Knights Ltd and Gidley Ltd: Consolidation Adjustment Entry

Knights Ltd purchased inventories from its subsidiary, Gidley Ltd, for $20,000

Knights Ltd acquired inventories from its subsidiary, Gidley Ltd, at a cost of $20,000. The goods originally cost Gidley Ltd $12,000. The company tax rate is 30%. Assume all inventories were still on hand at the end of the year.

Which of the following consolidation adjustment entries is required?

The correct consolidation adjustment entry is:

Dr Tax expense $2400; Cr Deferred tax liability $2400

Explanation

This adjustment recognizes the difference between the cost at which the inventories were sold to Knights Ltd and the cost at which they were originally acquired by Gidley Ltd.

The correct consolidation adjustment entry in this case is: Dr Tax expense $2400; Cr Deferred tax liability $2400.

The tax expense is debited to reflect the increase in tax liability for Knights Ltd, and the deferred tax liability is credited to recognize the future tax consequences of the difference in inventories' values.