The effective tax rate compares the matched income-tax expense or benefit with the related pretax income or loss. Define entity, period, continuing-operations scope, and sign convention before dividing. A percentage alone cannot explain why reported tax differs from statutory-rate tax.
Match numerator and denominator
ASC 740-10-50-12 requires a public entity's reconciliation of continuing-operations tax expense to the amount produced by applying domestic federal statutory rates. The rate and amount views must tell the same story.
If continuing-operations tax expense is $201,400 and pretax continuing-operations income is $1,000,000, the effective rate is 20.14 percent. Tax allocated to other comprehensive income (OCI) or discontinued operations does not enter that numerator. The rate can reflect permanent items, credits, state and foreign taxes, or changes in an allowance. A new enacted rate or uncertain tax position can also affect it. Do not compare a consolidated rate with one jurisdiction's taxable income or interpret a one-year rate movement without its amount bridge.
When pretax income is near zero or negative, explain why the percentage may be unstable and emphasize the underlying amounts.
Put the concept to work
Analyze this concept
- Compute and interpret the effective tax rate only after matching tax expense, pretax denominator, period, entity, and continuing-operations scope.
Learning resources
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