The federal government, most state governments, and some cities and towns levy a tax on a corporation’s income. The amount of the liability depends on the results of a corporation’s operations, which are often not known until after the end of the corporation’s fiscal year. However, because income taxes are an expense in the year in which income is earned, an adjusting entry is necessary to record the estimated tax liability. Sole proprietorships and partnerships do not pay income taxes. However, their owners must report their share of the firm’s income on their individual tax returns.
Property taxes are a main source of revenue for local governments. They are levied annually on real property, such as land and buildings, and on personal property, such as inventory and equipment. Because the fiscal years of local governments rarely correspond to a company’s fiscal year, it is necessary to estimate the amount of property taxes that applies to each month of the year.