What is Deferred Income Tax?

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What is Deferred Income Tax?

What Is Deferred Income Tax?

A deferred income tax obligation is a liability reported on a balance sheet as a consequence of an income recognition discrepancy between tax regulations and the company’s accounting processes. As a result, the company’s paying income tax may differ from the total tax expenditure stated.

Because of accounting rule variances, the total tax expenditure for a single fiscal year may vary from the tax amount owing to the Internal Revenue Service (IRS).

Key Takeaways:

  • The disparity in income recognition between tax legislation (i.e., the IRS) and accounting systems results in deferred income tax (i.e., GAAP).
  • On the balance sheet, deferred income tax appears as a liability.
  • The most prevalent reason of delayed income tax is a discrepancy between the IRS and GAAP depreciation procedures.
  • Income tax deferral may be classed as either a current or long-term obligation.

What Is the Purpose of Deferred Income Tax?

Financial accounting processes are guided by generally accepted accounting standards (GAAP). GAAP accounting demands that economic events be calculated and reported in a specified way. GAAP income is used to determine income tax expense, a financial accounting record.

The discrepancy between the income tax expenditure recorded on the income statement and the income tax payed results in a deferred income tax obligation.

The IRS tax law, on the other hand, establishes unique criteria for the handling of events. Differences in IRS laws and GAAP principles result in various estimations of net income and, as a consequence, income taxes owed on that revenue.

There may be instances when the income tax payable on a tax return exceeds the income tax expenditure on a financial statement. If no additional reconciling events occur, the deferred income tax account will eventually net to $0.

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However, in the absence of a deferred income tax liability account, a deferred income tax asset is formed. This account would show the future economic advantage anticipated as a result of income taxes levied in excess of GAAP income.

Examples of Deferred Income

The most typical cause of a delayed income tax obligation is a disparity in depreciation techniques. GAAP rules enable organizations to choose from a variety of depreciation methods. The IRS, on the other hand, demands the adoption of a depreciation technique that differs from all current GAAP methodologies.

As a result, the amount of depreciation shown on a financial statement is often different from the computations shown on a company’s tax return. The value of depreciation in both sectors fluctuates during the life of an item. There is no deferred tax burden at the end of the asset’s life since the total depreciation between the two methods is equal.

Why Is Deferred Income Tax an Asset?

Deferred income tax may be classified as an asset or a liability based on whether a corporation has overpaid or owes tax authorities. On the balance sheet, however, it shows as a liability.

What Is Deferred Income Tax In Simple Terms?

Deferred income tax is a kind of tax that must be paid in the future to account for variations in how businesses and tax authorities perceive revenue.

What Is the Difference Between Current Tax and Deferred Tax?

Current tax is paid during a given time, while deferred tax is paid in the future.

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