Plaxo Corporation has a tax rate of 35% and uses the straight-line method of depreciation for its equipment,which has a useful life of four years.Tax legislation requires the company to depreciate its equipment using the following schedule: year 1- 50%,year 2 - 30%,year 3 - 15% and year 4 - 5%.In 2014 Plaxo purchases a piece of equipment with a four year life and an original cost of $100,000.What amount will Plaxo record as a deferred tax asset or liability in 2010?

Question

Quizplus · Accepted Answer

- In order to determine the deferred tax asset/liability, we need to compare the difference between the depreciation expense calculated using tax rules and the depreciation expense calculated using accounting rules.
- Using tax rules, the depreciation expense for the equipment would be as follows: 
    - Year 1: $50,000 (50% x $100,000)
    - Year 2: $30,000 (30% x $100,000)
    - Year 3: $15,000 (15% x $100,000)
    - Year 4: $5,000 (5% x $100,000)
- Using the straight-line method of depreciation, the depreciation expense for the equipment would be $25,000 per year ($100,000 / 4 years).
- The difference between these two amounts for each year is as follows: 
    - Year 1: $25,000 ($50,000 - $25,000)
    - Year 2: $5,000 ($30,000 - $25,000)
    - Year 3: ($5,000) ($15,000 - $25,000)
    - Year 4: ($15,000) ($5,000 - $20,000)
- To calculate the total deferred tax asset/liability, we sum up these amounts and multiply by the tax rate: 
    - Deferred tax liability = $25,000 x 35% = $8,750 
- Since the tax depreciation is higher than the book depreciation in the first three years, there is a deferred tax liability. Therefore, the answer is D) Deferred tax liability of $8,750.

Plaxo Corporation Has a Tax Rate of 35% and Uses