What Are Deferred Income Taxes?
Hurst Inc. is a new corporation that has just completed a highly successful first year of operations. Hurst is a privately held corporation, but its president, Byron Hurst, has indicated that if the company continues to do as well for the next four or five years, it will go public. By all indications, the company should continue to be highly profitable on both a short term and a long term basis. The controller of the new company, Lori James, plans on using the MACRS method of depreciating Hurst’s assets and using the installment sales method of recognizing income for tax purposes. For financial statement presentation, straight line depreciation will be used, and all sales will be fully recognized in the year of sale. There are no other differences between book and taxable income. Hurst has hired your firm to prepare its financial statements. You are now preparing the income statement. The controller wants to show, as income tax expense, the amount of the tax liability actually due. “After all,” James reasons, “that’s the amount we’ll actually pay, and in light of our plans for continued expansion, it’s highly unlikely that the temporary differences will ever reverse.” Draft a memo to the controller outlining your reaction to the plan. Give reasons in support of your decision.