Notes to the Year 2 financial statements of Care Corporation indicate that income tax expense of $3,000 comprises $2,000 currently payable taxes and $1,000 deferred to future periods.Care Corporation made the following entry during Year 2 to recognize income tax expense:
Income Tax Expense ..............3,000
Income Tax Payable ........................2,000
Deferred Income Taxes Payable ...............1,000

The $1,000 of deferred income taxes reduced net income but did not require a cash outflow during Year 2.To explain the change in the Deferred Income Taxes account, the T-account work sheet must.
A)subtract deferred income taxes from net income to derive cash flow from operations.
B)add back deferred income taxes to net income to derive cash flow from operations.
C)add back deferred income taxes to net income to derive cash flow from financing.
D)subtract deferred income taxes from net income to derive cash flow from financing.
E)add back deferred income taxes to net income to derive cash flow from investing.

Question

Notes to the Year 2 financial statements of Care Corporation indicate that income tax expense of $3,000 comprises $2,000 currently payable taxes and $1,000 deferred to future periods.Care Corporation made the following entry during Year 2 to recognize income tax expense: 
Income Tax Expense ..............3,000
Income Tax Payable ........................2,000
Deferred Income Taxes Payable ...............1,000

The $1,000 of deferred income taxes reduced net income but did not require a cash outflow during Year 2.To explain the change in the Deferred Income Taxes account, the T-account work sheet must.
A)subtract deferred income taxes from net income to derive cash flow from operations.
B)add back deferred income taxes to net income to derive cash flow from operations.
C)add back deferred income taxes to net income to derive cash flow from financing.
D)subtract deferred income taxes from net income to derive cash flow from financing.
E)add back deferred income taxes to net income to derive cash flow from investing.

Quizplus · Accepted Answer

Deferred income taxes represent a timing difference between taxable income and accounting income. It is a non-cash item and does not affect cash flows from operations, financing, or investing activities. Therefore, we need to add back the deferred income taxes to net income to derive cash flow from operations. Option B is correct because it adds back the $1,000 of deferred income taxes to the net income of $3,000 to derive the cash flow from operations of $4,000.

Notes to the Year 2 Financial Statements of Care Corporation