In the current year, 2008, Reality Corporation reported ($200,000) of pre-tax earnings on its income statement. The

Question:

In the current year, 2008, Reality Corporation reported $$200,000$ of pre-tax earnings on its income statement. The corporate tax rate is 40% in the current year and next year, and it is scheduled to remain at this level for the foreseeable future. Additional information relevant to figuring taxes is as follows:

1. Reality acquired $$500,000$ of machinery in 2007. The machinery is being depreciated on a straight-line basis over five years (zero salvage) for accounting purposes and MACRS for tax purposes. A comparison of depreciation charges under these two methods is as follows:

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. Investment income from a 30% ownership of an investee company carried under the equity method is shown on the income statement as $$80,000$. The investee paid $$30,000$ in dividends to Reality in the current year. The remaining undistributed earnings total for 2008 is expected to be received in equal amounts over the next two years in the form of dividends. All dividends are subject to the 80% dividend exclusion rule.
. During the year, Reality recognized $$4,000$ of rental income that had been collected and taxed in 2007. In addition, $$10,000$ of rent revenue was received in advance in the current year. This amount was deferred for accounting purposes and will be recognized as income in 2009.
. Reality received $$5,000$ of interest on State of North Carolina bonds in the current year that is included in pre-tax income.
. Reality sold land in the current year for $$50,000$ that had a $$20,000$ book value and tax basis. The entire gain (not considered extraordinary) was recognized for accounting purposes in 2008. However, because collections are to be received in three equal installments, Reality elected to use the installment sales method for tax purposes and picked up one-third of the gain on its tax return in 2008. The remaining amount of the gain will be recognized equally in 2009 and 2010.
. Reality provided for future product warranty costs in the amount of $$50,000$ in the current year for book purposes. For tax purposes, such costs are deductible when paid. Actual warranty costs paid in 2008 were $$15,000$. It is expected that the remainder of the accrued warranty costs will be paid in 2009.
. Included in pre-tax accounting income is a deduction for $$3,000$ for insurance premiums paid on Mr. Reality’s life.
. Reality made charges to bad debts expense in the current year of $$15,000$. The beginning balance in the Allowance for bad debts account was $$12,000$, and $$6,000$ of accounts was written off in the current year. It is expected that the 2008 year-end balance in the allowance account will be written off in 2009.
. Reality has a $$10,000$ operating loss carryforward that can be used to offset the current period's taxable income.
The balance in the deferred tax asset (liability) account was $$40,000$ ($50,000) at the beginning of 2008.
11. It is estimated to be more likely than not that 20% of the deferred tax asset at the end of 2008 will not be realized.

image text in transcribed Required:
1. Starting with pre-tax accounting income, compute taxable income and taxes payable for 2008. Clearly label all amounts used in arriving at taxable income.
2. Using the following schedule, compute the change in the deferred tax asset (liability) account for 2008. The depreciation temporary difference has been completed as an example.