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The deferred tax liability and deferred tax asset are very important components of financial statements. The deferred tax brought into accounts to make a clear picture of current and future tax. It depends upon the nature of transaction whether the Company has paid the advance tax or overpaid tax will be recognized under the deferred tax asset. Whereas, when the tax expense is more compared to tax payable which are payable in the future period will be recognized under the deferred tax liability. The adjustment is made at the end of the year while finalizing the Financial Statement of the Company.
There is a difference between the taxable profit and book profit because there are certain items which are allowed or disallowed for the tax purpose.
Here are two types of difference which are created known as timing difference it can be either:
Deferred tax is recognized through a Temporary and Permanent difference. The effect has been given in the financial statements either through deferred tax asset or deferred tax liability depending upon the nature of the transaction. Deferred tax is only recognized if there is a future possibility. It should be kept in mind that Deferred Tax Asset and Deferred Tax Liability are created only for the temporary difference because for the permanent difference it is not created as they are not going to be reserved.
It means when an asset on a Company’s balance sheet that may be used to reduce the taxable income. It refers to the situation where the Company has paid more tax or advance tax.
It means the Company has deducted the tax less compared to tax payable and it signifies that Company may pay in future more income tax.
Let’s understand through an example
Deferred Tax Asset: The Company has a book profit of Rs. 1500 and this includes bad debt of Rs. 500. For Tax profit, bad debt will be allowed in the future when it is required actually to be written off. Hence taxable income after disallowance will be Rs. 2000 and the income tax rate is 30% then the entity will pay taxes on Rs. 2000 i.e. (2000*30%) Rs. 600.
If the bad debts were not disallowed, the entity would have paid tax on Rs. 1500 i.e. (1500*30%) Rs 450. For additional Rs. 150 which is already paid now and Deferred Tax Asset to be created.
Deferred Tax Liability: When the depreciation rate per income tax is higher than the depreciation rate per Companies Act, the entity will end up paying less tax for the current period. This will create a deferred tax liability. It is created under the head of Non-current Liability.
The main purpose of Deferred Tax asset and Deferred Tax Liability is to make the appropriate presentation in financial statements and to keep the transparency so that the stakeholder aware of the tax situation of the Company.
Exemptions of items not included while calculating the Deferred Tax
A deferred tax asset or liability is not recognized if that deferred tax arises from:
How to calculate Deferred Tax?
Carrying amount of asset/liability – Tax base of asset/liability= Temporary difference.
Mentioned the link for the study purpose https://www.incometaxindia.gov.in/Pages/tools/deferred-tax-calculator.aspx
The deferred tax can be brought down through this below-mentioned approach.
As per the Income Tax, every Company must disclose in the financial statement the accounting treatment carried out for calculating the Deferred Tax. By disclosing it brings transparency among the stakeholders.