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Technology Stocks : AEHR - Semi Test Equipment related to auto chips
AEHR 26.01+3.6%Oct 31 9:30 AM EDT
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To: Elroy who wrote (12)7/10/2024 2:21:31 PM
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Deferred tax asset valuation allowance example

pro.bloombergtax.com

In this example, a company began operations in Year 1 and incurred an operating loss in Year 3. Because a net operating loss carryforward gives rise to a deferred tax asset, the question becomes the degree to which this deferred tax asset should be reduced by a valuation allowance (i.e., how much of the deferred tax asset is not considered realizable). The tax rate is 25% for all years and the only temporary differences are taxable temporary differences related to depreciable assets that are subjected to alternative deprecation rates for tax versus book purposes.

The following table shows the company’s pretax accounting income, along with a reconciliation of taxable income for each year. The actual taxes paid in each year are also shown.



The company performed an assessment as of the end of Year 3 and was unable to conclude that it would be profitable again in the future sufficient to ensure utilization of any of the loss carryforward that then existed (other than by offset against “reversals” of taxable temporary differences). If the positive evidence was deemed sufficient to conclude that the net operating loss was more likely than not to be realized, no valuation allowance would be needed.

The depreciation pattern results in a book/tax difference in the underlying basis of the depreciable assets, and accordingly produces taxable temporary differences (and corresponding deferred tax liabilities) as follows:



The net operating loss produces the following deferred tax asset, before considering any valuation allowance:



At the end of Year 3, the $1,200 deferred tax asset can be partially realized by an offset against $450 of deferred tax liabilities, but no more. Therefore, an allowance account of $750 ($1,200 – $450) must be established. By the end of Year 4, the valuation allowance would no longer be needed because the deferred tax liabilities ($625) are again more than the deferred tax assets ($500).











Deferred tax valuation allowance journal entry The bookkeeping implications of the preceding illustration are best understood in the context of the following summary journal entries for each year:



The final financial accounting outcomes from the above are summarized in the following table:




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