On January 1, 2012, Piper Co., purchased a machine (its only depreciable asset) for $600,000. The machine has a five-year life, and no salvage value. Sum-of-the-years'-digits depreciation has been used for financial statement reporting and the elective straight-line method for income tax reporting. Effective January 1, 2015, for financial statement reporting, Piper decided to change to the straight-line method for depreciation of the machine. Assume that Piper can justify the change.Piper's income before depreciation, before income taxes, and before the cumulative effect of the accounting change (if any), for the year ended December 31, 2015, is $500,000. The income tax rate for 2015, as well as for the years 2012-2014, is 30%. What amount should Piper report as net income for the year ended December 31, 2015?
A) $120,000
B) $182,000
C) $308,000
D) $350,000

Question

Quizplus · Accepted Answer

Under the sum-of-the-years'-digits method, the depreciable cost of the machine is:

Year 1: [5/(5+4+3+2+1)] × $600,000 = $166,667
Year 2: [4/(5+4+3+2+1)] × $600,000 = $133,333
Year 3: [3/(5+4+3+2+1)] × $600,000 = $100,000
Year 4: [2/(5+4+3+2+1)] × $600,000 = $66,667
Year 5: [1/(5+4+3+2+1)] × $600,000 = $33,333

Total depreciable cost = $500,000
Depreciation expense for each of 2012, 2013, and 2014 = $166,667 + $133,333 + $100,000 = $400,000
Accumulated depreciation at January 1, 2015 = 3 × $400,000 = $1,200,000

Under the straight-line method, the annual depreciation expense is:

($600,000 - $0) ÷ 5 = $120,000

Depreciation expense for 2015 = $120,000
Depreciation expense for 2012-2014 under the straight-line method = ($600,000 - $0) ÷ 5 × 3 = $360,000
Accumulated depreciation at December 31, 2015 under the straight-line method = $360,000 + $120,000 = $480,000

The net book value of the machine at December 31, 2015, under the straight-line method, is:
$600,000 - $480,000 = $120,000

For tax purposes, the depreciable cost is $600,000, and the annual depreciation expense is:
($600,000 - $0) ÷ 5 = $120,000

Income before income taxes and the cumulative effect of the accounting change is $500,000. The income tax expense is calculated as follows:

Income before income taxes $500,000
Depreciation expense (sum-of-the-years'-digits, 2015) $100,000
Depreciation expense (straight-line, 2015) $120,000
Depreciation expense (straight-line, 2012-2014) $120,000
Taxable income $160,000
Income tax expense (30%) $48,000

The cumulative effect of the accounting change is the difference between the balance of accumulated depreciation before the change ($1,200,000) and the balance of accumulated depreciation after the change ($480,000), or $720,000. This amount is not taxable.

Net income is calculated as follows:

Income before income taxes $500,000
Add: Cumulative effect of the accounting change $0
Income before income taxes and the cumulative effect of the accounting change $500,000
Less: Income tax expense $48,000
Net income $452,000

Therefore, the correct choice is C.