Question

Firm F, a calendar year taxpayer, owes a $380,000 long-term debt to an unrelated creditor. In December, it paid $22,800 to the creditor as interest for the 12-month period from the prior September 1 through August 31 of the following year.

Answer 1

Answer:

Cash Basis - $22,800

Accrual Basis - $7,600

Explanation:

In cash basis the entire interest will be deemed to have been for the current year since that is when the expense was paid. hence the claim of tax deductible interest on loan will be $22,800

In accrual basis, the interest will be apportioned for the 4 months from September 1 to December 31st which is the portion of the expense incurred for the year, hence the amount of tax-deductible interest claim will be (4 months / 12 months) * 22,800 = $7,600