Deferred Tax Chapter 2

8
DEFERRED TAX
Learning Outcomes
FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

© Oxford Fajar Sdn. Bhd. (008974-T), 2019 8–3
Deferred Tax
 Deferred taxes arise from the differences between the tax
calculated for taxation purposes and financial accounting and
reporting purposes.
– For financial accounting and reporting purposes, tax expense is
estimated based on net income before tax
• Following the principles in MFRSs results in financial
statement income tax expense.

Deferred Tax (cont.)
– For taxation purposes, a company estimates its taxes payable
based on its taxable income.
• Tax laws form the set of rules for preparing tax returns.
Following the tax laws results in the income tax payable to
the relevant authorities.
 In general, the differences between the two tax calculations will
either result in a liability or an asset

Differences
 Permanent Differences:
– Permanent differences (or non-temporary differences) relate to
items incurred by an entity that are not allowable or deductible
for taxation purpose.
– They are created when an income item is included in taxable
income or accounting income but will never be included in the
computation of the other.
– Permanent differences have no deferred tax consequences.

Differences (cont.)
 Temporary differences:
– Temporary differences refer to items that are treated differently
for taxation and financial accounting and reporting purposes.
– Arise from :
• timing differences , and
• circumstances that are not related to timing differences
– Temporary differences have deferred tax consequences
• depend on whether the temporary differences are taxable
or deductible temporary differences.
Permanent Differences

Temporary Differences
 Taxable temporary differences:

– Temporary differences that cause accounting income to be
greater than taxable income.
– They arise in the situations, where;
• carrying amount of an asset in the Statements of Financial

Position is more than the tax base; or
• carrying amount of a liability in the Statements of Financial
Position is less than the tax base.
CLASS EXERCISE: EXAMPLE 8.1

© Oxford Fajar Sdn. Bhd. (008974-T), 2019
9 8–9
Temporary Differences (cont.)
 Taxable temporary differences:

– Cause a future taxable amount and create deferred tax
liabilities for the taxes to be paid on the future taxable amounts.

10 8–10
 Deductible temporary differences:

– Differences that cause accounting income to be less than
taxable income.
– They arise in the situations where:
• carrying amount of an asset in the Statements of Financial

Position is less than the tax base; or
• carrying amount of a liability in the Statements of Financial
Position is more than the tax base.
11 8–11
 Deductible temporary differences:

– Cause a future deductible amount and create deferred tax
assets for the taxes to be paid on the future taxable amounts.

12 8–12
Accounting for Deferred Tax
 MFRS 112—Income Taxes, requires an entity to use the full

provision method in accounting for income taxes :
• Deferred taxes are calculated based on ‘balance sheet

liability’ method on all temporary differences.
• Companies are required to make a full provision for

deferred tax, regardless of whether or not future reversals
in temporary differences will be offset by others.

Accounting for Deferred Tax
(cont.)
• Under this approach, the tax consequences of the

temporary differences are recognized by including its tax
effect:
• as income tax expense on the Statement of
Comprehensive Income, and

• as an asset or liability in the Statement of Financial
Position.

Initial Recognition and
Measurement
 Deferred tax liabilities:

– A deferred tax liability arises when a company is able to
defer paying tax on profit.
– The deferment happen because tax laws permit the
company to delay reporting the profit as part of taxable
income in a particular period.

Measurement (cont.)
 Deferred tax liabilities:

– Thus, the company has a liability for the income tax
deferred that is recognized on taxable temporary
difference.
• the deferred tax liability is derived from multiplying the
tax rate with the taxable temporary difference.

Measurement (cont.)
 Deferred tax assets:

– A deferred tax asset arises when a company has future
tax benefit originating from the reversal of a temporary
difference between the financial statement carrying
amount and its tax base.

Measurement (cont.)
 Deferred tax assets:

– Thus, the company has an asset for the future tax
benefits that is recognized on deductible temporary
differences.
• the deferred tax assets is derived from multiplying tax
rate with deductible temporary difference

Variations in Recognition and
Measurement of Deferred Taxes
Utilizing tax losses to offset taxable income:

 A tax loss arises when tax-deductible expenses exceed
taxable revenues, resulting in a negative taxable income.
– No payment of tax needs to be made during the year a tax
loss occurs.
– Depending on the tax jurisdictions, companies are allowed
to utilize their net losses to offset taxable income in other
profitable years.
(cont.)
Utilizing tax losses to offset taxable income:
• Companies can choose whether to use the net losses
against income in earlier (carryback) or subsequent
periods (carry forward).
– The decision to opt for carryback or carry forward depends

on several factors, such as anticipated tax rates in the
following years and taxable income in the previous years.
(cont.)
Accounting for compound instruments:

 Compound instruments (hybrid instruments) are securities of
financial instruments that have characteristics of both debt
and equity.
– For financial reporting purpose: the initial recognition of
compound instruments involves a separate classification of
the components.

(cont.)
– For taxation purpose: the separation of compound
instruments into the liability and equity components
creates temporary differences.
 The temporary difference, which is derived from the

difference between the carrying amount of the liability
component and its tax base, has a deferred tax implication.
(cont.)

– The liability component of a compound financial instrument
is determined in accordance with MFRS 132.
– The tax base of that liability component is derived from the
following formula:
• Tax base (of a liability) = Carrying amount – Future
deductible amounts + Future taxable amounts

(cont.)
Accounting for share-based payment transactions:
 Share-based payment transactions refer to payments that
are made either by issuing equity instruments or making cash
payments based on share prices.
– For financial reporting purpose: The accounting treatment
for share-based payment transactions is prescribed by
MFRS 2 Share Based Payments.

(cont.)
– For taxation purpose: Tax jurisdictions provide for
deductions only when the share options are exercised at a
later date than when they are recognized as an expense
by a company.

(cont.)
 As the share-based expense is charged on the income
statement over the vesting period, but the tax deduction is
only available when the shares are issued upon the exercise
of the options, temporary differences arise.
– the tax base for share-based payments will be nil

(cont.)
Tax rates considerations:

(cont.)
 Multiple temporary differences:

– In a particular financial year, a company would have
several temporary differences, be it taxable or deductible.

(cont.)
 Accounting treatment:
– the total of the future taxable amounts will be multiplied by
the future tax rate to determine the appropriate balance
for the deferred tax liability, and
– the total of the future deductible amounts will be multiplied
by the future tax rate to determine the appropriate balance
for the deferred tax asset.

(cont.)
Unrecognized Deferred Tax Assets:
 Deferred tax is recognized only when there is evidence of
probable taxable profits that can be used against the deductible
temporary difference in the future.
 In situations where there is no evidence of such probable
taxable profits, there will be unrecognized tax benefits.
• Unrecognized deferred tax assets could arise from temporary
differences, such as unutilized tax losses and unabsorbed
capital allowances.
(cont.)
Unrecognized Deferred Tax Assets:

 According to MFRS 112:
– the unrecognized tax benefits to be presented in the
financial statement.
– the gross presentation of the unrecognized tax needs to be
disclosed in the notes to the financial statements.

Disclosure Requirement for
Deferred Taxes
 Examples of disclosure notes include the following:

– Current portion of tax expense/income
– Adjustment on the deferred portion of tax expense/income
relating to the origination and reversal of temporary
differences
– Amount of income tax taken to income, other
comprehensive income and equity.

Disclosure Requirement for
Deferred Taxes (cont.)
– Tax effect of each type of temporary difference, unused tax

losses and unused tax credits
– Amount of deductible temporary difference, unused tax
losses and unused tax credits for which no deferred tax is
recognized.

Issues in Accounting for
Deferred Taxes
 Deferred Taxes in Business Combination

– temporary differences exist from the differences between
the carrying amount of the identifiable assets and liabilities

(i.e. at fair value), and their tax base upon acquisition.
– Paragraph 15(a) of MFRS 112 specifically disallows the
recognition of deferred tax liabilities arising from the initial

recognition of goodwill.
CLASS DISCUSSION: CASE STUDY 1

– upon a business combination, changes may incur in the
probability of realizing a pre-acquisition deferred tax

assets, due to new information about facts and
circumstances that existed at the acquisition date.

 Deferred Taxes in Consolidated Financial Statements

– MFRS 112 requires the recognition of deferred tax on all
unrecognized intra-group profits.

• In the context of intra-group sales, deferred tax has to be
provided on the difference between the carrying value of

that inventory, which will be after elimination of the intra-
group profit, and its tax base, which will be the cost of the
stock in the acquiring company
 Deferred Taxes in Consolidated Financial Statements

– Complexity arises when the two group companies pay tax
at different rates since calculation of deferred tax requires

the tax rate and tax base of the asset to be consistent.


Deferred Tax Chapter 2

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8

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Deferred taxes arise from the differences between the tax

calculated for taxation purposes and financial accounting and

– For financial accounting and reporting purposes, tax expense is

estimated based on net income before tax

• Following the principles in MFRSs results in financial

statement income tax expense.

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

– For taxation purposes, a company estimates its taxes payable

based on its taxable income.

Following the tax laws results in the income tax payable to

the relevant authorities.

 In general, the differences between the two tax calculations will

either result in a liability or an asset

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Taxable temporary differences:

• carrying amount of an asset in the Statements of Financial

CLASS EXERCISE: EXAMPLE 8.1

 Taxable temporary differences:

CLASS EXERCISE: EXAMPLE 8.1

 Deductible temporary differences:

• carrying amount of an asset in the Statements of Financial

 Deductible temporary differences:

CLASS EXERCISE: EXAMPLE 8.1

 MFRS 112—Income Taxes, requires an entity to use the full

• Deferred taxes are calculated based on ‘balance sheet

• Companies are required to make a full provision for

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

• Under this approach, the tax consequences of the

Comprehensive Income, and

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Deferred tax liabilities:

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Deferred tax liabilities:

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Deferred tax assets:

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

 Deferred tax assets:

FINANCIAL ACCOUNTING AND REPORTING 2 (SECOND EDITION) All Rights Reserved

Utilizing tax losses to offset taxable income:

– The decision to opt for carryback or carry forward depends

Accounting for compound instruments:

CLASS EXERCISE: EXAMPLE 8.4

 The temporary difference, which is derived from the

Accounting for compound instruments:

CLASS EXERCISE: EXAMPLE 8.4

 Share-based payment transactions refer to payments that

are made either by issuing equity instruments or making cash

payments based on share prices.

– For financial reporting purpose: The accounting treatment

for share-based payment transactions is prescribed by

MFRS 2 Share Based Payments.

Accounting for share-based payment transactions:

– For taxation purpose: Tax jurisdictions provide for

deductions only when the share options are exercised at a

later date than when they are recognized as an expense

CLASS EXERCISE: EXAMPLE 8.5

Accounting for share-based payment transactions:

 As the share-based expense is charged on the income

statement over the vesting period, but the tax deduction is

of the options, temporary differences arise.