When converting from Lifo to Fifo inventory, the appropriate B/S adjustments are as follows according to Schweser: Inventory = increase by Lifo reserve Equity = increase by Lifo reserve However, in a Schweser test question, they increased inventory by the lifo reserve, but then instead of increasing equity by the full amount of the Lifo reserve, they increased deferred tax liability by an amount equal to “Lifo reserve x tax rate” and equity by the remaining portion. Is there anything in the curriculum explaining the adjustment to deferred tax liability when converting from Lifo to Fifo rather than just applying the entire reserve amount to equity?
My only guess would be that the company had a LIFO liquidation and therefore you need to tax the LIFO reserve at the approriate tax rate.
Conceptually, your taxes would be higher when using FIFO (in a rising cost environment) because your COGS would be lower (using the cheaper FIFO inventory as opposed to the more expensive LIFO inventory, which increases both your pretax income and your actual net income), so when adding back any changes in equity you’d have to account for the change in the amount of your taxes as well. So, the higher “adjusted” taxes under FIFO less the actual taxes paid under LIFO results in a deferred tax liability on your balance sheet; the LIFO reserve less this liability is what is added back to equity.
For L2 - directly increase the A and E by LIFO Reserve. I think cpk123 has repeated this atleast 50 times here and it is sticking to a dumb person like me, then why not you?
I’m pretty sure that I remember reading in Schweser that if the tax liability/asset is never expected to reverse, than it can be ignored, but if it might reverse, then it needs to be taken into account, in which case my version is correct. For the simplified “never expected to reverse version”, then yes, cpk’s method is correct. And no offense to either you or cpk, but if cpk said “pick C” for every question, I’d probably (just as I’m doing now) defer to Schweser and/or the CFA curriculum and decide for myself.
swaption - i agree thats what the schwesr notes say. but i had a question on a l2 practice test that provided something different?
Yeps - yours is correct and a more generalists’ approach. But most of the questions I did always had their DTA/DTL’s reversed due to this on-going concern thingie, so the 2 step approach of adjusting the DTL’s and then removing the DTL’s and putting it back to equity (as the deferred taxes are not going to be reversed) can be deduced to one step of directly moving everything to equity.
If you have a question where we are supposed to adjust for taxes, then do put it up here, so that we dont mess up in the exam - assuming that things move to Equity directly w/o the DTL effect.