ACCT1054 Chap.7 Income Tax and Temporary Differences
Income Tax and Temporary Differences
Income-tax accounting separates current taxable income from future tax consequences embedded in recognised assets and liabilities. This chapter calculates tax bases, classifies taxable and deductible temporary differences, measures deferred tax and traces the tax effect to profit or loss, other comprehensive income or equity according to the underlying transaction.
What this chapter covers
- 01
Accounting profit and taxable income
- 02
Asset and liability tax bases
- 03
Taxable temporary differences
- 04
Deductible temporary differences
- 05
Deferred tax measurement and presentation
Worked example · free
Opposite tax directions
- +1The asset creates an $18,000 deferred tax liability.
- +1The provision tax base is zero.
- +1The provision creates a $15,000 deferred tax asset.
- +1Assess recognition and presentation separately.
Key terms
- Tax base
- Tax base is the amount attributed to an asset or liability under tax rules.
- Taxable difference
- A taxable temporary difference produces taxable amounts when an asset is recovered or liability settled.
- Deductible difference
- A deductible temporary difference produces deductions in future taxable income.
Income Tax and Temporary Differences FAQ
How do I find an asset tax base?
Ask how much deduction remains when the asset's economic benefits are recovered. Compare that amount with carrying amount, then explain whether the gap creates future taxable or deductible amounts.
Why do liabilities reverse the pattern?
Settling a liability can create a future tax deduction. When carrying amount exceeds its tax base for that reason, the difference often supports a deferred tax asset rather than a liability.
Where is deferred tax recognised?
Follow the underlying transaction. Tax effects associated with profit or loss usually go there, while tax on items recognised in other comprehensive income or equity follows those items.
Exam move
Practise paired examples: one asset and one liability. For each, write carrying amount, tax base, temporary difference, future consequence and tax effect on separate lines. Then trace the entry to the same reporting location as the originating transaction. Start with tax-base sentences rather than formulas. For an asset, say what deduction remains when benefits are recovered.
For a liability, say what deduction arises when it is settled. Translate the sentence into a number only after the future event is clear. Build a direction table using equipment, receivables, provisions and revenue received in advance, because those examples force both asset and liability reasoning. For every line, classify the difference as temporary or permanent before multiplying by the tax rate.
Permanent differences belong in current-tax reconciliation but never become deferred tax balances. Maintain separate current and deferred tax schedules. Current tax begins with taxable income and tax law adjustments. Deferred tax begins with carrying amounts and tax bases. Combine them only when explaining total tax expense and the reporting location of each movement.
Practise a revaluation example where the underlying gain enters other comprehensive income. Trace the related deferred tax to the same location rather than putting every movement in ordinary tax expense. Use enacted or substantively enacted rates supplied by the facts and write the expected reversal period when different rates could apply. For deferred tax assets, add a recognition-evidence line.
A calculated deductible difference does not by itself prove the benefit should be recognised. When losses or credits appear, separate measurement from evidence of future taxable profit. Keep a five-column worksheet in your hard-copy notes: item, carrying amount, tax base, difference and tax effect. Add a sixth column for destination.
During timed practice, calculate the difference, state future taxable or deductible amounts, name the asset or liability and then prepare the entry. Reverse-engineer wrong answers by asking whether the tax base or the direction sentence failed first. End with a balance-sheet check that deferred tax agrees with the temporary differences still outstanding at reporting date.
Add a tax-effect reconciliation that begins with accounting profit at the applicable rate and separately labels permanent differences, rate differences and other reconciling items. Do not use that reconciliation as a substitute for the temporary-difference schedule; prove that they answer different questions.
Work depreciation cases with both accelerated tax deductions and revalued accounting amounts so the tax base is derived from deductions remaining, not copied from an accounting schedule. For provisions, accrued expenses and revenue received in advance, write the settlement or earning event that produces a deduction or taxable amount. If no future deduction exists, say so explicitly.
Track opening deferred-tax balances, new differences, reversals, rate changes and closing balances in a roll-forward. Then allocate the movement between profit or loss, other comprehensive income and equity by tracing the originating item. Practise offsetting only after identifying the taxable entity and tax authority conditions supplied by the case.
Keep recognised and unrecognised deferred-tax assets in separate rows and attach evidence to each recognition judgement. Use expiry dates for losses or credits when provided, and compare them with the timing of forecast taxable profits. At the end of each mixed problem, reconcile current tax payable, current tax expense, deferred-tax movement and total tax expense.
A final verbal check should explain which underlying balance will be recovered or settled and why that event creates the future tax consequence shown.
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