Income Tax Benefit vs. Income Tax Expense

CFA Level I FRA
#1

This question is from Reading: Taxes | Curr. 3 | Page 559 | Q20.

I really don’t understand how to calculate Net Income in this example when there is an income tax benefit and income tax expense involved.

Earnings before Income Tax - Tax Expense = Net Income; Now we are given that tax benefit was $112K at a tax rate of 34%. I’d then equate:

Therefore, 34% * Earnings before Income Tax = - $112K

Therefore, EBT = -$329412

However, I don’t quite understand why curriculum adds income tax expense = 227K. Where did this expense come from? And how is this different from the benefit the firm earned?

Can someone please help me? I am really lost…

#2

EBT minus Income Tax Expense = Net Income

You derived EBT as ($329). Income Tax Expense was given as ($227).

Therefore, Net Income = $(556)

This is a relatively hard FRA question. Try to keep basic principles in mind, in this case NI = EBT - Tax Expense.

#3

Thanks for your help. Your statement is true about EBT, but in my derivation, I assumed that negative Income Tax Expense (=Income tax benefit) was $112K. So, where did this $227K Income Tax Expense come from? I have three specific questions:

  1. Can you please help me understand the difference between Income Tax Expense and Income Tax Benefit?

  2. How are they related in terms of mapping from EBT and Net Income.

  3. Can a company get both income tax expense, which would reduce NI, and Income tax benefit, which would increase Net Income? I thought that we get income tax benefit when we post loss.

#4

You asked where the $227 came from. It was given in the problem. ($112) was the presumed tax given a 34% statutory rate, but for various reasons (book/tax diffs, state taxes, etc…) the actual tax expense differs from the statutory rate. Tax expense is what shows up on the Income Statement.

  1. Same thing, just one is positive the other negative

  2. It sits between EBT and Net Income. There are some exceptions to this presentation, for example with discontinued operations, but I *think* that is outside of the curriculum.

  3. Yes, but I also think it is outside of the curriculum. Discontinued Ops will usually show a benefit, for example, but continuing ops shows a tax expense.There could also be cases where the entity has a tax benefit with one taxing jurisdiction but a tax expense with another. But that is just informational, and I doubt testable.

As a sidenote, I just took L2 in June and I think that this question was probably harder than any L2 FRA question.

#5

Thank you!