Question 2: (29 Marks)

The following information is taken from the financial statements and audit working papers of Sales Inc. (SI) for its fiscal year ended December 31, 2019.

Sales Inc.

Condensed Unaudited Income Statement

For the Year Ended December 31, 2019

Sales $16,650,000

Cost of goods sold (14,050,000)

Gross profit $ 2,600,000

Selling expenses $975,000

General and administrative expenses 195,000 (1,170,000)

Net income before provision for income taxes $ 1,430,000

Provision for income taxes current $220,000

future 310,000 (530,000)

Net income after tax $ 900,000

The following items were deducted in arriving at the above net income:

1. During the year, a warehouse worker managed to remove valuable inventory worth $8,000 during the night shift by taking it out in his lunch box.

2. Late in the year, it became apparent that during the next year new competitive products would come on the market which would drive the price of SIs products down. They expect this decline to take place in about six months. As a result, they decided to set up a reserve for a decline in the inventory value in the amount of $17,000. They have never set up this kind of reserve before.

3. Because SIs products come back for repair under their warranty program, they set up a reserve for this expense on their financial statements. Last year the reserve was $76,000. This year they increased the reserve to $97,000.

4. Charitable donations were made in the amount of $9,000.

5. Golf club membership fees in the amount of $2,600 were paid for the sales manager who used the club regularly to close sales.

6. The sales manager incurred expenses related to meals and entertainment at the golf club in the amount of $2,300.

7. Management bonuses of $96,000 were accrued at December 31, 2019 ($35,000 was not paid until July 10, 2020 due to lack of sufficient funds).

8. The December holiday banquet for the employees cost $15,000.

9. SI had a dispute with one of its major suppliers over the use of the supplier's product. As a result of a court decision, the supplier was awarded damages for breach of contract in the amount of $38,000.

10. In order to raise money for expansion, the company mortgaged the real estate it used in the business. It incurred accounting fees of $5,000 related to this financing. The mortgage has a 10-year term and a 30-year amortization period.

11. A number of years ago, the company issued a bond at a discount. They have been amortizing this discount at the rate of $7,000 per year ever since, including this year.

12. During the year, the company bought the land for the future expension. In completing this transaction, legal fees of $8,500 were incurred.

13. During the year, the company borrowed some money from the bank to buy new equipment. The interest expense related to this was $23,000.

14. Instead of borrowing more money at the bank, the company decided to pay their income tax instalments late. This resulted in an interest charge from the Canada Revenue Agency in the amount of $390.

15. A life insurance policy was taken out on the president's life in order to provide funding for the company in the event of his death. Life insurance premiums on this policy amounted to $4,600. During the first six months of 2019, this policy was offered as a colletral to the bank.

16. Business interruption insurance premiums of $3,300 were paid to protect the company in the event a fire forced them to close for a period of time.

17. Computer application software costing $750 related to word processing was expensed because they always bought the upgrades each year.

18. Amortization expense on the fixed assets was $86,000. 6 An examination of the capital cost allowance schedule for 2019 provided the following opening balances for the undepreciated capital cost for each class of SI's assets:

Class 3 building ................................................... $198,297

Class 8 office furniture and equipment.............. 60,000

Class 10 trucks for transportation of goods ......... 80,000

Class 12 small tools............................................... 5,000

Class 13 leasehold improvements........................ 187,500

Class 44 Patent and rights limited life .................. 90,000

The following additional information was found in the 2019 fixed asset schedules working paper files.

1. The building which cost $997,426 in 1987 was sold for $150,000. It was the only building in Class 3 at the time of its sale. A new building was purchased (non residential) in April 2019 for $750,000. Also, in February 2019 a lot adjacent to the new building, was purchased for $100,000 for use as a parking lot by employees and visitors. A fence was erected around an outside storage area near the new building at a cost of $40,000.

2. New office furniture was purchased for $20,000. This purchase replaced old assets which were sold for $5,000. None of the old assets was sold for more than capital cost.

3. Three small trucks purchased in 2014 for $12,000 each were traded in for three new trucks. Each new truck was priced at $15,000, but this was reduced by a trade-in credit of $2,500 for each old truck.

4. Some small tools were sold for a total of $7,000. All of these tools were sold at a price less than their capital cost.

5. Leasehold improvements had been made to a leased warehouse at a cost of $225,000 in 2017. The remaining length of the lease in that year was six years with two successive renewal options of three years each. Further leasehold improvements were made to this warehouse in 2019 at a cost of $21,000.

6. On January 1, 2019, an unlimited life franchise was purchased for $48,000.

7. Accounting gains and losses on the above asset sales netted to nil. Required: Based on the foregoing information, compute the minimum income from business for tax purposes for Sales Inc. in respect of its 2019 fiscal year

Required: Based on the foregoing information, compute the minimum income from business for tax purposes for Sales Inc. in respect of its 2019 fiscal year.