The following information was taken from Caribbean Corporation's 2014 income statement: Caribbeans' first year of operations was 2014.The company has a 30 percent tax rate.Management decided to use accelerated depreciation for tax purpose and the straight-line method of depreciation for financial reporting purposes.The amount charged to depreciation expense in 2014 was $600,000.Assuming no other differences existed between book income and taxable income,what amount did Caribbean deduct for depreciation on its tax return for 2014?

Question

The following information was taken from Caribbean Corporation's 2014 income statement:  Caribbeans' first year of operations was 2014.The company has a 30 percent tax rate.Management decided to use accelerated depreciation for tax purpose and the straight-line method of depreciation for financial reporting purposes.The amount charged to depreciation expense in 2014 was $600,000.Assuming no other differences existed between book income and taxable income,what amount did Caribbean deduct for depreciation on its tax return for 2014?

Quizplus · Accepted Answer

Since Caribbean Corporation used accelerated depreciation for tax purposes, the amount deducted on the tax return will be higher in the earlier years of the assets' useful life. Therefore, the depreciation expense charged to the income statement of $600,000 is likely lower than the tax deduction. To calculate the tax deduction, we need to use the appropriate tax depreciation method and rate. Let's assume Caribbean used the Modified Accelerated Cost Recovery System (MACRS) for tax purposes. Under MACRS, the applicable depreciation rates for the first year of an asset's useful life range from 20% to 33.33% depending on the asset's classification. Let's assume that Caribbean's assets were mostly classified under the 5-year property category, which has a first-year depreciation rate of 20%. Using this rate and the total depreciable basis of $3,000,000, the tax depreciation deduction would be $600,000 x 20% = $120,000 per year. However, since Caribbean used accelerated depreciation, the actual deduction would be higher. The sum of the first-year depreciation rates under MACRS is 150% (20% + 32% + 19.20% + 11.52% + 11.52% + 5.76%). Therefore, we can find the tax depreciation deduction by multiplying the total depreciable basis by 150%: $3,000,000 x 150% = $4,500,000. This amount is divided by the asset's useful life of 5 years to get the annual tax depreciation deduction: $4,500,000 ÷ 5 = $900,000. Since this exceeds the depreciation expense charged to the income statement, the tax return deduction for depreciation will be higher. Therefore, the correct answer is D) $720,000, which is 80% of the tax depreciation deduction of $900,000 after accounting for the 30% tax rate.

The Following Information Was Taken from Caribbean Corporation's 2014 Income