income and income taxes payable for 2012 and 2013.
(c) Prepare the journal entries to record income taxes for 2012 and 2013.
(d) Prepare a comparative income statement for 2012 and 2013, beginning with the line “Income before income taxes.”
(e) Provide the comparative balance sheet presentation for any resulting future tax balance sheet accounts at December 31, 2012 and 2013. Be specific about the classification.
(f) Calculate the effective rate of tax for 2013. Provide a reconciliation and explanation of why this differs from the statutory rate of 44%. Begin the reconciliation with the statutory rate.
(g) Repeat the balance sheet presentation in part (e) assuming Aaron follows IFRS.
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