Current and Deferred Income Tax
Current and Deferred Income Tax
This chapter explains financial-statement mechanics, not tax advice. Rates and deductions are jurisdiction-specific. Northstar’s 25% rate is an explicit teaching assumption.
Two questions
| Tax component | Question |
|---|---|
| Current tax | What tax is payable or recoverable for current and prior taxable periods? |
| Deferred tax | What future tax consequence is embedded in recognised carrying amounts and tax bases? |
Tax base intuition
For an asset, the tax base is generally the amount that will be deductible against taxable benefits when the carrying amount is recovered.
For a liability, it is generally the carrying amount less amounts deductible for tax in future periods.
| Item | Carrying amount | Tax base | Temporary difference | Introductory result at 25% |
|---|---|---|---|---|
| Machine | £80,000 | £50,000 | £30,000 taxable | DTL £7,500 |
| Warranty provision | £12,000 | £0 | £12,000 deductible | DTA £3,000, subject to recognition |
Why?
- Recovering the machine’s £80,000 carrying amount leaves only £50,000 future tax deductions: £30,000 is taxable later.
- Settling the £12,000 warranty liability gives a £12,000 future deduction under the assumed tax rule: the difference is deductible later.
Do not mechanically apply “asset means DTL, liability means DTA.” The tax base and recovery/settlement consequences decide.
Northstar current-tax reconciliation
Assume accounting profit before tax is £180,000:
| Reconciliation to taxable profit | £ |
|---|---|
| Accounting profit before tax | 180,000 |
| Add: non-deductible penalty | 2,000 |
| Add: warranty expense deductible only when paid | 12,000 |
| Less: tax depreciation above accounting depreciation | (20,000) |
| Taxable profit | 174,000 |
| Current tax at assumed 25% | 43,500 |
Dr Current tax expense £43,500
Cr Current tax payable £43,500
Deferred-tax movement
Assume:
- the machine taxable difference rose by £20,000 this year: DTL increases £5,000;
- the £12,000 warranty deductible difference is new: DTA increases £3,000;
- both deferred amounts are recognised and the simplified effects enter profit or loss.
Net deferred tax expense is £2,000:
Dr Deferred tax asset £3,000
Dr Deferred tax expense £2,000
Cr Deferred tax liability £5,000
Total tax expense is £45,500: current £43,500 plus deferred £2,000. That equals 25% of £180,000 plus £500 tax effect on the non-deductible penalty.
Offset deferred tax assets and liabilities only when the framework’s legal-right and tax-authority conditions are met; arithmetic netting alone is not enough.
Recognition and uncertainty
- Under IAS 12, recognise a deferred tax asset only to the extent it is probable that taxable profit will be available, subject to detailed exceptions.
- US GAAP generally recognises deferred tax assets and uses a valuation allowance when realisation does not meet its more-likely-than-not threshold.
- Uncertain tax positions, enacted/substantively enacted rates, business combinations and Pillar Two rules require detail beyond this introductory case.
Quick check
If the machine tax base rises to £65,000 while its carrying amount remains £80,000, what happens to the DTL at 25%?