Hi everyone,
I am reviewing the Income Taxes reading, and am having a little bit of trouble with Deferred Tax Liabilities. In the Schweser notes, it says that “for any change that causes a deferred tax asset to be taken directly to equity, the deferred tax item should also be taken directly to equity.” Therefore the deferred tax liability arising from a revaluation of an asset above historical value should not actually affect the Deferred Tax Liability account, but the increase to the Revaluation Surplus account should be reduced by the amount of the future tax liability.
I understand the logic there, but what I am failing to understand is how to rationalize it with the Balance Sheet. Let’s assume an asset is revalued upwards by $5,000, and the applicable tax rate is 40%, from my understanding I would then increase Revaluation Surplus (and therefore the total Equity account) by $3,000; but would increase Assets by $5,000, and since DTL is untouched that would lead to an imbalanced Balance Sheet.
I know that there’s something fairly obvious I’m missing or misunderstanding here, I’d love if someone could point it out.
Thank you much.
P.s. I saw this question on Reddit and it’s actually the same with my confusion. As I found no answer for it, I have to repost it here with hope that someone could help.