Introduction to Income Statements, Part 3

 

While some lines of income statement depend on estimates or forecasts, the interest expense line is a basic equation. However, when calculating income tax expense, a business can use different accounting methods to calculate its taxable income. If the accounting method used for tax returns is used, the assumed amount of taxable income is calculated. Then this assumed taxable income-based income tax is matched. This is the income tax expense reported in the income statement. This amount is compared to the amount of income tax payable based on the accounting methods used for income tax purposes. A reconciliation of the two different income tax returns is provided later in the footnote of the Income Statement.

Net income is similar to EBIT before interest and taxes, and can vary significantly depending on which accounting method is used to record sales revenue and expenses. This is where profit smoothing can be implemented to handle earnings. By selecting acceptable accounting methods from the GAAP list and implementing these methods fairly, profit smoothing is off limits to the gray area of ​​earnings management associated with accounting.

Managers and business owners should be involved in making decisions about which accounting methods to use to measure profitability and how to actually implement those systems. In many cases, a manager is required to answer questions about the company’s financial statements. Therefore, it is very important for any officer or manager of a company to be familiar with how to prepare a company’s financial statements. The methods of accounting and how they operate vary from business to business. A company’s methods can fall anywhere in the middle of the GAAP, left or right.