presentation and disclosure requirements of deferred tax asset

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Deferred Tax (IAS 12)

Last updated: 19 July 2024

Deferred tax is a concept in accounting used to address the discrepancies arising from the different treatments of certain transactions by the tax law and IFRS. Essentially, it aims to account for the tax implications of future asset recovery and liability settlement, which are recognised in IFRS financial statements but are treated differently for tax purposes. It is helpful to view deferred tax as a ‘future’ tax, given its emphasis on upcoming tax effects. The total tax expense in the IFRS income statement is composed of deferred income tax and current income tax .

Let’s dive in.

Temporary differences

Understanding temporary differences is crucial for grasping the concept of deferred tax. These differences arise on the difference between the carrying amount of an asset or liability in the statement of financial position and its tax base (IAS 12.5). Temporary differences fundamentally represent timing variations regarding the recognition of transactions in IFRS financial statements and for tax purposes. They can either be taxable or deductible .

Differences that don’t have a tax effect when the associated asset or liability is recovered or settled are commonly referred to as ‘permanent’ differences. However, it’s noteworthy that IAS 12 does not use this term.

The tax base is the amount attributed to an asset or liability for tax purposes. The specific calculation formulas for assets and liabilities are as follows:

• The tax base of an asset is the amount deductible for tax purposes against any taxable economic benefits flowing to an entity upon recovering the asset’s carrying amount. If these benefits aren’t taxable, the asset’s tax base equals its carrying amount, as outlined in IAS 12.7, with examples provided in the same paragraph. 
• The tax base of a liability is its carrying amount, less any amount deductible for tax purposes concerning that liability in future periods. For revenue received in advance, the resulting liability’s tax base is its carrying amount, less any revenue amount not taxable in future, as detailed in IAS 12.8, with illustrative examples in the same paragraph.

IAS 12.9 clarifies that some items may have a tax base even if they aren’t recognised as assets and liabilities in the statement of financial position. An example of this would be research costs. According to IAS 38, these costs are recognised as an expense as soon as they are incurred. Nonetheless, they may require amortisation over a number of years for tax purposes. The difference between the tax base of the research costs, which is the amount tax authorities will allow as a deduction in future periods, and the carrying amount of nil, results in a deductible temporary difference, leading to a deferred tax asset.

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Taxable temporary differences – deferred tax liabilities

Deferred tax liabilities are recognised for all taxable temporary differences (subject to initial recognition exemption ) that arise when:

• The carrying amount of an asset exceeds its tax base , or
• The carrying amount of a liability is less than its tax base.

Examples of situations when taxable temporary differences arise, leading to the recognition of a deferred tax liability, include (IAS 12.17-18):

• Accrued revenue by an entity, taxable upon cash collection,
• Accelerated tax depreciation of a fixed asset compared to accounting depreciation,
• Capitalised expenditure for accounting, but treated as one-off expense for tax,
• Upward revaluation of assets ignored for taxation purposes (see IAS 12.20),
• Elimination of unrealised losses from intragroup transactions in consolidated financial statements.

Example: Illustration of the purpose of deferred tax

In 20X1, Entity A purchases a fixed asset for $1,000. With a useful life of 5 years, the annual depreciation charge under IAS 16 is $200. However, for tax purposes, Entity A can claim a $500 depreciation charge for the first 2 years. The entity generates an annual revenue of $800, taxable concurrently with IFRS recognition, at a 20% tax rate. All calculations in this example are available in the accompanying Excel file .

The income tax payable to authorities, calculated by Entity A, is presented in the following table:

Subsequently, the deferred tax calculation at each year-end is as follows:

The IFRS financial statements appear as follows:

* The effective tax rate is determined by dividing the total income tax charge by the profit before tax.

As illustrated, recognising deferred tax allows Entity A to ‘accrue’ income tax when tax depreciation is inflated and subsequently utilise this ‘accrual’ when tax depreciation is deflated, enabling a more accurate representation of the tax expense in the income statement.

Deductible temporary differences – deferred tax assets

Deferred tax assets are recognised for all deductible temporary differences, subject to initial recognition exemption , to the extent that it is probable future taxable profit will be available against which these differences can be utilised. This contrasts significantly with deferred tax liabilities, where recognition isn’t contingent on estimates of future taxable profits (see Recoverability requirement below).

Taxable temporary differences arise when:

• The carrying amount of an asset is less than its tax base , or
• The carrying amount of a liability exceeds its tax base.

Situations leading to the recognition of deferred tax assets include (IAS 12.17-18):

• Provisions recognised under IAS 37, deductible from future taxable income on a cash basis,
• Liabilities for long-term employee benefits recognised under IAS 19, deductible from future taxable income on a cash basis,
• Recognised impairment losses for assets other than goodwill, not affecting the tax base of related assets,
• Elimination of unrealised gains from intragroup transactions in the consolidated financial statements.

Recoverability requirement

Deferred tax assets are recognised only to the extent that it is probable that sufficient taxable profit will be available against which the deductible temporary difference can be utilised (IAS 12.27). ‘Probable’ is not explicitly defined in IAS 12, but it is commonly interpreted as more likely than not (>50%), aligning with the meaning in IAS 37 and the IFRS glossary of terms. The assessment of future taxable profit should:

• Be conducted at the level of a taxable entity and taxation authority,
• Exclude the effects of the reversal of deductible temporary differences and future temporary differences (read more in IAS 12.BC55-BC56), and
• Consider tax planning opportunities (see IAS 12.30).

See Estimating future taxable profits for further discussion.

IAS 12 does not impose a time limit for the utilisation of deferred tax assets. Given that deferred tax is not discounted as per IAS 12.53, entities sometimes recognise deferred tax assets expected to be utilised many years into the future.

Taxable profit is considered probable when there are sufficient taxable temporary differences, i.e., deferred tax liabilities, related to the same taxation authority and taxable entity. These differences should be expected to reverse in the same period as the expected reversal of the deductible temporary difference or in periods when a tax loss arising from the deferred tax asset can be carried back or forward (IAS 12.28).

Estimating future taxable profits

Estimating future taxable profits is to some extent analogous to forecasting future cash flows for impairment tests, with adjustments made for tax law provisions and tax planning opportunities (IAS 12.29-31).

The UK Financial Reporting Council has compiled a useful list detailing major differences in forecast preparation, stemming from the varying requirements of IAS 12 and IAS 36. These include:

• CGUs identified under IAS 36 may not align with taxable companies for IAS 12 purposes;
• Pre-tax cash flows used for impairment tests might differ from taxable profits, as the former may exclude certain elements, such as finance costs;
• IAS 36 mandates that future cash flows used for impairment purposes need to be discounted. In contrast, IAS 12 does not allow discounting, though the risk and uncertainty inherent in future events should be reflected in the expected future taxable profits; and
• While companies should not anticipate or consider highly uncertain future events outside their control when forecasting taxable profit, IAS 12 permits the consideration of tax planning opportunities. Consequently, it may be possible to incorporate the benefit of future restructuring plans for IAS 12 purposes that would not be reflected in corresponding IAS 36 value in use forecasts.

Unused tax losses and unused tax credits

Deferred tax assets are also recognised for the carryforward of unused tax losses and credits (IAS 12.34), subject to recoverability considerations. IAS 12.35 emphasises that the existence of unused tax losses is strong evidence that future taxable profit may not be available. Thus, an entity with recent losses recognises a deferred tax asset from unused tax losses or credits only if there are sufficient taxable temporary differences or convincing evidence of available future taxable profit (IAS 12.36).

Entities that have recognised deferred tax assets for unused tax losses and incurred a tax loss in the current or preceding period in the same tax jurisdiction are subject to additional disclosure requirements mandated by IAS 12.82.

The European Securities and Markets Authority (ESMA) has released a public statement detailing considerations regarding the recognition of deferred tax assets that arise from the carry forward of unused tax losses. This document sets out best practices for evaluating the availability of future taxable profits and the existence of convincing evidence supporting it. Notably, ESMA’s analysis holds relevance for all entities reporting under IFRS, regardless of their geographical location within or outside the EU.

Initial recognition exemption

Deferred tax is not recognised to the extent it arises from (IAS 12.15/24):

a. The initial recognition of goodwill (refer to Business combinations and goodwill ); or b. The initial recognition of an asset or liability in a transaction which: (i) is not a business combination; (ii) does not affect accounting profit or taxable profit at the time of the transaction; and (iii) does not give rise to equal taxable and deductible temporary differences at the time of the transaction.

This exemption is commonly known as the Initial Recognition Exemption (IRE). While some accountants might use the term ‘exception’ instead of ‘exemption’, we won’t delve into this semantic difference here.

It’s crucial to clarify that IRE is only applicable to temporary differences arising on the initial recognition of an asset or liability. It does not apply to new temporary differences that may arise on the same asset or liability post-initial recognition. To illustrate this distinction, consider the following example:

Example: Initial recognition exemption

Entity A purchases an intangible asset for $10 million. Amortisation of this asset is not tax-deductible. Nevertheless, its recovery (i.e., revenue generated) will be taxed at 20%. Consequently, the tax base of the asset is zero, resulting in a temporary difference of $10 million upon its initial recognition. However, under the initial recognition exemption, deferred tax is not recognised. This is because recognising a deferred tax liability in this instance would simply lead to unnecessary inflation of assets as illustrated below:

Entry #1: Recognise fixed asset at cost:

DR Fixed asset: $10 million CR Cash: $10 million

Entry #2: Recognise deferred tax liability (assuming a tax rate at 20%):

DR (? – Fixed asset?): $2 million CR Deferred tax liability: $2 million

Since the asset’s initial recognition was exempt from deferred tax under IRE, subsequent depreciation of its initial carrying value will not trigger any deferred tax recognition as it pertains to the original temporary difference. If this asset is later revalued to a fair value of $12 million, the revaluation gain is due to subsequent accounting and, thus, does not fall under the initial recognition exemption. Consequently, a deferred tax liability would be recognised for the portion of the carrying amount representing the revaluation gain (i.e., $2 million). The subsequent depreciation of the carrying amount corresponding to the revaluation gain would ‘utilise’ this deferred tax liability.

Equal taxable and deductible temporary differences

Transactions that result in equal taxable and deductible temporary differences at the time of the transaction are not subject to the initial recognition exemption. Common examples of these transactions include leases and decommissioning provisions. However, it’s crucial to highlight that there’s no condition requiring the resulting deferred tax assets and liabilities to be equal too.

There are two primary scenarios where equal taxable and deductible temporary differences may lead to unequal deferred tax assets and liabilities. The first scenario is influenced by the recoverability requirement, applicable only to deferred tax assets. This criterion can lead to situations where, despite equal taxable and deductible temporary differences, only a deferred tax liability is recognised. The second scenario arises when different tax rates are applied in the measurement of deferred tax assets and liabilities, resulting in their unequal values.

It’s worth highlighting that the Exposure Draft for the amendments to IAS 12 Deferred Tax related to Assets and Liabilities arising from a Single Transaction included a ‘capping proposal.’ This suggested that the initial recognition exemption should continue to apply to the extent that an entity would otherwise recognise unequal amounts of deferred tax assets and liabilities. However, this proposal was not adopted in the final amendments issued by the IASB which became effective from 2023. For further details, please refer to the basis for conclusions paragraphs IAS 12.BC82 – BC88.

When recognised deferred tax assets and liabilities are unequal, this difference is recognised in profit or loss in line with IAS 12.22(b). This paragraph mandates that if a transaction leads to equal taxable and deductible temporary differences, an entity is required to recognise the corresponding deferred tax expense or income in profit or loss.

For leases, a key judgement is deciding if tax deductions are associated with the lease asset or liability. IAS 12.BC74 clarifies that although entities may receive tax deductions for lease payments on a cash basis, these could still be allocated to either the lease asset or the lease liability.

The attribution of tax deductions has pivotal implications because temporary differences only arise on initial recognition if tax deductions are assigned to the lease liability. When deductions are associated with the lease asset, the tax bases of the lease asset and lease liability equal their carrying amounts, reflecting that the entity will receive tax deductions equal to the carrying amount of the lease asset and no deductions in respect of the lease liability. In such cases, no temporary differences arise on initial recognition of the lease contract and the initial recognition exemption is not applicable (IAS 12.BC76).

Entities attributing deductions to lease liabilities will record gross amounts of deferred tax assets and liabilities. This comes with a risk of deferred tax assets becoming irrecoverable, requiring a write-off against profit or loss. Furthermore, disclosures in the notes should explain the gross amounts of deferred tax assets and liabilities, highlighting the importance of tax deduction allocation.

Regrettably, the IASB chose not to provide application guidance or examples for determining tax deduction allocation to lease assets or liabilities, fearing ‘unintended consequences’ and additional complexity. For more information, refer to the sections ‘Attribution of tax deductions to the lease asset or lease liability’ and ‘Providing application guidance on attribution of tax deductions’ on pages 10 and 24 of the IFRS staff paper .

In some tax jurisdictions, tax authorities may dictate tax deduction attribution. For instance, the Singaporean tax office has issued guidance specifying that tax deductions are attributed to the leased asset if the lease contract is considered a finance lease under tax law, and to the lease liability in other cases:

Example: Deferred tax arising on initial recognition of leases

Suppose Entity A enters into a five-year lease of an asset on 1 January 20X1, making annual upfront payments of $50,000. The tax law recognises the expense on a cash basis and tax deduction is attributed to lease liability. Assume Entity A generates an annual revenue of $70,000.

In this scenario, the applicable discount rate is 5%, and the tax rate is 20%. The present value of the lease liability is $227,292, which also represents the initial cost of the right-of-use (RoU) asset.

The subsequent accounting schedules for the lease liability and right-of-use asset are presented below. All relevant calculations are available in the accompanying Excel file . However, familiarity with the accounting for leases under IFRS 16 would be beneficial before delving into this example.

Right-of-use asset:

Lease liability:

Since the transaction results in equal taxable and deductible temporary differences, the initial recognition exemption is not applicable. Therefore, deferred tax is recognised for both the RoU asset and the lease liability. The statement of financial position and the income statement are presented in the tables below:

Investments in subsidiaries, associates, and interests in joint arrangements

IAS 12 outlines specific provisions regarding the recognition of deferred tax associated with investments in subsidiaries, associates, and interests in joint arrangements (IAS 12.38-45). These provisions address the so-called ‘outside’ basis differences, which are differences between the carrying amount of parent’s investment (in consolidated financial statements represented by underlying assets and liabilities) and the investment’s tax base (in the parent’s tax jurisdiction). In contrast, ‘inside’ basis differences relate to individual assets or liabilities held by investees (i.e., inside the investee), such as intangible assets and provisions, and arise in the investee’s tax jurisdiction.

The exception in IAS 12.39/44 applies only to the ‘outside’ basis differences. Such differences are common because the tax base of the investment usually corresponds to its original cost, while the carrying amount can be influenced by various factors such as undistributed profits, impairment losses, or translation differences emerging during consolidation.

Deferred tax liabilities are recognised for ‘outside’ basis differences arising on the aforementioned investments, unless (IAS 12.39):

• The investor can control the timing of the reversal of the temporary difference; and
• It is probable that the temporary difference will not reverse in the foreseeable future.

For a more detailed discussion on these criteria, see paragraphs IAS 12.40-43. Due to varying positions of investors, the application of this exception can differ concerning different types of investments.

Deferred tax assets, on the other hand, are recognised for ‘outside’ basis differences only when it is probable that (IAS 12.44):

• The temporary difference will reverse in the foreseeable future; and
• Taxable profit will be available against which the temporary difference can be utilised.

In practice, these criteria often allow entities not to recognise deferred tax for the ‘outside’ basis differences arising on most of their investments in subsidiaries. However, deferred tax is typically recognised when:

• The distribution of retained profits is probable and has tax effects;
• A sale of an investment becomes probable.

Example: ‘Outside’ basis differences arising on an investment in a subsidiary

On 1 January 20X1, Entity A acquires Entity B for EUR 100m. Entity A operates in Germany with EUR as its functional currency , while Entity B operates in Australia, using AUD. The tax rate in Germany is 20% and 30% in Australia. The table below displays the assets and liabilities of Entity B translated to EUR:

To calculate the net assets of Entity B in the consolidated financial statements of Entity A, we must calculate the deferred tax on temporary differences and recognise goodwill arising on this business combination :

A: Net assets of Entity B excluding deferred tax and goodwill (EUR 230m – EUR 140m): EUR 90m B: Deferred tax liability arising on temporary differences at B’s tax rate [(EUR 50m – EUR 20m)] x 30%: EUR 9m C: Net assets of Entity B including deferred tax, excluding goodwill (A-B): EUR 81m D: Goodwill (consideration of EUR 100m less net assets acquired of EUR 81m): EUR 19m E: Net assets of Entity B in consolidated financial statement of Entity A (C+D): EUR 100m

From the above, the net assets of Entity B in the consolidated financial statements of Entity A total EUR 100 million. The tax base of the investment in B from A’s perspective is also EUR 100 million, equalling the cost. Hence, no ‘outside’ basis difference exists in either the separate or consolidated financial statements at the date of acquisition.

Assume that during the year 20X1, the following occurs:

• Entity B incurs a net loss of EUR 10 million;
• Entity A recognises in consolidated OCI a EUR 5 million of translation differences (gain) relating to Entity B;
• Entity A recognises EUR 15 million of goodwill impairment in consolidated financial statements and EUR 15 million of impairment of investment in B, carried at cost in separate financial statements.

Consequently, at the end of 20X1, the net assets of Entity B in the consolidated financial statements of Entity A amount to EUR 80 million:

The tax base remains constant at EUR 100 million, giving rise to a deductible ‘outside’ basis difference of EUR 20 million in A’s consolidated financial statements. In the separate financial statements of A, the investment in B is valued at EUR 85 million (original cost minus impairment), thus the deductible ‘outside’ basis difference amounts to EUR 15 million. If there were no exception for the recognition of deferred tax arising on investments in subsidiaries, as discussed earlier, Entity A would be obligated to recognise deferred tax on ‘outside’ basis differences related to its investment in Entity B in both consolidated and separate financial statements.

Applicable tax rate

Different tax rates often apply to dividends received from an investment and to gains on the disposal of an investment. The measurement principle in IAS 12 stipulates that the measurement of deferred tax assets and liabilities should reflect the tax consequences ensuing from the manner in which the entity anticipates recovering the carrying amount of its assets. Consequently, if an entity recognises deferred tax, it must ascertain which part of the investment will be recovered through dividends or other forms of capital distributions, and which through disposal. This was confirmed by the IFRS Interpretations Committee.

Single asset entities

Certain assets, predominantly properties, are held by single asset entities, usually for legal and/or tax reasons. The IFRS Interpretations Committee deliberated whether deferred tax relating to such entities should be evaluated with reference to both ‘outside’ and ‘inside’ temporary differences, i.e., differences relating to the investment in the entity and the asset held by the entity. The conclusion reached is that deferred tax should be assessed regarding both ‘outside’ and ‘inside’ temporary differences, as IAS 12 currently does not offer any exceptions specifically applicable to single asset entities.

Measurement of deferred tax

Deferred tax assets and liabilities are measured at the tax rates expected to be applicable during the period when the asset is realised or the liability is settled, based on tax rates (and tax laws) enacted or substantively enacted by the end of the reporting period (IAS 12.47).

The measurement of deferred tax should incorporate tax consequences that would result from the manner in which the entity, at the end of the reporting period, anticipates recovering or settling the carrying amount of its assets and liabilities (IAS 12.51). For additional discussion and examples, refer to paragraphs IAS 12.51A-51E.

The measurement of deferred tax is based on the carrying amount of the entity’s assets and liabilities (IAS 12.55), and therefore, cannot be based on an asset’s fair value if the asset is measured at cost. It is also noteworthy that deferred tax assets and liabilities are not discounted (IAS 12.53-54).

Tax laws enacted or substantively enacted

IAS 12 does not provide specific guidance on the enactment or substantive enactment of a tax law as it is contingent on local legislative processes. However, there is usually a consensus among accounting professionals regarding its interpretation in each tax jurisdiction. Importantly, a law enacted or substantively enacted after the end of the reporting period is considered a non-adjusting event (IAS 10.22(h)).

Uncertain tax treatments

IFRIC 23, issued by the IASB, addresses uncertain tax treatments, defining them as treatments where uncertainty exists regarding their acceptance by the relevant taxation authority (IFRIC 23.3). According to IFRIC 23, an entity:

• Considers uncertain tax treatments separately or collectively, depending on which approach better predicts the resolution of the uncertainty (IFRIC 23.6-7),
• Assumes that a taxation authority will scrutinise amounts it is entitled to and will possess complete knowledge of all pertinent information, a concept referred to as ‘full detection risk’ (IFRIC 23.8),
• Assesses whether it is probable (>50%) that a taxation authority will accept an uncertain tax treatment. If so, the measurement is based on the tax treatment utilised or intended for use in its income tax filings (IFRIC 23.9-10),
• If acceptance by a taxation authority is not probable, the uncertainty in measurement is reflected using the most likely amount or the expected value, depending on which method better predicts the resolution of the uncertainty (IFRIC 23.11-12 and Examples 1 and 2 accompanying IFRIC 23),
• Reassesses judgements or estimates if there is a change in facts and circumstances (IFRIC 23.13-14, A1-A3).

Business combinations and goodwill

A deferred tax asset is also recognised for fair value adjustments made in accounting for business combinations , as such adjustments generally do not affect the tax base of the related assets and liabilities. Typically, deferred tax arising from a business combination affects the amount of goodwill or the gain on bargain purchase (IAS 12.66). If the target company possesses unrecognised unused tax losses carried forward, these can be recognised as deferred tax assets as part of the business combination accounting. Reassessing unrecognised deferred tax assets of the target is advisable, as inclusion in the new group may offer a different perspective regarding tax planning opportunities.

Should the deferred tax of the target company be adjusted within the measurement period due to new information about facts and circumstances existing at the acquisition date, the corresponding impact is treated as an adjustment to goodwill (IAS 12.68). A business combination may also influence the pre-acquisition deferred tax of the acquiring entity, for instance, through the emergence of new tax planning opportunities. If so, the impact of such deferred tax is not recognised as part of business combination accounting. Instead, it typically affects P/L for the current period (IAS 12.67). This method is adhered to even if tax effects were considered during business combination negotiations (IFRS 3.BC286).

Goodwill arising in a business combination falls under the initial recognition exemption and thus does not lead to a deferred tax liability. This is due to goodwill being measured as a residual, and the recognition of the deferred tax liability would increase the carrying amount of goodwill. Subsequent reductions in the unrecognised deferred tax liability, for instance, through the recognition of an impairment loss, are also considered as arising from the initial recognition of goodwill and are therefore not recognised. However, if goodwill is amortised for tax purposes under local tax law, the taxable temporary differences arising subsequent to initial recognition are recognised as deferred tax liabilities (IAS 12:21-21B).

Refer also to the section on deferred tax arising on investments in subsidiaries .

Share-based payment transactions

The accounting for current and deferred tax arising from share-based payment transactions is outlined in paragraphs IAS 12.68A-68C and Example 5 accompanying IAS 12.

Reassessment and review of deferred tax

Deferred tax assets and liabilities should be reassessed and reviewed at the end of each reporting period. This review may result in the recognition of previously unrecognised deferred tax or a reduction in the carrying amount of previously recognised deferred tax (IAS 12.37,56). When the anticipated manner of recovering or settling the carrying amount of assets and liabilities at the end of the reporting period changes, the tax consequences should be accounted for concurrently with the change in expectation. This might lead to the tax effect being accounted for in an earlier period than the underlying transaction itself.

Presentation

The principal rule is that the accounting for deferred (and current) tax effects of a transaction or other event aligns with the accounting for the transaction or event itself. This implies that current and deferred tax effects are recognised in P/L, OCI, equity or affect goodwill, according to the impact of the corresponding item (IAS 12.57-62A). When an item is recycled from OCI to P/L, the tax impact is recycled likewise, a practice that is widely accepted though not explicitly covered in IAS 12.

Tax consequences of exchange differences

Exchange differences on deferred foreign tax liabilities or assets may be classified as deferred tax expense (IAS 12.78).

The IFRS Interpretations Committee has examined the issue of recognising deferred taxes when the tax bases of an entity’s non-monetary assets and liabilities are determined in a currency that is different from its functional currency. They concluded that deferred taxes resulting from exchange rate changes on the tax bases of non-current assets are recognised in profit or loss under IAS 12.41. This is applicable even when the carrying amount of the asset remains unchanged as, under IAS 21, non-monetary assets are not retranslated subsequent to their initial recognition.

Tax consequences of dividends

Income tax consequences of dividends are linked more directly to past transactions or events that generated distributable profits, rather than to distributions to owners (IAS 12.57A). As a result, entities should recognise the income tax consequences of dividends in P/L, OCI or directly in equity, depending on where the entity originally recognised the transactions or events that generated distributed profits. Furthermore, IAS 12.52A includes an example illustrating the presentation and measurement of income tax consequences of dividends paid.

Pro rata allocation

In some instances, allocating the tax impact between P/L and OCI may prove challenging. In such cases, IAS 12 permits a reasonable pro-rata allocation (IAS 12.63). One scenario illustrating this challenge pertains to long-term and post-employment employee benefits, where actuarial gains or losses are recognised through OCI. Tax deductions are typically available when actual payments (contributions) are made, and it is generally unfeasible to allocate such tax deductions between components that previously arose through P/L (e.g., current service cost) and OCI (e.g., actuarial losses).

Offsetting deferred tax assets and liabilities

Deferred tax assets and deferred tax liabilities are offset only if (IAS 12.74):

1. The entity has a legally enforceable right to set off current tax assets against current tax liabilities; and 2. The deferred tax assets and the deferred tax liabilities pertain to income taxes imposed by the same taxation authority on either: a. The same taxable entity; or b. Different taxable entities that intend either to settle current tax liabilities and assets on a net basis, or to realise the assets and settle the liabilities simultaneously, in each future period in which significant amounts of deferred tax liabilities or assets are expected to be settled or recovered.

Refer also to Offsetting current tax assets and liabilities .

Pillar Two tax reform

In December 2021, the OECD released its Pillar Two model rules, a component of a broader initiative aimed at addressing tax challenges arising from the digitalisation of the economy. These rules, agreed upon by over 135 countries and jurisdictions, accounting for more than 90% of the world’s GDP, form part of a dual-pillar strategy. Pillar Two’s focus is distinct from Pillar One, which primarily concerns the redistribution of tax-paying locations for companies.

Key aspects of Pillar Two:

• Pillar Two targets large multinational corporations with consolidated revenues exceeding EUR 750 million in at least two of the past four years. These corporations must compute their effective tax rate (ETR) for each jurisdiction where they operate.
• The gross income for ETR calculation will align with the accounting framework used in the consolidated financial statements, such as IFRS.
• If the ETR falls below the minimum threshold of 15%, the corporation must pay a top-up tax to cover the shortfall.

Countries are given discretion on how they choose to implement these regulations through the designated Pillar Two mechanisms.

Responding to Pillar Two reforms, the IASB has introduced a temporary, mandatory exception in IAS 12.4A. This exception relates to the accounting of deferred taxes arising from the adoption of these global tax rules. Under this exception, entities are not required to recognise or disclose deferred tax assets and liabilities associated with Pillar Two income taxes.

Disclosure requirements once Pillar Two legislation is (substantively) enacted but not yet in effect:

Entities must disclose relevant information to clarify their exposure to Pillar Two income taxes at the reporting date:

• Qualitative data: Description of how Pillar Two taxes impact the company, including jurisdictions of exposure, and where the top-up tax may be applicable.
• Quantitative data: Proportion of profits subject to Pillar Two taxes and the average effective tax rate, or potential changes to this rate under Pillar Two legislation.

Disclosure requirements after Pillar Two legislation is effective:

The only required disclosure is the current income tax expense related to the top-up tax (IAS 12.88A-88D).

Disclosure examples

EY’s ​publication​ showcases examples from both annual and interim financial statements.

More about IAS 12

See other pages relating to IAS 12:

IAS 12 Income Taxes: Scope IAS 12 Income Taxes: Current Tax

© 2018-2024 Marek Muc

The information provided on this website is for general information and educational purposes only and should not be used as a substitute for professional advice. Use at your own risk. Excerpts from IFRS Standards come from the Official Journal of the European Union (© European Union, https://eur-lex.europa.eu). You can access full versions of IFRS Standards at shop.ifrs.org. IFRScommunity.com is an independent website and it is not affiliated with, endorsed by, or in any other way associated with the IFRS Foundation. For official information concerning IFRS Standards, visit IFRS.org.

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Demystifying deferred tax accounting

Regulatory and legislative developments in the United States and abroad have generated continued interest in the financial accounting and reporting framework, including accounting for income taxes. Fundamental to the income tax accounting framework is an understanding of deferred tax accounting. In this publication we provide a refresher of the deferred tax accounting model and why deferred taxes are an important measure within the financial statements. The income tax accounting model applies only to taxes based upon income, and therefore excludes some other taxes, such as taxes based upon gross revenue or certain transactional taxes. This discussion specifically addresses accounting concepts under US Generally Accepted Accounting Principles (US GAAP), although certain elements may also apply under International Financial Reporting Standards (IFRS) or other non-US accounting standards.

Overview - why are deferred income taxes important and what do they represent? 

Simply stated, the deferred tax model allows the current and future tax consequences of book income or loss generated by the enterprise to be recognized within the same reporting period, providing a complete measure of the net earnings. A deferred tax often represents the mathematical difference between the book carrying value (i.e., an amount recorded in the accounting balance sheet for an asset or liability) and a corresponding tax basis (determined under the tax laws of that jurisdiction) in the asset or liability, multiplied by the applicable jurisdiction’s statutory income tax rate. 

Example: Generally, the income tax basis in a fixed asset is the purchase price less tax depreciation previously allowed under the applicable tax law. The timing of the cost recovery of the fixed asset may differ between the tax law for a particular jurisdiction and the applicable accounting rules, which can result in a deferred tax asset or liability.

The following chart illustrates when an accounting asset or liability (excluding income tax accounts) generates a corresponding deferred tax asset or liability: 

Additionally, a deferred tax asset can result from an income tax credit, loss carryover or other tax attribute that is available to reduce future income tax obligations. 

Fundamentally, deferred tax balances represent the future tax impacts of recovering or otherwise consuming assets (e.g., by depreciating the asset) and settling liabilities (e.g., by cash settlement of the obligations) at the respective book values. 

• In a fixed asset example where the book carrying value exceeds the corresponding tax basis, the deferred tax liability can represent the tax consequences of recovering or disposing of the asset at its book carrying value. In the case of disposal, a sales price equal to the book carrying value would result in a taxable gain, given the lower corresponding tax basis. 
• Conversely, in a pension liability example where the book carrying value exceeds the corresponding tax basis, the deferred tax asset represents the future tax benefit of the anticipated cash settlement of the liability. Specifically, the recognition of pension book expense (and the corresponding liability) often occurs prior to the recognition of the related tax deduction (which generally occurs when the pension liability is funded or otherwise settled with cash or other property.)

Causes for differences between accounting carrying values and tax bases

Often, differences between book carrying values and the related tax bases are the result of separate objectives between financial reporting standards and income tax regimes.  

Generally, the objective of general purpose financial reporting (e.g., US GAAP reporting standards) is to provide financial information about the reporting entity that is useful to existing and potential investors, lenders, and other creditors in making decisions about providing resources to the entity. The focus is on the consolidated results of the reporting entity. In contrast, tax regimes are generally not similarly focused and often include aspects of tax policy that seek to incentivize certain behaviors. For example, accelerated cost recovery measures promote investment in a specific area or asset class. Other credits promote the investment in more clean energy sources. 

Importantly, differences between applicable accounting standards and the relevant income tax law which only impact the  timing  of when an asset or liability is recovered (e.g., immediately expensing of capital expenditures for income tax purposes, with a corresponding multiple-year depreciation period for accounting purposes) are reflected as deferred taxes. In contrast, other items (for example, certain tax-exempt income) may be  permanently  excluded from a local income tax base, and this does  not  result in the recognition of a deferred tax.

Depending on the nature of the assets and liabilities involved, timing differences may reverse within a year (e.g., differences relating to certain assets and liabilities classified as current or short term on the balance sheet), or may take several years to reverse (e.g., certain long-lived assets). Moreover, other differences may not reverse until the related asset is disposed of or otherwise impaired for book purposes (e.g., certain non-amortizing book intangible assets, such as a trade name). For example, basis differences may exist between the book carrying value and tax basis in an enterprise’s investments, such as the stock of a corporation. The reversal of such investments would generally not occur until the investment is sold or otherwise recovered. While the timing of recovery may vary, importantly, deferred taxes will reverse as the financial statement asset is recovered or the financial statement liability is settled in the normal course of business.  

With respect to the timing of the reversal of a deferred tax liability, it is important to note that factors may be present which could result in a delay in the event(s) that give rise to the reversal. This may include, for example, a delay in the recovery of a related asset or the settlement of a related liability. However, the inherent assumption within US GAAP is that the reported amounts of assets and liabilities will be recovered and settled, respectively. Thus, the only question is when, not whether, the deferred tax liability will reverse.

US GAAP, as well as other accounting standards, generally requires that assets and liabilities acquired in a business combination are to be presented at fair market values at the time of acquisition. However, whether or not the corresponding tax bases of the acquired assets and liabilities are also adjusted to fair market values is dependent on how the business is acquired. For example, in many jurisdictions, the acquisition of the shares of an enterprise (as opposed to the direct acquisition of underlying assets and liabilities) will not result in a change in tax bases of the assets and liabilities. In some instances, the underlying assets may include intangible property which is fair valued for financial statement purposes in acquisition accounting. However, since there is no change in tax basis, differences between book carrying values and respective tax basis amounts exist in these cases and result in deferred tax liabilities.  

In addition to understanding how and when existing deferred tax assets and liabilities may reverse, it is important to consider valuation allowances that may reduce the carrying value of certain (or all) deferred tax assets. The recognition of a valuation allowance generally represents the conclusion that on a “more likely than not'' basis, the enterprise will not be able to receive a cash tax benefit for certain or all of its deferred tax assets. This may result from uncertainties concerning future taxable profits in certain tax jurisdictions, as well as potential limitations that a tax authority may impose on the deductibility of certain tax benefits.

Common types of deferred taxes

Examples of items that give rise to the recognition of deferred taxes includes: 

• Fixed assets. In many cases, tax basis may be less than the respective book carrying value, given accelerated cost recovery measures in a number of taxing jurisdictions (e.g., immediate expensing or bonus depreciation for federal income tax purposes in the US). 
• Certain intangible assets. Tax basis may differ from the book carrying value of certain intangible assets (e.g., trade names or customer relationships) given differences in cost recovery periods between accounting and tax, or simply the existence of an intangible asset that is recognized for book purposes but does not have a corresponding capitalized or amortizable balance for tax purposes.
• Accrued liabilities. In the case of certain accrued liabilities, a tax deduction may be available in a future year when the liability is settled (often with cash or other property), whereas for book purposes the liability is accrued currently, reflecting an expense that is incurred but not yet paid or settled.
• Inventory. Tax basis in inventory may require different cost capitalization measures as compared to book carrying values. Moreover, certain differences may exist between accounting and tax balances for last-in first-out (LIFO) inventory methods.
• Tax attributes. Common tax attributes, including unutilized net operating losses or tax credit carryforwards generated in prior tax year(s), may be available to reduce cash tax obligations in future year(s), thus representing a potential future tax benefit. 

The takeaway

While certain complexities exist, the fundamental objective of the deferred tax accounting model is to provide a complete measure of an enterprise’s net earnings by allowing the current and future tax consequences to be recognized in the same reporting period as the book income or loss is generated. This objective is met through the measurement of the basis difference in the book carrying value and tax basis of the enterprise’s underlying assets and liabilities. While there are limited exceptions, these differences in basis generally reverse as part of the enterprise’s normal course of operations according to well-established rules.

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FASB simplifies presentation of deferred income taxes

• Accounting & Reporting
• FASB Financial Accounting & Reporting

A new standard FASB issued Friday is designed to improve the way deferred taxes are classified on organizations’ balance sheets.

Accounting Standards Update No. 2015-17 , Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes , is part of FASB’s simplification initiative. The initiative is designed to reduce complexity in financial reporting without sacrificing the quality of information provided to users.

Under current GAAP, an entity is required to separate deferred income tax liabilities and assets into current and noncurrent amounts in a classified statement of financial position. Stakeholders have informed FASB that this requirement results in little or no benefit to financial statement users and is costly for financial statement preparers.

The amendments issued Friday are designed to simplify the presentation of deferred income taxes. The new standard requires deferred tax liabilities and assets to be classified as noncurrent in a classified statement of financial position.

The current requirement that deferred tax liabilities and assets of a tax-paying component of an entity be offset and presented as a single amount is not affected by the amendments. The new standard will align the presentation of deferred income tax and liabilities with IFRS, which requires deferred tax assets and liabilities to be classified as noncurrent in a classified statement of financial position.

The standard applies to all organizations that present a classified balance sheet. For public companies, the amendments take effect for financial statements issued for annual periods beginning after Dec. 15, 2016, and interim periods within those annual periods. For private companies, not-for-profits, and employee benefit plans, the amendments take effect for financial statements issued for annual periods beginning after Dec. 15, 2017, and interim periods within annual periods beginning after Dec. 15, 2018.

Early application is permitted for all organizations as of the beginning of an interim or annual reporting period.

— Ken Tysiac ( [email protected] ) is a JofA editorial director.

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Understanding deferred tax assets: Definitions, calculations, and examples

By Pia Mikhael

Pia Mikhael is a guest contributor. The views expressed are theirs and do not necessarily reflect the views of Rho.

Whether you are a financial professional, a business owner, or an investor, gaining a thorough understanding of deferred tax improves your ability to interpret financial statements and make informed decisions.

A deferred tax reflects the difference between the book value of an asset or liability (as recorded on the accounting balance sheet) and its tax basis (as defined by tax laws), multiplied by the jurisdiction's statutory income tax rate.

Recognizing and calculating deferred tax assets can be complex but can be helpful in creating accurate financial reports and strategic tax planning. 

Key highlights

• Deferred tax assets (DTA) reduce future tax liabilities due to temporary differences or carryforwards.
• DTAs affect both the company’s balance sheet and income statement by aligning book and taxable income.
• Effective DTA management enhances tax planning, cash flow, and compliance, giving a clearer view of financial health.

What is a deferred tax asset (DTA)?

A deferred tax asset (DTA) represents a future tax benefit that you can realize in upcoming periods. 

This financial concept arises when your company's accounting income is lower than its taxable income due to temporary differences in how items are treated for financial reporting versus tax purposes.

DTAs essentially reflect the amount of taxes you've overpaid now but will recover later. These assets typically arise when you record expenses in your financial statements before the tax rules allow you to deduct them.

As these timing differences reverse on a future date, you may see a reduction in your tax liability. 

Common examples of DTAs include net operating loss carryforwards, warranty reserves, and certain accrued liabilities. 

What is a deferred tax asset (DTA) vs. a deferred tax liability (DTL)?

Deferred tax assets and liabilities are crucial components of a company's financial statements, reflecting the future tax implications of current transactions. Let's break down the key differences between DTAs and DTLs:

Why is it important to track deferred tax assets?

To better understand your company’s economic position, it’s a good idea to track DTAs. This includes potential future tax savings, providing a more comprehensive view of your financial health. A few more pointers that emphasize the importance of tracking deferred tax assets are:

• Tax planning: Tracking DTAs allows you to identify opportunities to use these assets, potentially reducing future tax liabilities and improving overall financial performance.
• Cash flow management: By incorporating potential tax savings into your projections, you can create more accurate cash flow forecasts and better anticipate your company's future financial position.
• Compliance: Accurate tracking and reporting of DTAs is often mandatory under accounting standards and tax laws as it helps you avoid penalties and maintain financial integrity.
• Decision-making: Understanding your DTA position enables more informed choices on investments, acquisitions, and other business moves by factoring in potential tax implications.

Deferred tax asset vs. journal entry

A deferred tax asset is a balance sheet item representing a future tax benefit. It arises when you've paid more taxes than required based on accounting income, due to timing differences between tax and financial reporting rules.

Whereas, a journal entry is the method used to record transactions in your financial accounting system. It's the process of documenting any financial event, including the creation or adjustment of a deferred tax asset.

Suppose your company reports $100,000 in accounting income for Year 1. However, due to differences in tax and accounting depreciation methods, your taxable income is only $80,000. With a 25% tax rate, this situation creates both a current tax obligation and a deferred tax asset.

Here's how you'd record this in your accounting system:

Accounting Entries

How deferred tax assets and liabilities work?

Deferred tax assets represent future tax savings, while deferred tax liabilities indicate future tax obligations. When you recognize an expense for accounting purposes before it's tax-deductible, you create a deferred tax asset. Conversely, when you recognize revenue for tax purposes before accounting purposes, you create a deferred tax liability.

For example, if you incur a warranty expense for accounting purposes but can't deduct it for tax purposes until you incur the cost, you create a deferred tax asset. These items appear on your balance sheet and affect your effective tax rate on the income statement.

Why do deferred tax assets occur?

Deferred tax assets primarily occur due to differences between Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS) and tax regulations. For example:

• Under GAAP, you might recognize certain business expenses immediately, while tax rules require you to spread them over multiple years.
• IFRS may allow for more liberal recognition of provisions, creating temporary differences with tax treatments.
• Both GAAP and IFRS often have different depreciation methods compared to tax regulations.

These disparities lead to temporary differences that will reverse over time, resulting in deferred tax assets. A few other reasons for deferred tax assets are:

• Loss carryforwards: When you incur a tax loss that can be used to offset future taxable income.
• Accrued expenses: Certain expenses you recognize for accounting purposes may not be tax-deductible until paid.
• Unrealized losses: Losses on investments that haven't been sold yet may be recognized for accounting but not for tax purposes.

What are the requirements to recognize a deferred tax asset?

Some requirements that will help you recognize a deferred tax asset are:

• The temporary difference must be deductible in future periods.
• You must have a reasonable expectation of future taxable income against which to utilize the deferred tax asset.
• You should consider any limitations on the use of tax losses or credits in your jurisdiction.

How to account for a deferred tax asset

To account for a deferred tax asset:

• Identify the temporary difference: Compare the carrying amount of assets and liabilities in your financial statements to their tax bases.
• Calculate the deferred tax asset: Multiply the temporary difference by the applicable tax rate. Use the rate expected to apply when the asset is realized.
• Record the journal entry: Debit the deferred tax asset account and credit the income tax expense (or deferred tax benefit) account.
• Present on financial statements: Report the deferred tax asset on your balance sheet, typically as a non-current asset. Disclose details about its composition in the notes.
• Adjust income tax expense: On your income statement, show both current and deferred tax impacts to arrive at your total income tax expense.
• Reassess regularly: At each reporting period, review the recoverability of the deferred tax asset. If necessary, adjust the valuation allowance and recognize the change in your income statement.
• Track reversals: As temporary differences reverse, reduce the deferred tax asset and recognize the impact on current tax expense.

Common types of deferred tax assets and liabilities

Deferred taxes arise from differences between how items are treated for tax purposes versus financial reporting. Understanding deferred tax asset examples can help you navigate the complexities of tax accounting and financial statements. 

Fixed assets

When it comes to fixed assets, you may encounter deferred taxes due to differences in depreciation methods. For tax purposes, you might use accelerated depreciation, while for financial reporting, you use straight-line depreciation. This creates a temporary difference that leads to deferred tax liabilities.

Specific intangible assets

Intangible assets, such as patents or trademarks, can also give rise to deferred taxes. The amortization periods for these assets may differ between tax and book purposes, or an intangible asset might be recognized on the books but not for tax purposes. These discrepancies result in deferred tax assets or liabilities.

Accrued liabilities

You'll find that certain accrued liabilities can create deferred tax assets. This happens when you record an expense for financial reporting before it's deductible for tax purposes. The timing difference results in a future tax benefit, which is recognized as a deferred tax asset.

Inventory valuation methods can also lead to deferred taxes. If you use different inventory costing methods for tax and book purposes, such as LIFO (Last in, first out) for taxes and FIFO (First in, first out) for financial reporting, you'll need to account for the resulting temporary differences through deferred taxes.

But what does LIFO and FIFO mean? Under the LIFO method, you sell your new inventory first. In contrast, FIFO assumes that you're selling your oldest inventory first.

Tax attributes

Tax attributes, including net operating loss carryforwards or tax credit carryforwards, represent potential future tax benefits. These items create deferred tax assets, as they can be used to reduce future taxable income or tax liabilities.

Benefits of deferred tax assets

Recognizing DTAs allows you to provide a more accurate picture of your company's financial position and future tax obligations, helping stakeholders better understand your economic performance. 

Here are a few potential benefits of deferred tax assets:

Reduce future (taxable) income

When temporary differences reverse, DTAs offset your tax liability, effectively lowering the amount of taxes you'll pay in future periods. This reduction in future tax obligations can have a positive impact on your cash flow and overall financial performance.

For example, if you have a DTA from a net operating loss carryforward, you can use it to reduce taxable income in profitable years, potentially saving substantial amounts in tax payments.

Can carry forward indefinitely

The ability to carry forward DTAs indefinitely provides long-term tax planning opportunities and flexibility.

While some jurisdictions may impose time limits on certain tax attributes, many DTAs can be used without expiration. This allows you to benefit from temporary differences even if your company experiences periods of low profitability or losses. 

The indefinite carryforward also means you don't lose the potential tax benefit if you can't use it immediately, enhancing your company's long-term financial stability.

Status as a non-current asset allows for flexibility

Classifying deferred tax assets as non-current assets on your balance sheet offers several advantages:

• Improved financial ratios: As non-current assets, DTAs don't affect your working capital or current ratio, potentially improving your short-term liquidity metrics.
• Long-term planning: The non-current classification aligns with the often long-term nature of temporary differences, allowing for more accurate long-range financial planning.
• Valuation flexibility: You have more leeway in assessing the need for a valuation allowance, as the realization of non-current assets is generally viewed over a longer time horizon.
• Easier management: Grouping all DTAs as non-current simplifies tracking and reporting, especially for companies with complex tax situations across multiple jurisdictions.

Deferred tax asset examples (with calculations)

Deferred tax assets (DTAs) arise from various business activities and accounting practices. To better understand how DTAs work in practice, let's explore three common examples:

Depreciation example

Your company purchases equipment for $100,000. For accounting purposes, you use straight-line depreciation over 5 years, resulting in $20,000 annual depreciation. However, tax regulations allow accelerated depreciation of $40,000 in the first year. This creates a temporary difference:

• Accounting depreciation: $20,000
• Tax depreciation: $40,000
• Temporary difference: $20,000

Assuming a 30% tax rate, your DTA would be:

$20,000 x 30% = $6,000

Warranty expense example

Your company reports $4,000 in revenue and estimates warranty expenses at 2% of revenue ($80). While you recognize this expense for accounting purposes, tax guidelines  don't allow the deduction until you incur the expense. This creates a temporary difference:

• Accounting income: $3,920 ($4,000 - $80)
• Taxable income: $4,000
• Temporary difference: $80

With a 30% tax rate, your DTA would be:

$80 x 30% = $24

Derecognition example

Your company has accumulated $100,000 in tax loss carryforwards, creating a DTA of $30,000 (assuming a 30% tax rate). However, your financial projections show limited profitability in the near future, making it unlikely you'll fully utilize this DTA.

In this case, you'd need to create a valuation allowance to reduce the DTA's carrying value. If you estimate you'll only be able to use $60,000 of the tax losses, you'd record a valuation allowance of:

($100,000 - $60,000) x 30% = $12,000

This reduces your DTA from $30,000 to $18,000, reflecting a more conservative estimate of your future tax benefits.

FAQs about deferred tax assets

Where can i find a deferred tax asset in the balance sheet.

Deferred tax assets are typically found in the non-current assets section of the balance sheet. However, if they're expected to be realized within 12 months, they may be classified as current assets. The exact placement can vary depending on the company's reporting format and the materiality of the asset.

Is a deferred tax asset a current asset?

Deferred tax assets are generally classified as non-current assets. However, if a portion of the deferred tax asset is expected to be realized within the next 12 months, that portion may be classified as a current asset. The classification depends on the expected timing of realization.

Can you net off deferred tax assets and liabilities?

Deferred tax assets and liabilities can be offset if certain conditions are met. This is typically allowed when there's a legally enforceable right to offset current tax assets against current tax liabilities, and when the deferred taxes relate to income taxes levied by the same taxation authority.

Is deferred tax liability a current liability?

Deferred tax liabilities are typically classified as non-current liabilities on the balance sheet. However, similar to deferred tax assets, if a portion is expected to be settled within 12 months, that portion may be classified as a current liability. The classification depends on the expected timing of settlement.

Why would you not recognise a deferred tax asset?

A company might not recognize a deferred tax asset if it's not probable that future taxable profit will be available against which the asset can be utilized.

This often occurs when a company has a history of losses and doesn't expect to generate sufficient taxable profits in the foreseeable future. Deferred tax asset recognition requires a judgment about future profitability.

How do you reverse a deferred tax asset?

A deferred tax asset is reversed when the temporary difference that gave rise to it is reversed or when it's no longer probable that sufficient taxable profit will be available to utilize the asset. This typically involves a debit to tax expense and a credit to the deferred tax asset account. The reversal is recognized in profit or loss.

Do deferred tax assets depreciate?

Deferred tax assets don't depreciate in the traditional sense. However, they are reassessed at each reporting date and may be reduced if it's no longer probable that sufficient taxable profit will be available to allow the benefit to be utilized. This reduction is more akin to an impairment than depreciation.

What is an example of a deferred tax asset?

A common example of a deferred tax asset is unused tax losses carried forward. When a company incurs a loss for tax purposes, it may be allowed to carry this loss forward to offset future taxable income. The potential tax benefit of these losses is recorded as a deferred tax asset, subject to recoverability assessment.

What is the double entry for a deferred tax asset?

When recognizing a deferred tax asset, the typical double entry is a debit to the deferred tax asset account (balance sheet) and a credit to tax expense (income statement). This effectively reduces the current year's tax expense by recognizing a future tax benefit. The exact accounts used may vary depending on the specific circumstances and accounting policies.

Do deferred tax assets carry forward?

Yes, deferred tax assets can carry forward on the balance sheet from one period to the next. They remain on the balance sheet until the temporary difference reverses, the tax benefit is utilized, or it's no longer probable that the benefit will be realized. However, they are subject to regular reassessment for recoverability.

Conclusion: Get better financial insights with Rho

Deferred tax assets play a crucial role in understanding future tax benefits and managing financial reporting. Proper management of DTAs enhances tax planning, optimizes cash flow, and ensures compliance with accounting standards. 

For businesses seeking to streamline financial processes, Rho’s platform provides robust tools for managing expenses, optimizing cash flow, and obtaining real-time financial insights. 

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International Financial Reporting Standard 14  Regulatory Deferral Accounts  (IFRS 14) is set out in paragraphs 1⁠–⁠36 and Appendices A⁠–⁠D. All the paragraphs have equal authority. Paragraphs in  bold type  state the main principles. Terms defined in Appendix A are in  italics  the first time that they appear in the Standard. Definitions of other terms are given in the Glossary for International Financial Reporting Standards. The Standard should be read in the context of its objective and the Basis for Conclusions, the  Preface to IFRS Standards  and the  Conceptual Framework for Financial Reporting .  IAS 8   Accounting Policies, Changes in Accounting Estimates and Errors  provides a basis for selecting and applying accounting policies in the absence of explicit guidance. [ Refer: IAS 8 paragraphs 10⁠–⁠12 . However, in this case, refer also to  IFRS 14 paragraphs 9 ,  10  and  13⁠–⁠15 .]

International Financial Reporting Standard 14 Regulatory Deferral Accounts

(a) limited changes to the accounting policies that were applied in accordance with previous generally accepted accounting principles ( ) for  , which are primarily related to the presentation of these accounts; [Refer: ] and (b) disclosures that: (i) identify and explain the amounts recognised in the entity’s financial statements that arise from rate regulation; and (ii) help users of the financial statements to understand the amount, timing and uncertainty of future cash flows from any regulatory deferral account balances that are recognised. ] to continue to account for   in its financial statements in accordance with its previous GAAP when it adopts IFRS, subject to the limited changes referred to in   above.  and  ] and ]  if and only if it: (a) conducts  ; [Refer: ] and (b) recognised amounts that qualify as   in its financial statements in accordance with its previous GAAP. ] for subsequent periods if and only if, in its  , it recognised   by electing to apply the requirements of this Standard. ,   and  ] . By applying the requirements in this Standard, any amounts that are permitted or required to be recognised as assets or liabilities in accordance with other Standards shall not be included within the amounts classified as . , , , , and ]  that arise from all of the entity’s  . Recognition, measurement, impairment and derecognition Temporary exemption from paragraph 11 of ias 8 accounting policies, changes in accounting estimates and errors.  and that is within the scope of, and elects to apply, this Standard shall apply   and   when developing its accounting policies for the recognition, measurement, impairment and derecognition of  .  to its accounting policies for the recognition, measurement, impairment and derecognition of  . Consequently, entities that recognise regulatory deferral account balances, either as separate items or as part of the carrying value of other assets and liabilities, in accordance with their previous GAAP, are permitted to continue to recognise those balances in accordance with this Standard through the exemption from paragraph 11 of IAS 8, subject to any presentation changes required by  . Continuation of existing accounting policies paragraphs B3⁠–⁠B6 Basis for Conclusions paragraphs BC39 ,  BC59(b)  and  BC66 ] , except for any changes permitted by  . However, the presentation of such amounts shall comply with the presentation requirements of this Standard, which may require changes to the entity’s previous GAAP presentation policies (see  ). consistently in subsequent periods, except for any changes permitted by . Changes in accounting policies . An entity may only change its accounting policies for the recognition, measurement, impairment and derecognition of regulatory deferral account balances if the change makes the financial statements more relevant to the economic decision-making needs of users and no less reliable , or more reliable and no less relevant to those needs. An entity shall judge relevance and reliability using the criteria in  . ]  or   to changes in accounting policy. To justify changing its accounting policies for  , an entity shall demonstrate that the change brings its financial statements closer to meeting the criteria in  . However, the change does not need to achieve full compliance with those criteria for the recognition, measurement, impairment and derecognition of regulatory deferral account balances. apply both to changes made on initial application of this Standard and to changes made in subsequent reporting periods. Interaction with other Standards ). In the absence of any such exception, exemption or additional requirements, other Standards shall apply to   in the same way as they apply to assets, liabilities, income and expenses that are recognised in accordance with other Standards.  that has been measured in accordance with an entity’s accounting policies that are established in accordance with   in order to reflect that balance appropriately in the financial statements. For example, the entity might have   in a foreign country for which the transactions and regulatory deferral account balances are denominated in a currency that is not the functional currency [Refer:  and  ] of the reporting entity. The regulatory deferral account balances and the movements in those balances are translated by applying   The Effects of Changes in Foreign Exchange Rates. Presentation Disclosure of regulatory deferral accounts [text block] Text block IFRS 14 - Disclosure 800500, 824500 Basis for Conclusions paragraphs BC19 , BC21 , BC36 , BC40⁠–⁠BC46 , BC68⁠–⁠BC71 and BC73⁠–⁠BC79 Illustrative Examples, example 1 paragraph IE1 and example 2 ] Changes in presentation , for   that are recognised in accordance with  . When this Standard is applied, the regulatory deferral account balances are recognised in the statement of financial position in addition to the assets and liabilities that are recognised in accordance with other Standards. These presentation requirements separate the impact of recognising regulatory deferral account balances from the financial reporting requirements of other Standards.  Presentation of Financial Statements, an entity applying this Standard shall present all   and the movements in those balances in accordance with  . Classification of  regulatory deferral account balances Illustrative Examples, example 1 Statement of financial position  and  example 2 Statement of financial position Basis for Conclusions paragraph BC67 ] (a) the total of all regulatory deferral account debit balances; and Regulatory deferral account debit balances Monetary IFRS 14.33 a IFRS 14.35 824500 the total of all regulatory deferral account credit balances. Regulatory deferral account credit balances Monetary IFRS 14.33 a IFRS 14.35 824500 ] it shall not classify the totals of   as current or non-current. Instead, the separate line items required by   shall be distinguished from the assets and liabilities that are presented in accordance with other Standards by the use of sub-totals, which are drawn before the regulatory deferral account balances are presented. ] Assets and regulatory deferral account debit balances Monetary 824500 Equity, liabilities and regulatory deferral account credit balances Monetary 824500 Classification of movements in  regulatory deferral account balances  for the reporting period that relate to items recognised in other comprehensive income. Separate line items shall be used for the net movement related to items that, in accordance with other Standards: (a) will not be reclassified subsequently to profit or loss; and Income tax relating to net movement in regulatory deferral account balances related to items that will not be reclassified to profit or loss Monetary 824500 Other comprehensive income, before tax, net movement in regulatory deferral account balances related to items that will not be reclassified to profit or loss Monetary 824500 Other comprehensive income, net of tax, net movement in regulatory deferral account balances related to items that will not be reclassified to profit or loss Monetary IFRS 14.35 824500 will be reclassified subsequently to profit or loss when specific conditions are met. Gains (losses) on net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss, before tax Monetary 824500 Gains (losses) on net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss, net of tax Monetary 824500 Income tax relating to net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss Monetary 824500 Other comprehensive income, before tax, net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss Monetary 824500 Other comprehensive income, net of tax, net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss Monetary IFRS 14.35 824500 Reclassification adjustments on net movement in regulatory deferral account balances, before tax Monetary 824500 Reclassification adjustments on net movement in regulatory deferral account balances, net of tax Monetary 824500 IAS 1 paragraph 82A Basis for Conclusions paragraphs BC59(c)  and  BC67 Illustrative Examples, example 1 Statement of profit or loss and other comprehensive income  and  example 2 Statement of profit or loss and other comprehensive income ]  for the reporting period, excluding movements that are not reflected in profit or loss, such as amounts acquired. [Refer: ] This separate line item shall be distinguished from the income and expenses that are presented in accordance with other Standards by the use of a sub-total, which is drawn before the net movement in regulatory deferral account balances.    and   and  ] Profit (loss), including net movement in regulatory deferral account balances related to profit or loss and net movement in related deferred tax, attributable to non-controlling interests Monetary IFRS 14.IE1 824500 Profit (loss), including net movement in regulatory deferral account balances related to profit or loss and net movement in related deferred tax, attributable to owners of parent Monetary IFRS 14.IE1 824500 Net movement in regulatory deferral account balances related to profit or loss Monetary IFRS 14.35 824500 Profit (loss), including net movement in regulatory deferral account balances related to profit or loss and net movement in related deferred tax Monetary 824500 , the entity shall present the resulting deferred tax asset (liability) and the related movement in that deferred tax asset (liability) with the related regulatory deferral account balances and movements in those balances, instead of within the total presented in accordance with   Income Taxes for deferred tax assets (liabilities) and the tax expense (income) (see  ). ] Deferred tax asset associated with regulatory deferral account balances Monetary IFRS 14.B11 b 824500 Deferred tax liability associated with regulatory deferral account balances Monetary IFRS 14.B11 b 824500 Net movement in deferred tax arising from regulatory deferral account balances related to profit or loss Monetary IFRS 14.B12 b 824500 Net movement in regulatory deferral account balances related to profit or loss and net movement in related deferred tax Monetary IFRS 14.B12 a 824500 Regulatory deferral account credit balances and related deferred tax liability Monetary IFRS 14.B11 a 824500 Regulatory deferral account debit balances and related deferred tax asset Monetary IFRS 14.B11 a 824500  Non-current Assets Held for Sale and Discontinued Operations, the entity shall present any related   and the net movement in those balances, as applicable, with the regulatory deferral account balances and movements in those balances, instead of within the disposal groups or discontinued operations (see  ). ] Net movement in regulatory deferral account balances related to profit or loss directly associated with discontinued operation Monetary 824500 Regulatory deferral account credit balances directly related to disposal group Monetary 824500 Regulatory deferral account debit balances directly related to disposal group Monetary 824500 Net movement in other regulatory deferral account balances related to profit or loss Monetary IFRS 14.IE5 824500 Other regulatory deferral account credit balances Monetary IFRS 14.IE5 824500 Other regulatory deferral account debit balances Monetary IFRS 14.IE5 824500  Earnings per Share, the entity shall present additional basic and diluted earnings per share, which are calculated using the earnings amounts required by IAS 33 but excluding the movements in   (see  ). ] Basic earnings (loss) per share from continuing operations, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Basic earnings (loss) per share from discontinued operations, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Basic earnings (loss) per share, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Diluted earnings (loss) per share from continuing operations, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Diluted earnings (loss) per share from discontinued operations, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Diluted earnings (loss) per share, including net movement in regulatory deferral account balances and net movement in related deferred tax Per share IAS 33.67 824500 Disclosure of regulatory deferral accounts [text block] Text block IFRS 14 - Presentation 800500, 824500  paragraphs 1.2⁠–⁠1.10 and  ] to assess: (a) the nature of, and the risks associated with, the   that establishes the price(s) that the entity can charge customers for the goods or services it provides; and (b) the effects of that rate regulation on its financial position, financial performance and cash flows. are not considered relevant to meet the objective in , they may be omitted from the financial statements. If the disclosures provided in accordance with paragraphs 30⁠–⁠36 are insufficient to meet the objective in paragraph 27, an entity shall disclose additional information that is necessary to meet that objective. and ] , an entity shall consider all of the following: (a) the level of detail that is necessary to satisfy the disclosure requirements; (b) how much emphasis to place on each of the various requirements; (c) how much aggregation or disaggregation to undertake; and (d) whether users [Refer:  paragraphs 1.2⁠–⁠1.10 and  ] of financial statements need additional information to evaluate the quantitative information disclosed. Explanation of activities subject to  rate regulation Disclosure of information about activities subject to rate regulation [table] Table 824500 Disclosure of information about activities subject to rate regulation [text block] Text block 824500  paragraphs 1.2⁠–⁠1.10 and  ] of the financial statements assess the nature of, and the risks associated with, the entity’s  , an entity shall, for each type of rate-regulated activity, disclose: (a) a brief description of the nature and extent of the rate-regulated activity and the nature of the regulatory rate-setting process; Description of nature and extent of rate-regulated activity Text 824500 Description of nature of regulatory rate-setting process Text 824500 the identity of the  rate regulator (s). If the rate regulator is a  related party (as defined in  IAS 24   Related Party Disclosures ) , the entity shall disclose that fact, together with an explanation of how it is related; Description of identity of rate regulator(s) Text 824500 Explanation of how rate regulator is related Text 824500 Statement that rate regulator is related party Text 824500 how the future recovery of each class (ie each type of cost or income) of regulatory deferral account debit balance or reversal of each class of regulatory deferral account credit balance is affected by risks and uncertainty, for example: (i) demand risk (for example, changes in consumer attitudes, the availability of alternative sources of supply or the level of competition); (ii) regulatory risk (for example, the submission or approval of a rate-setting application or the entity’s assessment of the expected future regulatory actions); and (iii) other risks (for example, currency or other market risks). Classes of regulatory deferral account balances [axis] Axis IFRS 14.33 824500, 990000 Classes of regulatory deferral account balances [member] Member IFRS 14.33 824500, 990000 Description of how future recovery or reversal of regulatory deferral account balances is affected by risks and uncertainty Text 824500 Rate-regulated activities [member] Member IFRS 14.33 824500, 990000 Types of rate-regulated activities [axis] Axis IFRS 14.33 824500, 990000 shall be given in the financial statements [Refer: ] either directly in the notes or incorporated by cross-reference from the financial statements to some other statement, such as a management commentary or risk report, that is available to users of the financial statements on the same terms as the financial statements and at the same time. If the information is not included in the financial statements directly or incorporated by cross-reference, the financial statements are incomplete. ] Description of cross-reference to disclosures about activities subject to rate regulation Text 824500 Explanation of recognised amounts Disclosure of information about amounts recognised in relation to regulatory deferral account balances [table] Table 824500 Disclosure of information about amounts recognised in relation to regulatory deferral account balances [text block] Text block 824500  are recognised and derecognised, and how they are measured initially and subsequently, including how regulatory deferral account balances are assessed for recoverability and how any impairment loss is allocated. [Refer: ] Description of basis on which regulatory deferral account balances are recognised and derecognised, and how they are measured initially and subsequently Text 824500 , an entity shall disclose the following information for each class of  : (a) a reconciliation of the carrying amount at the beginning and the end of the period, in a table unless another format is more appropriate. [Refer:  and  ] The entity shall apply judgement in deciding the level of detail necessary (see  ), but the following components would usually be relevant: (i) the amounts that have been recognised in the current period in the statement of financial position as regulatory deferral account balances; Increase (decrease) through balances recognised in current period in statement of financial position, regulatory deferral account credit balances Monetary 824500 Increase (decrease) through balances recognised in current period in statement of financial position, regulatory deferral account debit balances Monetary 824500 the amounts that have been recognised in the statement(s) of profit or loss and other comprehensive income relating to balances that have been recovered (sometimes described as amortised) or reversed in the current period; and Decrease through balances recovered in current period, regulatory deferral account debit balances Monetary 824500 Decrease through balances reversed in current period, regulatory deferral account credit balances Monetary 824500 other amounts, separately identified, that affected the regulatory deferral account balances, such as impairments, items acquired or assumed in a business combination, items disposed of, or the effects of changes in foreign exchange rates or discount rates; Decrease through disposals, regulatory deferral account credit balances Monetary 824500 Decrease through disposals, regulatory deferral account debit balances Monetary 824500 Decrease through impairments, regulatory deferral account debit balances Monetary 824500 Increase (decrease) through changes in discount rates, regulatory deferral account credit balances Monetary 824500 Increase (decrease) through changes in discount rates, regulatory deferral account debit balances Monetary 824500 Increase (decrease) through changes in foreign exchange rates, regulatory deferral account credit balances Monetary 824500 Increase (decrease) through changes in foreign exchange rates, regulatory deferral account debit balances Monetary 824500 Increase (decrease) through other changes, regulatory deferral account credit balances Monetary 824500 Increase (decrease) through other changes, regulatory deferral account debit balances Monetary 824500 Increase (decrease) through transfers to disposal groups, regulatory deferral account credit balances Monetary IFRS 14.IE5 824500 Increase (decrease) through transfers to disposal groups, regulatory deferral account debit balances Monetary IFRS 14.IE5 824500 Increase through items acquired in business combination, regulatory deferral account debit balances Monetary 824500 Increase through items assumed in business combination, regulatory deferral account credit balances Monetary 824500 Increase (decrease) in regulatory deferral account credit balances Monetary 824500 Increase (decrease) in regulatory deferral account debit balances Monetary 824500 Regulatory deferral account credit balances Monetary IFRS 14.20 b IFRS 14.35 824500 Regulatory deferral account debit balances Monetary IFRS 14.20 a IFRS 14.35 824500 the rate of return or discount rate (including a zero rate or a range of rates, when applicable) used to reflect the time value of money that is applicable to each class of regulatory deferral account balance; and Bottom of range [member] Member IFRS 13.B6 IFRS 13.IE63 IFRS 17.120 IFRS 2.45 d IFRS 7.7 822390, 823000, 824500, 834120, 836600 Discount rate used to reflect time value of money, regulatory deferral account balances Percent 824500 Range [axis] Axis IFRS 13.B6 IFRS 13.IE63 IFRS 17.120 IFRS 2.45 d IFRS 7.7 822390, 823000, 824500, 834120, 836600, 990000 Ranges [member] Member IFRS 13.B6 IFRS 13.IE63 IFRS 17.120 IFRS 2.45 d IFRS 7.7 822390, 823000, 824500, 834120, 836600, 990000 Rate of return used to reflect time value of money, regulatory deferral account balances Percent 824500 Top of range [member] Member IFRS 13.B6 IFRS 13.IE63 IFRS 17.120 IFRS 2.45 d IFRS 7.7 822390, 823000, 824500, 834120, 836600 Weighted average [member] Member IFRS 13.B6 IFRS 13.IE63 IFRS 17.120 IFRS 7.7 822390, 823000, 824500, 836600 the remaining periods over which the entity expects to recover (or amortise) the carrying amount of each class of regulatory deferral account debit balance or to reverse each class of regulatory deferral account credit balance. Remaining recovery period of regulatory deferral account debit balances Duration 824500 Remaining reversal period of regulatory deferral account credit balances Duration 824500 Electricity distribution [member] Member IFRS 14.IE2 824500 Gas distribution [member] Member IFRS 14.IE2 824500 Classes of regulatory deferral account balances [axis] Axis IFRS 14.30 c 824500, 990000 Classes of regulatory deferral account balances [member] Member IFRS 14.30 c 824500, 990000 Rate-regulated activities [member] Member IFRS 14.30 824500, 990000 Types of rate-regulated activities [axis] Axis IFRS 14.30 824500, 990000  affects the amount and timing of an entity’s income tax expense (income), the entity shall disclose the impact of the rate regulation on the amounts of current and deferred tax recognised. [Refer: ] In addition, the entity shall separately disclose any   that relates to taxation and the related movement in that balance. Description of impact of rate regulation on current and deferred tax Text 824500 Increase (decrease) in current tax expense (income) due to rate regulation Monetary 824500 Increase (decrease) in deferred tax expense (income) due to rate regulation Monetary 824500 Taxation-related regulatory deferral account balances [member] Member 824500  Disclosure of Interests in Other Entities for an interest in a subsidiary, associate or joint venture that has   and for which   are recognised in accordance with this Standard, the entity shall disclose the amounts that are included for the regulatory deferral account debit and credit balances and the net movement in those balances for the interests disclosed (see  ). Net movement in regulatory deferral account balances related to profit or loss Monetary IFRS 14.23 824500 Other comprehensive income, net of tax, net movement in regulatory deferral account balances related to items that will be reclassified to profit or loss Monetary IFRS 14.22 b 824500 Other comprehensive income, net of tax, net movement in regulatory deferral account balances related to items that will not be reclassified to profit or loss Monetary IFRS 14.22 a 824500 Regulatory deferral account credit balances Monetary IFRS 14.20 b IFRS 14.33 a 824500 Regulatory deferral account debit balances Monetary IFRS 14.20 a IFRS 14.33 a 824500  is no longer fully recoverable or reversible, it shall disclose that fact, the reason why it is not recoverable or reversible and the amount by which the regulatory deferral account balance has been reduced. Amount by which regulatory deferral account credit balance has been reduced because it is no longer fully reversible Monetary 824500 Amount by which regulatory deferral account debit balance has been reduced because it is no longer fully recoverable Monetary 824500 Description of reason why regulatory deferral account balance is no longer fully recoverable or reversible Text 824500 Statement that regulatory deferral account balance is no longer fully recoverable or reversible Text 824500 Appendix A Defined terms This appendix is an integral part of the Standard. The first annual financial statements in which an entity adopts International Financial Reporting Standards (IFRS), by an explicit and unreserved statement of compliance with IFRS. [ Refer: IFRS 1 paragraphs 3⁠–⁠4A ] An entity that presents its first IFRS financial statements . The basis of accounting that a first-time adopter used immediately before adopting IFRS. An entity’s activities that are subject to rate regulation . [ Refer: paragraphs B1 and B2 ] A framework for establishing the prices that can be charged to customers for goods or services and that framework is subject to oversight and/or approval by a rate regulator . [ Refer: Basis for Conclusions paragraphs BC22⁠–⁠BC24 and BC55⁠–⁠BC57 ] An authorised body that is empowered by statute or regulation to establish the rate or a range of rates that bind an entity. The rate regulator may be a third-party body or a related party of the entity, including the entity’s own governing board, if that body is required by statute or regulation to set rates both in the interest of the customers and to ensure the overall financial viability of the entity. [ Refer: Basis for Conclusions paragraphs BC22⁠–⁠BC24 and BC55⁠–⁠BC57 ] The balance of any expense (or income) account that would not be recognised as an asset or a liability in accordance with other Standards, but that qualifies for deferral because it is included, or is expected to be included, by the rate regulator in establishing the rate(s) that can be charged to customers. Basis for Conclusions paragraphs BC2 , BC11 , BC12 and BC21 ] Appendix B Application Guidance Rate-regulated activities.  applied to all activities of an entity. However, with acquisitions, diversification and deregulation, rate regulation may now apply to only a portion of an entity’s activities, resulting in it having both regulated and non-regulated activities. This Standard applies only to the   that are subject to statutory or regulatory restrictions through the actions of a  , regardless of the type of entity or the industry to which it belongs. ] . This does not prevent the entity from being eligible to apply this Standard when: (a) the entity’s own governing body or a related party establishes rates both in the interest of the customers and to ensure the overall financial viability of the entity within a specified pricing framework; and (b) the framework is subject to oversight and/or approval by an authorised body that is empowered by statute or regulation.  in establishing the rate(s) that can be charged to customers. Some items of expense (income) may be outside the regulated rate(s) because, for example, the amounts are not expected to be accepted by the rate regulator or because they are not within the scope of the  . Consequently, such an item is recognised as income or expense as incurred, unless another Standard permits or requires it to be included in the carrying amount of an asset or liability.  that might be recognised, either separately or included within other line items such as property, plant and equipment in accordance with previous GAAP accounting policies. However, in accordance with paragraph 11 of this Standard, an entity that elects to apply this Standard in its   applies the exemption from   in order to continue to apply its previous GAAP accounting policies for the recognition, measurement, impairment, and derecognition of regulatory deferral account balances. Such accounting policies may include, for example, the following practices: (a) recognising a regulatory deferral account debit balance when the entity has the right, as a result of the actual or expected actions of the  , to increase rates in future periods in order to recover its allowable costs (ie the costs for which the regulated rate(s) is intended to provide recovery); (b) recognising, as a regulatory deferral account debit or credit balance, an amount that is equivalent to any loss or gain on the disposal or retirement of both items of property, plant and equipment and of intangible assets, which is expected to be recovered or reversed through future rates; (c) recognising a regulatory deferral account credit balance when the entity is required, as a result of the actual or expected actions of the rate regulator, to decrease rates in future periods in order to reverse over-recoveries of allowable costs (ie amounts in excess of the recoverable amount specified by the rate regulator); and (d) measuring regulatory deferral account balances on an undiscounted basis or on a discounted basis that uses an interest or discount rate specified by the rate regulator.  might allow in rate-setting decisions and that an entity might, therefore, recognise in  : (i) volume or purchase price variances; (ii) costs of approved ‘green energy’ initiatives (in excess of amounts that are capitalised as part of the cost of property, plant and equipment in accordance with IAS 16 Property, Plant and Equipment); (iii) non-directly-attributable overhead costs that are treated as capital costs for   purposes (but are not permitted, in accordance with IAS 16, to be included in the cost of an item of property, plant and equipment); (iv) project cancellation costs; (v) storm damage costs; and (vi) deemed interest (including amounts allowed for funds that are used during construction that provide the entity with a return on the owner’s equity capital as well as borrowings).  usually represent timing differences between the recognition of items of income or expenses for regulatory purposes and the recognition of those items for financial reporting purposes. When an entity changes an accounting policy on the first-time adoption of IFRS or on the initial application of a new or revised Standard, new or revised timing differences may arise that create new or revised regulatory deferral account balances. The prohibition in   that prevents an entity from changing its accounting policy in order to start to recognise regulatory deferral account balances does not prohibit the recognition of the new or revised regulatory deferral account balances that are created because of other changes in accounting policies required by IFRS. This is because the recognition of regulatory deferral account balances for such timing differences would be consistent with the existing recognition policy applied in accordance with   and would not represent the introduction of a new accounting policy. Similarly, paragraph 13 does not prohibit the recognition of regulatory deferral account balances arising from timing differences that did not exist immediately prior to the date of transition to IFRS but are consistent with the entity’s accounting policies established in accordance with paragraph 11 (for example, storm damage costs). [Refer: ] Applicability of other Standards . However,   state that, in some situations, other Standards might also need to be applied to regulatory deferral account balances in order to reflect them appropriately in the financial statements. The following paragraphs outline how some other Standards interact with the requirements of this Standard. In particular, the following paragraphs clarify specific exceptions to, and exemptions from, other Standards and additional presentation and disclosure requirements that are expected to be applicable. Application of IAS 10 Events after the Reporting Period . For events that occur between the end of the reporting period and the date when the financial statements are authorised for issue, [Refer: ] the entity shall apply IAS 10 to identify whether those estimates and assumptions should be adjusted to reflect those events. ] Application of IAS 12 Income Taxes ] A rate-regulated entity shall apply IAS 12 to all of its activities, including its  , to identify the amount of income tax that is to be recognised.  permits or requires an entity to increase its future rates in order to recover some or all of the entity’s income tax expense. In such circumstances, this might result in the entity recognising a  in the statement of financial position related to income tax, in accordance with its accounting policies established in accordance with  . The recognition of this regulatory deferral account balance that relates to income tax might itself create an additional temporary difference [Refer: ] for which a further deferred tax amount would be recognised. , the entity shall not include that deferred tax amount within the total deferred tax asset (liability) balances. Instead, the entity shall present the deferred tax asset (liability) that arises as a result of recognising regulatory deferral account balances either: (a) with the line items that are presented for the regulatory deferral account debit balances and credit balances; [Refer: ] or Regulatory deferral account credit balances and related deferred tax liability Monetary IFRS 14.24 824500 Regulatory deferral account debit balances and related deferred tax asset Monetary IFRS 14.24 824500 as a separate line item alongside the related regulatory deferral account debit balances and credit balances. [ Refer: Illustrative Examples, example 2 Statement of financial position ] Deferred tax asset associated with regulatory deferral account balances Monetary IFRS 14.24 824500 Deferred tax liability associated with regulatory deferral account balances Monetary IFRS 14.24 824500 , the entity shall not include the movement in that deferred tax amount within the tax expense (income) line item that is presented in the statement(s) of profit or loss and other comprehensive income in accordance with IAS 12. Instead, the entity shall present the movement in the deferred tax asset (liability) that arises as a result of recognising regulatory deferral account balances either: (a) with the line items that are presented in the statement(s) of profit or loss and other comprehensive income for the movements in regulatory deferral account balances; [Refer: ] or Net movement in regulatory deferral account balances related to profit or loss and net movement in related deferred tax Monetary IFRS 14.24 824500 as a separate line item alongside the related line items that are presented in the statement(s) of profit or loss and other comprehensive income for the movements in regulatory deferral account balances. [ Refer: Illustrative Examples, example 2 Statement of profit or loss and other comprehensive income ] Net movement in deferred tax arising from regulatory deferral account balances related to profit or loss Monetary IFRS 14.24 824500 Application of IAS 33 Earnings per Share requires some entities to present, in the statement of profit or loss and other comprehensive income, basic and diluted earnings per share both for profit or loss from continuing operations and profit or loss that is attributable to the ordinary equity holders of the parent entity. In addition, requires an entity that reports a discontinued operation to disclose the basic and diluted amounts per share for the discontinued operation, either in the statement of profit or loss and other comprehensive income or in the notes. , an entity shall present the earnings per share required by   of this Standard with equal prominence to the earnings per share required by IAS 33 for all periods presented.   ] Application of IAS 36 Impairment of Assets  require an entity to continue to apply its previous GAAP accounting policies for the identification, recognition, measurement and reversal of any impairment of its recognised  . Consequently, IAS 36 does not apply to the separate regulatory deferral account balances recognised. ]  (definition of cash-generating unit)] that includes  . This test might be required because the CGU contains goodwill, [Refer: ] or because one or more of the impairment indicators described in IAS 36 [Refer:  and  ] have been identified relating to the CGU. In such situations,   contain requirements for identifying the recoverable amount and the carrying amount of a CGU. An entity shall apply those requirements to decide whether any of the regulatory deferral account balances recognised are included in the carrying amount of the CGU for the purpose of the impairment test. The remaining requirements of IAS 36 shall then be applied to any impairment loss that is recognised as a result of this test. Application of IFRS 3 Business Combinations ) and, for business, ] recognises the assets acquired and the liabilities assumed at their acquisition-date fair values. IFRS 3 provides limited exceptions to its recognition and measurement principles. of this Standard provides an additional exception.  require an entity to continue to apply its previous GAAP accounting policies for the recognition, measurement, impairment and derecognition of  . Consequently, if an entity acquires a business [Refer:  and  ], it shall apply, in its consolidated financial statements, its accounting policies established in accordance with paragraphs 11⁠–⁠12 for the recognition and measurement of the acquiree’s regulatory deferral account balances at the date of acquisition. [Refer: ] The acquiree’s regulatory deferral account balances shall be recognised in the consolidated financial statements of the acquirer in accordance with the acquirer’s policies, irrespective of whether the acquiree recognises those balances in its own financial statements. Application of IFRS 5 Non-current Assets Held for Sale and Discontinued Operations  require an entity to continue to apply its previous accounting policies for the recognition, measurement, impairment and derecognition of  . Consequently, the measurement requirements of IFRS 5 [Refer: ] shall not apply to the regulatory deferral account balances recognised.  requires a single amount to be presented for discontinued operations [Refer: ] in the statement(s) of profit or loss and other comprehensive income. Notwithstanding the requirements of that paragraph, when an entity that elects to apply this Standard presents a discontinued operation, it shall not include the movement in   that arose from the   of the discontinued operation within the line items that are required by paragraph 33 of IFRS 5. Instead, the entity shall present the movement in regulatory deferral account balances that arose from the rate-regulated activities of the discontinued operation either: (a) within the line item that is presented for movements in the regulatory deferral account balances related to profit or loss; or (b) as a separate line item alongside the related line item that is presented for movements in the regulatory deferral account balances related to profit or loss. , when an entity presents a disposal group, [Refer: ] the entity shall not include the total of the regulatory deferral account debit balances and credit balances that are part of the disposal group within the line items that are required by paragraph 38 of IFRS 5. Instead, the entity shall present the total of the regulatory deferral account debit balances and credit balances that are part of the disposal group either: (a) within the line items that are presented for the regulatory deferral account debit balances and credit balances; or (b) as separate line items alongside the other regulatory deferral account debit balances and credit balances.  and movements in those balances that are related to the disposal group or discontinued operation within the related regulated deferral account line items, it may be necessary to disclose them separately as part of the analysis of the regulatory deferral account line items described by   of this Standard. Regulatory deferral account balances [axis] Axis 824500, 990000 Regulatory deferral account balances [member] Member 824500, 990000 Regulatory deferral account balances classified as disposal groups [member] Member 824500 Regulatory deferral account balances not classified as disposal groups [member] Member 824500 Application of IFRS 10 Consolidated Financial Statements and IAS 28 Investments in Associates and Joint Ventures  requires that a “parent shall prepare consolidated financial statements using uniform accounting policies for like transactions and other events in similar circumstances”.   of this Standard requires that an entity that is within the scope of, and elects to apply, this Standard shall apply all of its requirements to all   arising from all of the entity’s  . Consequently, if a parent recognises regulatory deferral account balances in its consolidated financial statements in accordance with this Standard, it shall apply the same accounting policies to the regulatory deferral account balances arising in all of its subsidiaries. This shall apply irrespective of whether the subsidiaries recognise those balances in their own financial statements. require that, in applying the equity method, an “entity’s financial statements shall be prepared using uniform accounting policies for like transactions and events in similar circumstances”. Consequently, adjustments shall be made to make the associate’s or joint venture’s accounting policies for the recognition, measurement, impairment and derecognition of regulatory deferral account balances conform to those of the investing entity in applying the equity method. Application of IFRS 12 Disclosure of Interests in Other Entities  requires an entity to disclose, for each of its subsidiaries that have non-controlling interests that are material to the reporting entity, the profit or loss that was allocated to non-controlling interests of the subsidiary during the reporting period. An entity that recognises   in accordance with this Standard shall disclose the net movement in regulatory deferral account balances that is included within the amounts that are required to be disclosed by paragraph 12(e) of IFRS 12. Net movement in regulatory deferral account balances related to profit or loss, attributable to non-controlling interests Monetary 824500 requires an entity to disclose, for each of its subsidiaries that have non-controlling interests that are material to the reporting entity, summarised financial information about the subsidiary, as specified in . Similarly, requires an entity to disclose, for each joint venture and associate that is material to the reporting entity, summarised financial information as specified in . specifies the summary financial information that an entity is required to disclose for all other associates and joint ventures that are not individually material in accordance with . , , , and , an entity that recognises in accordance with this Standard shall also disclose the total regulatory deferral account debit balance, the total regulatory deferral account credit balance and the net movements in those balances, split between amounts recognised in profit or loss and amounts recognised in other comprehensive income, for each entity for which those IFRS 12 disclosures are required. specifies the information that an entity is required to disclose when the entity recognises a gain or loss on losing control of a subsidiary calculated in accordance with . In addition to the information required by paragraph 19 of IFRS 12, an entity that elects to apply this Standard shall disclose the portion of that gain or loss that is attributable to derecognising regulatory deferral account balances in the former subsidiary at the date when control is lost. Portion of gains (losses) recognised when control of subsidiary is lost, attributable to derecognising regulatory deferral account balances in former subsidiary Monetary 824500 Appendix C Effective date and transition Effective date and transition, effective date.  are for a period beginning on or after 1 January 2016. Earlier application is permitted. If an entity applies this Standard in its first annual IFRS financial statements for an earlier period, it shall disclose that fact. ] Appendix D Consequential amendments to IFRS 1 First-time Adoption of International Financial Reporting Standards This appendix sets out an amendment to IFRS 1 First-time Adoption of International Financial Reporting Standards that is a consequence of the IASB issuing IFRS 14. An entity shall apply the amendment for annual periods beginning on or after 1 January 2016. Earlier application is permitted. If an entity applies IFRS 14 for an earlier period, the amendment shall be applied for that earlier period. * * * * * The amendment contained in this appendix when this IFRS was issued in 2014 has been incorporated into the text of IFRS 1 published in this volume. Board Approvals Approval by the board of ifrs 14 regulatory deferral accounts issued in january 2014. International Financial Reporting Standard 14 Regulatory Deferral Accounts was approved for issue by thirteen of the sixteen members of the International Accounting Standards Board. Messrs Edelmann, Gomes and Zhang voted against its publication. Their dissenting opinions are set out after the Basis for Conclusions. Hans Hoogervorst Chairman Ian Mackintosh Vice-Chairman Stephen Cooper Philippe Danjou Martin Edelmann Jan Engström Patrick Finnegan Amaro Luiz de Oliveira Gomes Gary Kabureck Prabhakar Kalavacherla Patricia McConnell Takatsugu Ochi Darrel Scott Chungwoo Suh Mary Tokar Wei-Guo Zhang 1 In 2010, the IASB replaced the IASC’s Framework for the Preparation and Presentation of Financial Statements adopted by the IASB in 2001 ( ) with the Conceptual Framework for Financial Reporting (Conceptual Framework). 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Although the review does not identify any obvious issues in relation to the amount of deferred tax recognised, it does note that in some cases it was difficult to make a full assessment due to the lack of informative disclosure. Consequently, the principal findings are in relation to disclosures. By providing extracts from certain annual reports and accounts, the report aims to demonstrate the characteristics of better disclosure of deferred tax asset information. Specificity of convincing evidence  The FRC notes that most loss-making companies gave only boilerplate disclosures about the nature of evidence used to assess the recoverability of net deferred tax assets. Disclosures should provide company-specific information about the nature of convincing evidence supporting the recognition of deferred tax assets, especially when there is a recent history of losses. The better disclosures refer either to specific improvements in profitability expected to occur in the forecast period, or to the loss having been the result of a one-off event. The report provides examples of positive and negative evidence relevant to assessing the probability that future taxable profits will be available. Reassessing the level of recognition of deferred tax assets may be required when there are material changes to the deferred tax liabilities in the same taxable entity and tax jurisdiction. Judgements and estimates  Although the FRC noted a general improvement in the disclosure of judgements and estimates in another recent thematic review , it found this not to be the case when it came to those related to deferred tax assets.  It also found minimal disclosure of the specific nature of key judgements and major sources of estimation uncertainty, with very few companies disclosing sensitivities to changes in assumptions or the range of possible outcomes within the next financial year. Companies are reminded to ensure such disclosures are made.  Transparency In some cases, disclosures required by IAS 12 were omitted or disclosed material deferred tax balances, or movements in balances, that were not explained in the accounts. It is important to provide disaggregated information about material components of the tax expense and deferred tax balances to assist users of the financial statements understand tax-related information. The report highlights good examples of informative, transparent tax disclosures, reflecting the requirements of IAS 12 as well as the expectations set out in the ESMA public statement and the FRC’s previous thematic review of tax disclosures in 2016 . Examples include disclosure of the expected period of recovery of deferred tax assets, and geographical analysis of tax disclosures.  Consistency Deferred tax disclosures should be transparent, informative and consistent across the annual report and accounts (eg, with other tax disclosures and/or the narrative tax disclosures included in the strategic report). In addition, the underlying assumptions used in companies’ estimates of future taxable profit should be consistent with their impairment, viability and going-concern forecasts (subject to some specific differences).  Climate change A small number of companies specifically disclosed that the potential effect of climate change on the recoverability of deferred tax assets had been considered. However, there should be an explanation of the extent to which climate-change risks have been reflected in deferred tax judgements and estimates, which should also be consistent with the degree of emphasis placed on those risks in the narrative reporting. With the goal of providing high-quality disclosures in mind, companies are encouraged to consider the FRC’s key findings and expectations set out in the thematic review when drafting their upcoming annual reports and accounts.  Read the FRC’s full report: Thematic Review: Deferred tax assets   View our standard tracker page on IAS 12 Income Taxes at icaew.com/ias12 The Financial Reporting Faculty has a range of resources on IFRS requirements available through our IFRS hub Latest viewpoints Latest tax news How volunteering for ICAEW can count towards CPD Economic update: Is the UK economy flattering to deceive? How can you foster a culture of innovation in your organisation? 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Add Verified CPD Activity Introducing AddCPD, a new way to record your CPD activities! Add this page to your cpd activity, step 1 of 3, download recorded, download not recorded. Please download the related document if you wish to add this activity to your record Step 2 of 3 Add activity to my record, step 3 of 3, activity added, an error has occurred please try again. Read out this code to the operator. AI Summary to Minimize your effort Deferred Tax Asset and Deferred Tax Liability Updated on : Jun 6th, 2024 Deferred Tax Liability (DTL) or Deferred Tax Asset (DTA) forms an important part of Financial Statements. This adjustment made at year-end closing of Books of Accounts affects the Income-tax outgo of the Business for that year as well as the years ahead. Here is a write up on all about DTL/DTA, how it’s calculated and certain specific implications.  Timing Difference Company derives its book profits from the financial statements prepared in accordance with the rules of the Companies Act and calculates its taxable profit based on provision of the Income Tax Act. There is a difference between the book profit and taxable profit because of certain items which are specifically allowed or disallowed each year for tax purposes. This difference between the book and the taxable income or expense is known as timing difference and it can be either of the following: Temporary Difference – Differences between book income and tax income which is capable of being reversed in subsequent period Permanent Difference – Differences between book income and tax income which is not capable of being reversed in subsequent period Deferred Tax (DT) The tax effect due to the timing differences is termed as deferred tax which literally refers to the taxes postponed. Deferred tax is recognised on all timing differences – Temporary and Permanent. These deferred taxes are given effect to in the financial statements through Deferred Tax Asset and Liability as under: 1 Book profit higher than the Taxable profit Pay less tax now Pay more tax in future Creates Deferred Tax Liability (DTL) 2 Book profit is less than the Taxable profit Pay more tax now Pay less tax in future Creates Deferred Tax Asset (DTA) With respect to timing differences related to unabsorbed depreciation or carry forward losses, DTA is recognised only if there is future virtual certainty. It means DTA can be realised only when the company reliably estimates sufficient future taxable income. This test for virtual certainty has to be done every year on balance sheet date and if the condition is not fulfilled, such DTA/DTL should be written off. While computing future taxable income, only profits pertaining to business and profession should be considered and not the income from other sources. Example for Virtual Certainty A projection of future profits prepared by an entity based on the future restructuring, sales estimation, future capital expenditure past experience etc which are submitted to banks for loan is concrete evidence for virtual certainty. But virtual certainty cannot be convincing if it’s only based on some binding export order which has the risk of cancellation anytime. Virtual certainty must be based on projections that are more likely in future. Example of Deferred Tax Asset and Liability DTA – Suppose, book profit of an entity before taxes is Rs 1,000 and this includes provision for bad debts of Rs.200. For the purpose of tax profit, bad debts will be allowed in future when it’s actually written off. Hence taxable income after this disallowance will be Rs. 1200 and let’s say income tax rate is 20% then the entity will pay taxes on Rs. 1200 i.e (1200*20%) Rs. 240. If bad debts were not disallowed, entity would have paid tax on Rs. 1000 amounting Rs 200 i.e 1000*20%. For the additional Rs. 40 which is already paid now, we have to create DTA. Entry for recording the DTA is as under: Deferred Tax Asset Dr                    40 To Deferred Tax Expense Cr        40 (Being DTA of Rs. 40 accounted in the books) DTL – Common example of DTL would be depreciation. When the depreciation rate as per the Income tax act is higher than the depreciation rate as per the Companies act (generally in the initial years), entity will end up paying less tax for the current period. This will create deferred tax liability in the books: There are no DTA or DTL provisions made for permanent differences. Eg. Fines and penalties which are part of book profits but are not allowed for tax purposes. Hence, this difference created will be a permanent difference. DTA is presented under non-current assets and DTL under the head non-current liability. Both DTA and DTL can be adjusted with each other provided they are legally enforceable by law and there is an intention to settle the asset and liability on a net basis. Illustration on DTA/DTL Calculation Let’s understand how DTA/DTL is created in books with a simple example (amount in lacs): Income 1000 800 200   Opening Balance of (DTA)/DTL – – – – Depreciation 100 200 100 30 Sales Tax payable 50 0 (50) (15) Leave encashment 200 100 (100) (30) Closing balance of (DTA)/DTL – – – (15) Current tax on Taxable income is 800*30% = 240 Deferred tax as per above = (15) Net tax effect = 225 *The rate is applicable for companies who have not opted for Section 115BA, 115BAA and 115BAB and whose turnover exceeds Rs 400 crore. Effect on Tax Holiday With Respect To DTA/ DTL Tax Holiday is a benefit provided to new undertakings established in free trade zones, 100% export oriented undertakings etc under section 10A, 10B of the Income Tax Act, 1961. To encourage the production and consumption of certain items, the government exempts certain taxes for a temporary period subject to certain condition. Deferred tax (DT) from the timing difference that reverses during the tax holiday period should not be recognised during the enterprise’s tax holiday period. DT related to the timing difference that reverses after the tax holiday has to be recognised in the year of origination. Illustration for Tax Holiday A Ltd. established as a tax-free entity in 2015 under section 10A, hence it will be exempt from tax from 2015 to 2025. It has a timing difference on account of depreciation as follows: (Assume tax rate is 30%) 1 200,000 2 300,000 In the case of tax-free companies, deferred tax liability is not recognised, for the timing differences that originate and reverse in the tax holiday period. Deferred tax liability is created only when the timing differences originate in the tax holiday period and reverse after the tax holiday. Adjustments are done on the basis of the FIFO method. Suppose in the above example of the Rs 200,000, Rs 80,000 reverses within the tax holiday period, so DTL is created only on the balance. DTL will be created as given below: 1 120,000 (200,000-80,000) 36,000 2 300,000* 90,000 *Fully reversed after the tax holiday period. The total DTL balance at the end of the second year will be 126,000. Effect of DTA/DTL on MAT MAT is Minimum Alternate Tax which a company is required to pay if its tax payable as per normal provision of the income tax act is less than the tax computed at 18.5% of the book profit. MAT is levied under section 115JB of the income tax act and it is calculated using the entity’s book profit as under: Book profit is increased by the following: Income tax paid or provision An amount carried to any reserve Provisions made for unascertained liabilities Deferred tax provision etc And it is decreased by the following: Amount withdrawn from any reserve or provision Depreciation debited to P&L (except revaluation depreciation) Lower of Loss brought forward or unabsorbed depreciation   Deferred tax credited to P&L etc. There are controversies if deferred tax liability debited to P&L should be added to the book income for the purpose of MAT calculation. Kolkata Tribunal in Balrampur Chini’s case has held that the deferred tax liability should not be added back whereas the Chennai Tribunal in Prime Textiles Ltd case has held otherwise.   “Deferred tax charge is not a provision for tax but is a provision for tax effect for difference between taxable income and accounting income and further that deferred tax charge cannot be termed as income-tax paid or payable, which has to be paid out of the profit earned. Reserves mentioned in Section 115JB are different, it can be unilaterally transferred back to P&L account or can be utilised for issuing bonus shares etc. However, amounts created towards deferred tax charge cannot be so transferred or utilized” “The Chennai Tribunal observed that AS-22 is mandatory as per Section 211(3) of the Companies Act, however, the same is not notified by the Central Government under Section 145(2) of the IT Act. Moreover, the deferred tax liability cannot be considered as ascertained liability and therefore, assessing officer has every power to make adjustment on this account as it cannot be termed as tinkering of audited accounts prepared in accordance with the provisions of the Companies Act.” As seen, there are conflicting judgments on this and this requires clarification from the government or decision by the high court. Whether MAT credit can be considered as a deferred tax asset per AS 22? As per AS 22 , deferred tax assets and liability arise due to the difference between book income & taxable income and do not rise on account of tax expense itself. MAT does not give rise to any difference between book income and taxable income. It is not appropriate to consider MAT credit as a deferred tax asset in accordance with AS 22. Quick Summary Was this summary helpful. Clear offers taxation & financial solutions to individuals, businesses, organizations & chartered accountants in India. Clear serves 1.5+ Million happy customers, 20000+ CAs & tax experts & 10000+ businesses across India. Efiling Income Tax Returns(ITR) is made easy with Clear platform. Just upload your form 16, claim your deductions and get your acknowledgment number online. You can efile income tax return on your income from salary, house property, capital gains, business & profession and income from other sources. Further you can also file TDS returns, generate Form-16, use our Tax Calculator software, claim HRA, check refund status and generate rent receipts for Income Tax Filing. CAs, experts and businesses can get GST ready with Clear GST software & certification course. Our GST Software helps CAs, tax experts & business to manage returns & invoices in an easy manner. Our Goods & Services Tax course includes tutorial videos, guides and expert assistance to help you in mastering Goods and Services Tax. Clear can also help you in getting your business registered for Goods & Services Tax Law. Save taxes with Clear by investing in tax saving mutual funds (ELSS) online. Our experts suggest the best funds and you can get high returns by investing directly or through SIP. Download Black by ClearTax App to file returns from your mobile phone. Cleartax is a product by Defmacro Software Pvt. Ltd. Company Policy Terms of use Data Center SSL Certified Site 128-bit encryption Better Business Bureau Rating: A+ FINRA BrokerCheck Call (877) 797-1031 Deferred Sales Trust: What It Is and How It Works In our published articles, we talk extensively about Delaware Statutory Trusts. However, there is another “DST” that investors can leverage in case they do not qualify for a 1031 Exchange but still want to enjoy tax deferrals — a deferred sales trust. In this scenario, you “sell” your property to a trust, and the trust will pay you in “installments” over an agreed-upon timeframe. This legal contract has a few major differences from exchanges, so investors must have an in-depth understanding of how it works before they commit.  At Realized, we aim to inform readers about this alternative investment route and inform you about its intricacies. That way, you can confidently take this route and enjoy the continued tax benefits. Let’s dive in.  What Is a Deferred Sales Trust? A deferred sales trust or DST is a sophisticated financial strategy that helps investors defer capital gains taxes when selling highly appreciated assets. These assets can include real estate, businesses, or stocks. In this article, we will focus on real estate property for the sake of simplicity. In a traditional sale, the seller receives the proceeds and incurs immediate tax liabilities — capital gains taxes. A DST allows the seller to transfer the asset to a specially created trust before the sale . The trust then sells the asset to the final buyer. The trust — serving as the entity that owns the asset — will pay back the payments over time in installments. The trustee and property seller pre-arrange the frequency before the sale is finalized. This setup enables the deferral of capital gains taxes. How exactly? The property seller is not directly getting the sales proceeds in a lump sum. Instead, they receive the profits in small amounts that allow the seller to pay taxes in manageable increments.  A Brief Overview of Capital Gains Taxes and Tax Deferrals A capital gain is any profit you make from a property’s base price , which is usually equal to the fair market value of the property from when you bought it. Given that a capital gain is a form of profit, the IRS deems it as taxable. Capital gains are not just limited to real estate. Stocks, bonds, and businesses are other types of assets that the IRS or a state revenue department can tax. Capital gains can be significantly higher than the base price of an asset, especially if the asset has been allowed to mature for a long time. Along with the high profit comes high taxes. The rates can go for as high as 20% for those in the top income brackets. If you sold a property and secured a million dollars of capital gains, you will need to pay as much as $200,000 in capital gains taxes. Understanding the intricacies of capital gains taxes can help you prepare for the future. When you know the right strategies, you can enjoy huge tax deductions, possible exemptions, or tax deferrals. The latter means you won’t need to pay taxes immediately after relinquishing your property. You can extend the tax deferral if you plan ahead of time. There are various legal ways to reduce your capital gains taxes. A 1031 Exchange is popular, but there are various restrictions that some investors may not be able to comply with. Plus, 1031 Exchanges have timelines, requiring you to find a like-kind property within a 180-day period . Investors who aren’t able to meet these requirements have other options. One of these is deferred sales trusts. As the name implies, capital gains taxes will still be deferred in this arrangement. How does this process happen?  How Does a Deferred Sales Trust Work? A DST works as an “installment sale” as outlined in Section 453 of the U.S. Code . The “sale” part is important because exchanges like 1031 are swaps. In the most technical sense, there is no selling that happened in the 1031 Exchange, and the investors didn’t gain anything. Hence, no taxes. In a DST, something is sold — the property. However, the buyer is the trust, which agrees to pay the seller in installments. Here’s a breakdown of the specific processes happening in a DST.  1. Setting Up the Trust The first step is to create the trust. You will need to work with qualified professionals to structure this legal entity correctly. At the minimum, a tax attorney, trustee, and financial advisor are necessary. With their help, you can ensure that the trust remains compliant with regulations set by the IRS and your state’s revenue department. Your tax attorney is usually the one who drafts the legal documents needed to establish the trust. They are the entity that “holds” your property or asset. Once the trustee sells the property, the trust will hold the proceeds before giving it back to you.  2. Selling the Asset to the Trust After you establish the trust, you transfer the ownership of your asset to the DST before you sell it. This transfer is critical as it sets the stage for the trust — not the investor — to sell the property to the eventual final owner. The trustee then issues a promissory note after the sale. This document outlines the payment terms, including the schedule and amount of payments you will receive over time. 3. Trust Sells Your Property to the Final Buyer Now that the trust is the legal owner of the property, it can proceed to sell the asset to a final buyer. Afterward, the trust receives and keeps the proceeds. This stage is where the tax deferral happens. Since you didn’t directly receive any funds from the sale, you’re not required to pay tax liabilities. You only need to start making payments once you begin getting the installments from the trust.  4. Trust Manages and Invests the Proceeds During the creation of the trust, the investor and the trustee should already have outlined strategies designed to use the proceeds to generate income. The chosen methods should also be designed to be lucrative enough to support the scheduled payments to the seller as well as the fees imposed by the trustee.  When outlining the trust, you should try to diversify the investments to balance risk and return. These can include stock, bonds, and even other types of real estate. 5. Receiving Payments From the Trust You will start receiving payments from the trust based on the terms outlined in the promissory note. These payments can be structured as regular installments, lump sums, or a combination of both. Once you get these payments, that tax deferral stops — at least, for the amount you received. You get to spread out tax liability over several years instead of having to pay a large sum upfront.  You will need to pay the realized gain in this DST. Realized gain is the difference between the sale price of the asset and its original purchase price after deducting associated costs. Additionally, there is potential depreciation recapture in addition to the gain. The whole capital gain liability will depend on the property's adjusted tax basis (which factors in depreciation taken and gain) vs. ultimate sale price. The profits from the investments are another matter altogether. For example, income from dividends will be taxed as ordinary income, not capital gains. As always, it is recommended to seek specific and professional tax advice. Key Players in the DST Aside from you, the property owner and the investor, there are three entities or professionals involved in the DST.  Trustee: The trustee is the entity that oversees the trust. It’s the party that executes the sale of the property while ensuring compliance with legal and tax requirements. A trustee is usually a company specializing in DSTs. These firms have the resources and experience to handle the intricacies of the entire transaction.  Tax Attorney: Your tax attorney is the professional who provides legal expertise when setting up the trust. A good lawyer should have in-depth knowledge of IRS guidelines to ensure that the trust has the appropriate structure.  Financial Advisor: The role of the financial advisor is to guide you when choosing the best investment strategies for the sale. They can help you assess your options, calculating the risks and returns of each possible investment. Deferred Sales Trust vs. Delaware Statutory Trusts These two methods to defer capital gains taxes have the same “DST” acronym, which can be confusing for first-time investors. However, deferred sales trusts and Delaware statutory trusts have some distinctions. The most obvious is the “swap” versus “sale” difference. In a deferred sales trust, someone else actually buys your property. A Delaware statutory trust, on the other hand, exchanges your property for a like-kind property. While you won’t be the owner of the relinquished property, you’re still a beneficial owner of the new property held by the trust.  A Delaware statutory trust removes any form of operational control over the investors, giving them a truly passive role. Conversely, the investor of a deferred sales trust can still make inputs over the investment strategy of the trust. When it comes to tax deferrals, deferred sales trusts spread the gain over a series of installments. Only then are you required to pay capital gain taxes. For Delaware statutory trusts, you defer taxes through the 1031 Exchange.  Does the IRS Recognize Deferred Sales Trusts? There is actually no wording or phrase in the Internal Revenue Code for deferred sales trusts. While this may put to question the legality of this tax deferral method, there is clear wording about installment sales, which is the basis for the DST’s structure. So, where did “deferred sales trust” come from? It’s actually coined by Robert Binkele , referring to the way investors can use a third party — the trustee — for installment sales. However, this practice has been around for decades, long before Binkele assigned a name to it. Advantages of Deferred Sales Trusts DSTs have a few major benefits that make these contracts appealing to many investors. Tax Deferral While a DST won’t let you avoid capital gains taxes altogether, you can delay the liability to make the payments more manageable. A DST spreads the liability over a longer timeframe, so you won’t have to pay a larger sum upfront. Thanks to this benefit, you have potentially more free capital to use in other investments. Flexible Payments With a DST, you have some level of control over the frequency of installations. This advantage helps you tailor when to receive the proceeds based on your financial needs. For example, some investors prefer periodic income while others want more frequent monthly income streams. This flexibility is particularly ideal for those who are planning for retirement or long-term financial goals. Diversified Investments A 1031 Exchange limits you to assets that are like-kind to the property you relinquished. A DST, on the other hand, doesn’t have limitations on where you can invest the proceeds. The lack of restriction allows you to find investments that could potentially lead to higher returns. You can enjoy a broader investment portfolio. Potential for Increased Returns As you invest the proceeds in other assets, you have the opportunity to grow your wealth efficiently. The compounding effect has a higher potential than an immediate, lump-sum sale. Disadvantages of Deferred Sales Trusts Like all investment vehicles, DSTs do have their own set of risks and challenges you must keep in mind. Regulatory Compliance The IRS has strict laws regarding DSTs, and every investor must adhere to these regulations to ensure tax deferral benefits. If you don’t follow these rules, the IRS or state revenue department will recognize the capital gains and require you to pay taxes. It’s critical to work with experts like tax attorneys to ensure that you remain compliant.  Investment Risk A more diverse portfolio is more exposed to market risks. This is a reality that investors cannot avoid. Working with a knowledgeable financial advisor is critical to helping you find investments that balance risk and revenue. Costs and Fees The initial and recurring expenses in this DST can take up a considerable percentage of the proceeds. During DST’s establishment, you will need to work with professionals who will charge competitive fees. The trustee’s ongoing management of the trust will also entail fees. Having a clear estimate of these projected costs is essential to ensure that the income you generate can outweigh the expenses. For a more comprehensive discussion on the pros and cons of DST, browse another article we shared here .  Due Diligence for Deferred Sales Trusts A DST is no simple legal contract, with lots of complexities that could affect its future performance. It’s important to conduct due diligence to ensure that the DST has the correct structure, compliant with regulations, and is aligned with your personal financial goals.  Selecting the Trustee The trustee’s major role in your trust makes the selection process critical. After all, this entity will be the one managing the proceeds of your asset and ensuring that you get the payments outlined in the contract. When finding a trust company, make sure to check their history and past performance. Ask about the level of transparency in their operations and find reviews from past clients. We also recommend that you assess their understanding of the legal and tax implications of DSTs. Investment Strategy and Risk Assessment You need to have a clear idea of the investment strategy outlined in your contract. The trustee handles this aspect, providing a plan for where the funds will be invested plus the expected returns. Working with a financial advisor helps you gain a better understanding of the options, so you’re more confident with the new additions to your portfolio. If you find anything amiss, you can still re-evaluate the strategy with your trustee before proceeding to the sale of the asset. Exit Strategy There will eventually come a time when the last installment comes. Before you dissolve the DST, you need to have a plan with the investments and final distribution of proceeds. Having a definitive exit strategy helps you align your long-term financial goals while providing some room for changes in case other scenarios arise.  Wrapping Up: Deferred Sales Trust 101 A DST is a great alternative investment tool for investors who find 1031 Exchanges too limiting. Given how you get paid in installments, you pay capital gains taxes at a more manageable frequency. At the same time, the proceeds from the sale have the potential to earn as the trustee invests in other options. To ensure a successful DST, you must find and work with knowledgeable experts, like a tax attorney and financial advisor. With their help, you’ll be better informed about the investment strategies of your chosen trustee and ensure that the DST structure remains compliant with existing IRS regulations. The tax and estate planning information offered by the advisor is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation. https://www.myept.com/Deferred-Sales-Trust   https://www.irs.gov/taxtopics/tc409   https://www.investopedia.com/financial-edge/0110/10-things-to-know-about-1031-exchanges.aspx   https://www.taxnotes.com/research/federal/usc26/453   https://www.linkedin.com/pulse/proven-legal-path-deferring-tax-robert-binkele-brett-swarts   https://www.1031gateway.com/deferred-sales-trust-1031/   https://www.forbes.com/sites/peterjreilly/2019/06/18/deferred-sales-trust-a-tax-plan-or-a-product-a-bit-of-both/ Download The Guide To DSTs The Investor's Guidebook To DSTs See if Delaware Statutory Trusts are right for you. By providing your email and phone number, you are opting to receive communications from Realized. If you receive a text message and choose to stop receiving further messages, reply STOP to immediately unsubscribe. Msg & Data rates may apply. 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Deferred #Tax Assets 💸 #SmallBizSuccess Deferred Tax Asset Valuation Allowance COMMENTS 16.3 Balance sheet presentation of deferred tax accounts 16.3.1 Principles of balance sheet classification. As discussed in ASC 740-10-45-4, a reporting entity should present deferred tax assets and liabilities separate from income taxes payable or receivable on the balance sheet. Deferred tax assets and liabilities, along with any related valuation allowance, must be classified as noncurrent if a ... 16.4 Disclosures related to balance sheet tax accounts ... 16.4.1 Tax effect of temporary differences giving rise to DTAs/DTLs. All reporting entities are required to disclose total deferred tax assets and total deferred tax liabilities for each period a balance sheet is presented. However, disclosure requirements regarding temporary differences and carryforward information differ between public ... PDF Sample Disclosures: Accounting for Income Taxes The sample disclosures in this document reflect accounting and disclosure requirements outlined in SEC Regulation . S-K, SEC Regulation S-X, and ASC 7401 that are effective as of December 31, 2014. SEC registrants should also ... would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period ... 4.2 Basic approach for deferred taxes Step 4: Calculate deferred tax assets and liabilities . For gross temporary differences and tax loss carryforwards, this entails multiplying the gross balance by the applicable tax rate. Tax credits generally provide a "dollar-for-dollar" benefit and therefore are already tax-effected. Step 5: Evaluate the need for a valuation allowance. Deferred Tax (IAS 12) The measurement of deferred tax is based on the carrying amount of the entity's assets and liabilities (IAS 12.55), and therefore, cannot be based on an asset's fair value if the asset is measured at cost. It is also noteworthy that deferred tax assets and liabilities are not discounted (IAS 12.53-54). IAS 12 IAS 12 implements a so-called 'comprehensive balance sheet method' of accounting for income taxes, which recognises both the current tax consequences of transactions and events and the future tax consequences of the future recovery or settlement of the carrying amount of an entity's assets and liabilities. Differences between the carrying amount and tax base of assets and liabilities, and ... Demystifying deferred tax accounting Common types of deferred taxes. Examples of items that give rise to the recognition of deferred taxes includes: Fixed assets. In many cases, tax basis may be less than the respective book carrying value, given accelerated cost recovery measures in a number of taxing jurisdictions (e.g., immediate expensing or bonus depreciation for federal income tax purposes in the US). International Accounting Standard 12Income Taxes A deferred tax asset also arises when the fair value of an identifiable asset acquired is less than its tax base. In both cases, the resulting deferred tax asset affects goodwill (see paragraph 66); and (d) certain assets may be carried at fair value, or may be revalued, without an equivalent adjustment being made for tax purposes (see ... PDF Center for Plain English Accounting Disclosure Requirements By: Russ Madray ... Reviewer noted presentation of deferred tax assets and deferred tax liabilities on ... Net deferred tax assets (liabilities) $226 $205 As of December 31, 2020, the Company has a valuation allowance of approximately $37,856,000 against all net domestic deferred tax assets, for which ... FASB simplifies presentation of deferred income taxes The amendments issued Friday are designed to simplify the presentation of deferred income taxes. The new standard requires deferred tax liabilities and assets to be classified as noncurrent in a classified statement of financial position. The current requirement that deferred tax liabilities and assets of a tax-paying component of an entity be ... PDF Deferred tax The recognition of deferred tax assets is subject to specific requirements in IAS 12. Deferred tax assets are recognised only to the extent that recovery is probable. This section covers: • the recoverability of deferred tax assets where taxable temporary differences are available • the length of 'lookout periods' for assessing the ... 16.8 Presentation and disclosure of uncertain tax positions (after ASC 740-10-50-15A requires PBEs to disclose a reconciliation of the beginning and ending balances of the unrecognized tax benefits from uncertain positions. This rollforward must include all unrecognized benefits — whether they are reflected in a liability or as a decrease in a deferred tax asset (irrespective of whether a valuation allowance would be required). PDF Technical factsheet Deferred tax FRS 102 does not prescribe any particular presentation requirements for deferred tax assets. In practice, deferred tax assets should be presented within current assets - either as a separate heading or as a sub-heading of debtors. In the majority of cases, deferred tax assets are presented as current; however, in the situation that recovery ... IAS 1 IAS 1 will be superseded by IFRS 18 'Presentation and Disclosure in Financial Statements', which becomes effective for annual periods beginning on or after 1 January 2027. ... deferred tax liabilities and deferred tax assets, as defined in IAS 12 (p) ... Rather than setting out separate requirements for presentation of the statement of cash ... IFRS In January 2016 the Board issued Recognition of Deferred Tax Assets for Unrealised Losses (Amendments to IAS 12) to clarify the requirements on recognition of deferred tax assets related to debt instruments measured at fair value. In May 2021 the Board issued Deferred Tax related to Assets and Liabilities arising from a Single Transaction. The ... Rho Balance sheet presentation: Listed as an asset: Listed as a liability: Common examples: Results from bad debt or carryover of losses. e.g., - If a company loses $1 million this year, it can use this loss to reduce taxes in future profitable years. ... What are the requirements to recognize a deferred tax asset? Some requirements that will help ... International Financial Reporting Standard 14Regulatory Deferral ... Notwithstanding the presentation and disclosure requirements of IAS 12, when an entity recognises a deferred tax asset or a deferred tax liability as a result of recognising regulatory deferral account balances, the entity shall not include that deferred tax amount within the total deferred tax asset (liability) balances. Instead, the entity ... Income taxes (Topic 740) The amendments in this Update will align the presentation of deferred income tax assets and liabilities with International Financial Reporting Standards (IFRS). ... current GAAP includes disclosure requirements that provide users of financial statements with information about deferred tax liabilities and assets and (b) as part of the project on ... Deferred tax assets: characteristics of better disclosure Disclosures should provide company-specific information about the nature of convincing evidence supporting the recognition of deferred tax assets, especially when there is a recent history of losses. The better disclosures refer either to specific improvements in profitability expected to occur in the forecast period, or to the loss having been ... Accounting Standard (AS) 22 Accounting for Taxes on Income Contents Re-assessment of Unrecognised Deferred Tax Assets 19 MEASUREMENT 20-26 Review of Deferred Tax Assets 26 PRESENTATION AND DISCLOSURE 27-32 TRANSITIONAL PROVISIONS 33-34 ILLUSTRATIONS . 2 Accounting Standard ... is subject to the deduction during the tax holiday period as per the requirements of sections 80-IA/80IB of the Income-tax Act, 1961 ... Deferred Tax Asset and Deferred Tax Liability Deferred Tax Liability (DTL) or Deferred Tax Asset (DTA) forms an important part of Financial Statements. This adjustment made at year-end closing of Books of Accounts affects the Income-tax outgo of the Business for that year as well as the years ahead. Here is a write up on all about DTL/DTA, how it's calculated and certain specific ... IAS 12 IAS 12 implements a so-called 'comprehensive balance sheet method' of accounting for income taxes, which recognises both the current tax consequences of transactions and events and the future tax consequences of the future recovery or settlement of the carrying amount of an entity's assets and liabilities. Differences between the carrying amount and tax base of assets and liabilities, and ... 8.5 Recognition of deferred tax assets US GAAP. IFRS. Deferred tax assets are recognized in full, but then a valuation allowance is recorded if it is considered more likely than not (more than 50% probable) that some portion of the deferred tax assets will not be realized. Deferred tax assets are recognized to the extent that it is probable (more than 50%) that sufficient taxable ... Deferred Sales Trust: What It Is and How It Works Deferred Sales Trust vs. Delaware Statutory Trusts. These two methods to defer capital gains taxes have the same "DST" acronym, which can be confusing for first-time investors. However, deferred sales trusts and Delaware statutory trusts have some distinctions. The most obvious is the "swap" versus "sale" difference. assignment essay homework paper report resume review speech