How Deferred Tax Assets and Liabilities Are Presented on the Balance Sheet

Deferred tax assets (DTAs) and deferred tax liabilities (DTLs) arise from temporary differences between the accounting carrying amounts of assets and liabilities and their tax bases. These differences cause income to be recognized in different periods for accounting and tax purposes. Under IAS 12 (IFRS) and ASC 740 (US GAAP), deferred taxes are recognized for all temporary differences, ensuring that the balance sheet reflects the future tax effects of current transactions. Proper presentation of DTAs and DTLs provides insight into how timing differences influence future profitability and cash flows.

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How deferred taxes arise

Deferred tax assets and liabilities result when the accounting treatment of income or expenses differs from the tax treatment. Common sources include:

• Depreciation differences (accelerated for tax, straight-line for accounting).

• Revenue recognition timing (installment sales, advance payments).

• Provisions or accruals deductible only when paid.

• Tax loss carryforwards generating deferred tax assets.

Example:A company records depreciation expense of 100,000 for accounting and 150,000 for tax purposes. The 50,000 difference creates a taxable temporary difference. At a 30 percent tax rate, the company recognizes a deferred tax liability of 15,000 because it will pay higher taxes in the future when accounting depreciation exceeds tax depreciation.

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Presentation on the balance sheet

Deferred tax assets and liabilities are presented as non-current items on the balance sheet, even if related to current assets or liabilities.

Example:

• Non-Current Assets:

  • Property, Plant, and Equipment: 4,500,000

  • Intangible Assets: 1,000,000

  • Deferred Tax Asset: 120,000

• Non-Current Liabilities:

  • Deferred Tax Liability: 180,000

  • Long-Term Debt: 2,500,000

Deferred taxes are offset only when the entity has a legally enforceable right to set off current tax assets and liabilities and when they relate to the same taxation authority.

The net deferred tax position (asset or liability) is presented on the face of the balance sheet.

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Journal entries for deferred taxes

To record deferred tax liability:

• Debit: Income Tax Expense 15,000

• Credit: Deferred Tax Liability 15,000

To record deferred tax asset:

• Debit: Deferred Tax Asset 20,000

• Credit: Income Tax Benefit 20,000

When temporary differences reverse:

• Debit: Deferred Tax Liability 15,000

• Credit: Income Tax Expense 15,000

These entries ensure that tax expense reported in the income statement reflects both current and deferred tax effects.

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Standards under IFRS and US GAAP

• IFRS (IAS 12 – Income Taxes): Requires recognition of deferred taxes for all temporary differences, except for initial recognition of goodwill or certain investments in subsidiaries. DTAs are recognized only when it is probable that future taxable profit will be available to utilize them.

• US GAAP (ASC 740 – Income Taxes): Uses similar principles but applies the “more likely than not” test for recognizing DTAs. It also requires a valuation allowance when realization of the asset is uncertain.

Both frameworks measure deferred taxes using enacted tax rates expected to apply when the temporary difference reverses.

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Impact on financial performance and ratios

Deferred taxes affect both earnings and equity, influencing profitability and valuation metrics. For instance:

• DTAs reduce current tax expense and increase net income when recognized.

• DTLs increase future tax obligations, reducing future earnings.

Example:If a company records a 50,000 deferred tax benefit, its effective tax rate decreases, boosting net income temporarily. However, analysts must assess whether this benefit is sustainable.

Deferred taxes also affect return on assets (ROA) and debt-to-equity ratios, as recognition changes total assets and equity values. Under IFRS, changes in tax rates can create immediate revaluations in deferred tax balances, introducing earnings volatility.

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Disclosures required for deferred tax assets and liabilities

Entities must disclose:

• Major components of DTAs and DTLs by source.

• Movements in deferred tax balances during the period.

• Unrecognized DTAs and reasons for non-recognition.

• Reconciliation of effective tax rate to statutory rate.

• The impact of tax rate changes on deferred balances.

These disclosures help users understand future tax cash flows and the sustainability of tax-related benefits.

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Operational considerations

Deferred taxes play a crucial role in aligning financial reporting with tax obligations over time. Management must regularly reassess temporary differences, forecast taxable profits, and evaluate whether DTAs remain recoverable. In volatile markets, tax loss carryforwards can become impaired if future profitability weakens.

For analysts and investors, deferred tax balances reveal hidden timing effects that will reverse in future years, influencing cash flow projections and effective tax planning. Transparent reporting ensures that financial statements portray a consistent view of both short-term tax positions and long-term obligations.

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