U.S. income tax law permits some assets to be depreciated using an accelerated method during the early years of an asset’s life. In later years, a switch to the straight-line depreciation method is allowed if it produces more favorable tax results. (More favorable tax results occur when application of the straight-line method to the remaining book value of the asset produces a depreciation amount greater than that scheduled to be taken under the usual double declining- balance method.) Pandora Company purchased equipment on March 1, 2004, at a cost of $2,100,000. The equipment was depreciated for a full year in 2004. It was expected to have a useful life of six years and no residual value.

Required

A. Prepare a schedule that shows the amount of depreciation that Pandora Company would take on the asset each year for tax purposes if it applied the usual double-declining- balance method over the asset’s six-year life.

B. Prepare a similar schedule using the modified double-declining-balance method described above.

C. Show how the cash flow for taxes paid would differ under the straight-line method and the modified double-declining-balance method over the six-year period. The tax rate is 35%.

D. Summarize how the choice of a depreciation method affects cash flows for taxes.