ACCT 323, Quiz 3: 1. What is MACRS and how can we have a difference between Financial Accounting Depreciation and Tax Depreciation MACRS? Is there such a thing as legally having two sets of books for...

ACCT 323, Quiz 3:
1. What is MACRS and how can we have a difference between Financial Accounting Depreciation and Tax Depreciation MACRS? Is there such a thing as legally having two sets of books for a Company?
MACRS is the acronym for Modified Accelerated Cost Recovery System. In the United States, this depreciation system is currently employed for tax purposes. It was earlier called the ACRS (Accelerated Cost Recovery System), but after the Tax Reform Act was enforced in 1986, it came to be known as MACRS. The system was designed to offer investors the flexibility to invest in depreciable assets by virtue of provisions of significant tax savings in the first few years of the asset’s lifetime. This is made possible by allocating faster depreciation in the initial years of an asset’s life and the depreciation would gradually slow down. The guidelines on which assets can be classified for MACRS are set by the IRS.
Differences between Financial Accounting Depreciation and Tax Depreciation MACRS are
· Financial Accounting Depreciation is allowed in US GAAP or IFRS whereas MACRS is governed by IRS
· Both straight-line and accelerated methods are allowed in Accounting Depreciation whereas only accelerated methods are allowed in MACRS
· In Accounting Depreciation, depreciation is seen as an operating expense and is deducted from the company’s gross profit to calculate net income. In MACRS, depreciation is viewed as a tax deduction to decrease the taxable income.
· Accounting depreciation is generally used to prepare company’s financial statements whereas MACRS is generally used to prepare income tax returns
Most publicly traded companies maintains two sets of books- one that they prepare in accordance the US GAAP to present to the SEC and investors and the other book is intended for IRS for tax purposes. The management may often choose accounting policies which they seem fit to reduce their expenses and increase profitability giving the impression to their investors that their company is doing well. The actual profitability may often decrease in the other book which they are maintaining for IRS. There is nothing illegal about this practice till they abide by the rules and regulations set by the Federal Accounting Standards Board, or the FASB when preparing financial statements for investors.
    
2. Discuss each of the following parts of a property transaction when something is sold (investments, real property, equipment……). Explain how you calculate a. and b. before you calculate c.
a. Amount Realized         $85,000
Amount realized is the amount received by the seller when he sells an asset. This means that the amount realized includes all types of compensation, including the fair market value of any property, cash received along with associated liabilities the buyer takes up after the transaction. Transaction costs such as commissions and other related fees are not considered when calculating amount realized.
Suppose a Company X has sold a property with an outstanding mortgage of $15,000. The buyer pays the seller $70,000, but he also accepts the mortgage. So the amount realized will be $85,000 ($15,000 assumed mortgage + $70,000 sale price).
b. Basis              ($60,000)
When a seller sells an asset, it always intends to earn the most amount of money from the sale. But the seller also wants to reduce its tax burden by decreasing the capital gain which is taxable. Hence basis value gives the buyer the basis to which it can add the capitalized expenses, increase the asset’s value and subsequently reduce the taxable capital gains from sale of the asset.
Suppose Company X’s same property which has a post-depreciation book value of $50,000 after 10 years which was initially acquired for $60,000. Capital expenses of $10,000 were incurred for the equipment. Now if Company X sells the property for $70,000, capital gain is $70,000-($50,000+$10,000) = $10,000. So basis of $60,000 reduced the taxable capital gain by $10,000 in this case.
c. Realized Gain or loss $25,000
When the seller has determined the amount realized and the basis, he can calculate the deduct the basis from the amount realized. If the difference is positive, the sale results in a realized gain which is taxable, if the difference is negative, the sale results in a realized loss which is tax deductible.
In our example there is a realized gain of $25,000, taking the difference between amount realized of $85,000 and basis of $60,000
d. Recognized Gain or loss        $10,000
Recognized gain or loss is calculated by taking the difference between the amount originally paid for the asset and...