taxes

CFA Level I FRA
#1

Very confused as to how to solve the below:

A company reports DTA of $300 million and DTL of $200 million on its balance sheet for the year ended December 2009. Tax rates from 2010 onward are brought down from 40% to 30%. In response to this change in tax rates, the decrease in the company’s shareholders’ equity is closest to:

  1. $25 million.
  2. $10 million.
  3. $75 million.

Answer: A

The company’s DTA and DTL will fall by 25% as a result of the decrease in tax rates. On a net basis, its net assets and shareholders’ equity will fall by (300 million − 200 million) × 25% = $25m.

#2

The temporary difference that gave rise to the DTL was:

$200 million ÷ 40% = $500 million.

The revised amount of the DTL will be:

$500 million × 30% = $150 million.

This will result in an increase in equity of:

$200 million − $150 million = $50 million.

The temporary difference that gave rise to the DTA was:

$300 million ÷ 40% = $750 million.

The revised amount of the DTA will be:

$750 million × 30% = $225 million.

This will result in a decrease in equity of:

$300 million − $225 million = $75 million.

The net effect on equity will be:

$50 million − $75 million = −$25 million.

#3

Well explained S2000magician

#4

Yeah, thanks S2000magician.

#5

My pleasure.