50.1K

Verified Solution

Link Copied!

The Bear Inc. (the Company) is a manufacturer and distributor of hunting gear. The Company has manufacturing operations and sales and administrative locations in the United States. The Bear files a consolidated U.S. federal tax return.

You are auditing the Companys year-end financials for the fiscal year ended December 31, 2018, and have the following information:

The Tax Cuts and Jobs Act (the Act) was enacted on December 22, 2017, and was accounted for accordingly by the Company. The Act changed the rules related to tax loss carryforwards such that tax loss carryforwards arising in years after 2017 have an unlimited carryforward period though they may only be used to offset 80% of taxable income in a given year. Further, the Act removed the carryback period that had previously been allowed.

The Bears draft income statement and tax footnote as of December 31, 2018:

(million $s)	2018	2017	2016
Revenues	2,000	1,900	1,800
COGS	1,400	1,250	1,200
Gross Profit	600	650	600
SG&A	500	500	400
Goodwill impairment	750	-	-
Operating income	(650)	150	200
Interest expense	50	50	50
Income before income taxes	(700)	100	150
Income taxes	??	36	54
Net income	??	64	96
Deferred income tax asset accounts
Allowance for doubtful accounts	30	25
Accruals due to trade payables	20	25
Deferred income tax liability accounts
Depreciation	15	20
Prepaid expenses	35	20
Valuation allowance	??	0
Net deferred tax asset (liability)	??	10

The Company had $475 million of net operating loss carryforwards. A deferred tax asset realization analysis and projections are shown below:

(million $s)	Pretax Book Income	Goodwill impairment*
2016 (Actual)	150
2017 (Actual)	100
2018 (Actual)	(700)	750
2019	0
2020	40
2021	80
2022	85
2023	90
2024	95
2025	100
2026	105
2027	110

* Goodwill impairment is a permanent difference and nondeductible for tax purposes.

A customer declared bankruptcy in 2018. The Company wrote off all accounts receivable from this customer.

The Company does not have a history of operating losses or tax loss carryforwards expiring unused.

Interpretation Questions (i.e., present your most educated opinions. There may not be a single correct answer. I will grade based on your critical thinking and presentation)

1) In your opinion, which deferred income tax asset and liability accounts in the tax footnote are likely to reverse faster?

Questions (2) to (5) ask your assessment regarding future income projections and thus a need for valuation allowance for deferred tax assets arising from tax loss carryforwards.

2) Based on the companys projections, do you think a valuation allowance is warranted?

3) The Company has projected growth. Does the evidence of historic losses affect our ability to accept the Companys growth projections?

4) Can the Company exclude the impact of the impairment of goodwill in its growth projections?

5) Can the Company exclude the expense from writing off the accounts receivable in its growth projections?

Answer & Explanation Solved by verified expert

See Answer