South, Inc., earns book net income before tax of $400,000 in year 1. South acquires a depreciable asset in year 1, and first year tax depreciation exceeds book depreciation by $50,000. At the end of year 1, South’s deferred tax liability account balance is $10,500. In year 2, South earns $500,000 book net income before tax, and its book depreciation exceeds tax depreciation by $20,000. South records no other temporary or permanent book-tax differences. Assuming that the U.S. tax rate is 21% in both years, what is South’s balance in its deferred tax liability account at the end of year 2?

First, Identify that the Book Income after permanent differece is $500,000 and calculate the Total Tax Expense for year 2 before excess depreciation is accounted for

U.S. Tax rate for the two years is 21%
Total Tax Expense= $500,000× 21%
= 500,000×0.21=%105,000

Second, Identify the Current Portion/Increase in this total tax expense for the 2nd Year due to the fact that Book Deprciation exceeds tax depreciation. The excess must be added back to calculate the total tax expense. This is because unlike year 1, where tax depreciation exceeds book depreciation.

=(Book Net Income before tax + Excess Book Depreciation)× U.S. Tax rate for the year
($500,000+$20,000)× 0.21
=$520,000×0.21
=$109,200

Third, Find the Difference between the Total tax expense from step one and the Increase in the total tax expense from step 2

Total tax Expense from step 1= $105,000
Current Portion of Total tax expense from stp 2= $109,200
The difference= $109,200-$105,000= $4,500

Fourth, Subtract the difference from the Deferred Tax Liability of Year 1, to get the balance of the deferred tax liability account for year 2

Deferred Tax Liability of year 1= $10,500
Balance in the Deferred Tax Liability Account at the end of year 2
=$10,500-$4,500= $5,500