Deferred Tax Assets/Liabilities

So I’m going through the awesomeness that is SS9 one more time through Schweser before I start plowing through Qbank questions for a month until the exam. It’s slowly becoming a lot more clear, but I’m still a little bit troubled by this particular topic. I thought I had a clear understanding until one of the examples ruined my dreams of comprehension. Could anyone with a good handle on deferred tax assets and liabilities please provide a quick non-accounting speak definition of the two, and how they come to be realized on the balance sheet? Thank you -Greg

Here’s my attempt at a quick non-accounting speak definition: DTA and DTL arise from timing differences. Think about it like there are two sets of books: tax books and financial reporting books. There is a difference in taxes between those two books and depending on the direction either an asset or liability is created. Eventually the timing difference will reverse in later years which is when the asset/liability goes away. Hopefully that helps out a little…

The key formula in my opinion is: Tax expense (on the income statement) = Taxes payable + DTL Tax expense is calculated using “accounting profits”, taxes payable is calculated using income reported to the government. The difference in the two results in deferred taxes - DTL if tax expense > taxes payable, DTA if DTL is negative (taxes payable > tax expense).

I would broaden Calgary’s definition to : Tax expense (income statement) = tax payable +/- chnage in deferred tax accounts. s DTM said it is mostly pretty much all about timing. Whenever there is an item of expense or revenue that shows up on your tax return in one year, and on your GAAP income statement in another, you end up with a differed tax asset or liability. since ultimately the total revenue or expense recorded must be the same in the long run for both book and tax purposes, you get the revrsal effect which uses up any deferrals created on the balance sheet.

Dont forget about the valuation allowance in regards to the DTA if is unlikely that the benefits will be received from that deferred tax asset. The valuation allowance must be reduced in order to account for those benefits that are not being received.

To DTMs post, there is also the caveat that for a company in its growth stages, DTL may be recognized as equity if the tax accounting isnt able to “catch up” to reverse and pay out the DTL from CF. May be used for growth companies purchasing large amounts of capital and using aggressive depreciation methods.

Thanks for the posts. I think I have a decent understanding of the definitions and the logic of the formulae. For some reason, I just cant see to translate the information given into why it would result in a DTA/DTL. Is it fair to say that if income tax expense (Income Statement) > taxes payable (taxes), this is a DTL, since we’re going to end up owing the gov’t more in good time? I’m sure there’s a simpler logic to it than this. As examples, say AR has tax base of 20,000 and carrying value of 18,500. In another unrelated case, say R&D has a tax base of 20,000, and a carrying vaue of 0. How can we clearly determine whether/how much of a deferred tax should be recorded? I know the answers, just want to develop a sound logic before I start bashing the qbank Q. Thanks guys (and girls)

What you said about the taxes is true - you end up with a DTL. If you look at the equation I posted earlier: Tax expense (on the income statement) = Taxes payable + DTL (A = B + C) If A is larger than B as in your example, then C must be a positive number i.e. you have a deferred tax liability. The logic method also works - you have calculated based on your financial statements that you owe more taxes than you actually paid, and expect this to eventually reverse - therefore this is a liability to the company. I believe that the amount of the DTA/DTL is simply the tax rate multiplied by the difference in tax base / carrying value. If AR has a tax base of 20,000 and carrying value of 18,500, you have written down the asset more than the tax rules allow - and paid less taxes as a result. Therefore your deferred tax liability is (20,000-18,500) * (T). The effect is opposite for liabilities - tax base greater than carrying value would result in a DTA. If I have got any of this wrong, someone please correct me. I got confused at the beginning with these because of the errors in the CFAI text answers for this section…

If AR has a tax base of 20,000 and carrying value of 18,500, you have written down the asset more than the tax rules allow - and paid less taxes as a result. Therefore your deferred tax liability is (20,000-18,500) * (T). I have a feeling this just broke it open for me. Thanks!

On second thought, Schweser states this A/R example as a deferred tax ASSET. Is this correct, or perhaps one of the Schweser errors?