Deferred Tax Introduction

Deferred tax
When we look out for the meaning for “Deferred” it means to Postpone or delay. Similarly deferred tax is also liability to pay tax in future that we have postponed and have to reflect in our balance sheet.

With coming of financial year end and closing of books of accounts we have to calculate our tax liability comparing our tax liability as per accounting income and taxable income as per IT Act, 1961.

Some of the important definition for calculation of differed tax asset/liability.

Accounting income (loss) is the net profit or loss for a period, as reported in the statement of profit and loss, before deducting income tax expense or adding income tax saving.

Taxable income (tax loss) is the amount of the income (loss) for a period, determined in accordance with the tax laws, based upon which income tax payable (recoverable) is determined.

Tax expense (tax saving) is the aggregate of current tax and deferred tax charged or credited to the statement of profit and loss for the period.

Current tax is the amount of income tax determined to be payable (recoverable) in respect of the taxable income (tax loss) for a period.

Deferred tax is the tax effect of timing differences.

Timing differences are the differences between taxable income and accounting income for a period that originate in one period and are capable of reversal in one or more subsequent periods.

Permanent differences are the differences between taxable income and accounting income for a period that originate in one period and do not reverse subsequently.

Some of the examples of Temporary timing differences.

Depreciation- Mostly deferred tax calculation is required for difference inn rate of depreciation. Usually organization have depreciation rate different as compared to prescribed as per IT Act, leading to timing differences which will reverse in future.

- There can be different depreciation rates
- There can be different depreciation methods eg, WDV, SLM, Annuity method

Expenses- IT act allows expenses to be ductable on cash basis where as our accounting income is calculated after taking expenses on accrual basis.

Bonus is deductable only on actual payment basis

Expenses debited in the statement of profit and loss for accounting purposes but allowed for tax purposes in subsequent years, e.g.

Expenditure of the nature mentioned in section 43B (e.g. taxes, duty, cess, fees, etc.) accrued in the statement of profit and loss on mercantile basis but allowed for tax purposes in subsequent years on payment basis.

Payments to non-residents accrued in the statement of profit and loss on mercantile basis, but disallowed for tax purposes under section 40(a) (i) and allowed for tax purposes in subsequent years when relevant tax is deducted or paid.

Provisions made in the statement of profit and loss in anticipation of liabilities where the relevant liabilities are allowed in subsequent years when they crystallize.

Expenses amortized in the books over a period of years but are allowed for tax purposes wholly in the first year (e.g. substantial advertisement expenses to introduce a product, etc. treated as deferred revenue expenditure in the books) or if amortization for tax purposes is over a longer or shorter period (e.g. preliminary expenses under section 35D, expenses incurred for amalgamation under section 35DD, prospecting expenses under section.

Income credited to the statement of profit and loss but taxed only in subsequent years e.g. conversion of capital assets into stock in trade.

If for any reason the recognition of income is spread over a number of years in the accounts but the income is fully taxed in the year of receipt.

Deferred Tax Calculation Example:

Profit as per Income Tax Act as on 31.03.2016 - Rs. 5,00,000
Profit as per Companies Act as on 31.03.2016 - Rs. 6,50,000
Timing Difference - Rs. 1,50,000
Income Tax Rate - 30.9%
Deferred Tax Liability as on 31.03.2016 - Rs.46,350