DTL Flow-through question
Question: assuming straight-line depreciation of 5 years, how does the effect from writing up the value of an asset by $100 during acquisition flow through the 3 statements?
My interpretation (which does not balance the balance sheet, looking for critique): Instantly a DTL of $40 is created on the balance sheet to recognize the fact that book taxes will be lower than actual taxes by $40 over the course of the depreciation of the asset. This DTL will be reversed during the 5 years of straight-line depreciation. Income statement: pre-tax income falls by $20 as annual depreciation is $40 vs tax depreciation of $20. Net income falls by $12 and DTL is reduced by $8. Cash flow statement: net income falls by $12, but add back the $20 in increased depreciation, cash flow is up by $8. Balance sheet: cash is up by $8 and asset is up by $80; equity falls by $12 and DTL is at $32. Does not balance
Misread - deleted
DTL reducing by $8 should be a balance sheet/cash flow statement effect, not on the income statement (the only income statement difference related to this is the lower tax payment, which incrementally lowers your DTL each period as you noted)
On the cash flow statement, your net income falls by $12 but should still be $18, but your depreciation should be $40, just to be clear. You DTL will be -8, for a net change in cash of +$50.
Balance sheet: cash up $50, PP&E down the $40 in depreciation, for a net change in assets of $10. DTL is down $8, retained earnings up $18, for a net increase in total liabilities and shareholders' equity of $10. Balances.
It's difficult to calculate without seeing your numbers, and I think you might get hung up on the change rather than starting from the beginning and using placeholders to start with. When you say equity falls by $12, it sounds like you're using the change in net income rather than what net income was. If I calculated your numbers correctly, you should have $18 in net income, assuming your income fell by $12 on 40% tax, I used beginning income of $30 and period 1 income of $18. Pre-tax falls from $50 to $30, as you said. Depreciation should increase to $40 from $20. For starting balance sheet, I used $200 in PP&E ($200 assets), $40 in DTL and $160 of equity ($200 liabilities and equity) .
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