Taxes affect daily life in the U.S. You pay sales tax on retail transactions, property tax for your home and income tax on your salary. Looking at the way taxes affect your business or potential investments is an important way of evaluating the financial stability of that business or investment. Learning what “net taxes” means can help you understand how to read financial statements and make good choices for your business or investment.
You can look at net taxes in two different ways -- as “net taxes” and “net of taxes.” To determine net taxes, add all the taxes a person or company has paid to the federal, state and local governments. You then take the total taxes paid and subtract any refunds or other payments the person or company received from the government. For example, if Company A pays in $10,000 in tax money to the federal government but receives a $1,000 refund from the federal government, Company A’s net taxes are $9,000.
Net of Taxes
The other way to look at net taxes is the term “net of taxes." To determine what a transaction amount is net of taxes, take the total amount and subtract any income tax paid related to the transaction. For example, Company B sells a fleet vehicle to Company C for $10,000. Assume that Company B's federal tax rate is 20 percent. Company B’s income from this transaction net of taxes is $8,000. To figure this out, you multiply $10,000 by the tax rate of 20 percent, and the result is $2,000 in tax. Therefore, the income resulting from the sale net of tax is $10,000 minus $2,000, or $8,000.
In certain situations, generally accepted accounting principles require an item to be reported on financial statements net of tax. For example, irregular items must be reported separately at the end of an income statement and must be listed net of tax. Examples of irregular items include the affects of changes in accounting, discontinued operations and extraordinary items (e.g., likely one-time financial events).
Although accounting principles sometimes require an item to be reported net of tax, reporting information net of tax on a business’ financial statements is generally not allowed. The Financial Accounting Standard Board’s standard number 109 (FAS 109) is the Board's lengthy pronouncement on "Accounting for Income Taxes." FAS 109 specifically disallows generally using financial information net of tax in financial statements. This does not affect the specific instances when net of tax information is required on an income statement.