Why is the ending LIFO reserve used when calculating the Retained earning from LIFO to FIFO. e.g
if
LIFO Reserve at Jan. 1 40,000 LIFO Reserve at Dec. 31 60,000 Net Income (after 40% tax rate)
Retained earning under FIFO will increase by 6000*.6 = 36000? Why not the difference between LIFO Reserve (20K)?.
I would like to hear the answer for this too because, I don’t get how you get 60,000 * 0.6. Where is your calculation for the tax expense? I was going through this today but the book had only one example which stumped me so probably why the below is wrong but how do you not get 24,000.
Yikes, I did (20,000 (1-0.4) + 40,000 (1-0.4) = 12,000 + 24,000 = 36,000. Which should be just your tax expense. Then 60,000 - 36,000 = 24,000 (Ending lifo reserve minus the tax expense?)
The only way I see of getting 36000 is 40,000 (1-0.4) = 24,000 and then 60,000 - 24,000 = 36,000 but at that point no explanation for why we are ignoring the increase in reserves as that should represent an increase in profits.
Is there more to this question that I am missing or have a tied a noose around my neck here?
36,000 is the correct answer.
The reason is simple in the sense that Retained Earnings is a balance sheet account and is a combination of Net Income / Loss for all previous years and current year.
So at Jan 1, 2018 - Retained Earning difference would be 40,000 x (0.6) = 24,000
During 2018, reserve increases by 20,000 so your net income difference for tax purposes would be 20,000 x (0,6) = 12,000. This net income difference would flow to your Retained Earning at year end.
So in essence, total Retained Earning impact would simply be 60,000 x (0.6) = 36,000 at Dec 31, 2018 or 24,000 + 12,000 = 36,000.