Deferred Income Tax

Loading the player...

What is a 'Deferred Income Tax'

A deferred income tax is a liability recorded on the balance sheet that results from a difference in income recognition between tax laws and accounting methods. For this reason, the income tax payable for a company may not equate to the total tax expense reported. The total tax expense for a specific fiscal year may be different than the tax liability owed to the IRS as the company is postponing payment based on accounting rule differences.

BREAKING DOWN 'Deferred Income Tax'

Situations may arise where the income tax payable on the tax return is greater than the income tax expense on the financial statements. When this occurs, previous balances of deferred income tax liabilities are extinguished. In time, if no other reconciling events occurred, the deferred income tax account would net to $0. However, if there was no deferred income tax liability account, a deferred income tax asset would be created. This account would represent the future economic benefit expected to be received because income taxes were charged in excessed based on GAAP income.

Financial Accounting vs. Tax Accounting

Financial accounting standards are guided by generally accepted accounting principles (GAAP). GAAP accounting requires calculation and disclosure of economic events in a specific manner. In addition, income tax expense — a financial accounting account — is calculate using GAAP income. Meanwhile, the Internal Revenue Service (IRS) tax code specifics certain rules on the treatment of events. The differences between these two sets of guidelines result in different computations in net income and the subsequent income taxes due on that income.

Financial Statement Classification

A deferred income tax liability is classified on the balance sheet. However, it may be classified as either a short-term liability or long-term liability based. If the deferred tax liability is presumed to be paid in the next 12 months, it must be recorded as a current liability. Otherwise, it is of a long-term nature. Deferred income tax liabilities are the difference between the income tax expense reported on the income statement and the income tax payable reported on the balance sheet.

Example of Deferred Income Tax

The most common situation that generates a deferred income tax liability is from differences in depreciation methods. GAAP allows for businesses to choose between multiple depreciation methods. However, the IRS requires use of one depreciation method different from all GAAP methods. For this reason, the amount of depreciation recorded on the financial statements is commonly different than the calculations found on a company’s tax return. Over the life of the asset, the value of the depreciation in both areas changes, and at the end of the life of the asset, no deferred tax liability exists as total depreciation between the two methods is equal.

RELATED TERMS
  1. Deferred Tax Liability

    An account on a company's balance sheet that is a result of temporary ...
  2. Income Tax Payable

    A type of account in the current liabilities section of a company's ...
  3. Deferred Tax Asset

    A deferred tax asset is an asset on a company's balance sheet ...
  4. Future Income Tax

    Income tax that is deferred because of discrepancies between ...
  5. Tax Liability

    The total amount of tax that an entity is legally obligated to ...
  6. Tax Base

    The assessed value of a set of assets, investments or income ...
Related Articles
  1. Investing

    Deferred Tax Liability

    Deferred tax liability is a tax that has been assessed or is due for the current period, but has not yet been paid. The deferral arises because of timing differences between the accrual of the ...
  2. Investing

    Understanding Deferred Income Tax

    Deferred income tax is a liability on a balance sheet that reflects income tax that is allocable to the current period, but has not yet been paid.
  3. Personal Finance

    Deferred Tax Asset

    A Deferred Tax Asset is an asset on a company’s balance sheet that may be used to reduce taxable income. It is the opposite of a deferred tax liability, which describes something that will increase ...
  4. Personal Finance

    What is a Tax Liability?

    Tax liability is the amount of money a person or entity owes to the government as the result of a taxable event.
  5. Markets

    Understanding How Oil Companies Pay Taxes

    Read about how big oil corporations pay taxes, and learn about tax exemptions and the option to defer. Discover the argument about big oil being given tax exemptions
  6. Personal Finance

    Understanding Income Tax

    Income tax is a levy many governments place on revenue of entities within their jurisdiction.
  7. Personal Finance

    Tax Haven Vs. Tax Shelters: Is There a Difference?

    Learn about the difference between tax havens and tax shelters, and how both are used to reduce tax liability or avoid paying taxes altogether.
  8. Personal Finance

    3 Federal Income Tax Facts You Didn't Know

    Learn about three federal income tax facts that most Americans may not know from one of the most trusted financial resources on the Web.
  9. Personal Finance

    Comparing Regressive, Proportional and Progressive Taxes

    Learn about the basic differences between three common tax systems.
  10. Personal Finance

    Comparing Long-Term vs. Short-Term Capital Gain Tax Rates

    Learn about the difference between short- and long-term capital gains and how the duration of your investment can impact your tax liability.
RELATED FAQS
  1. Where do deferred tax liabilities come from?

    Learn about the basic features of deferred tax liabilities, how they originate and why a company might create deferred tax ... Read Answer >>
  2. What is a deferred tax liability?

    Find out more about deferred tax liabilities, what they are and one common reason why a company may have deferred tax liabilities. Read Answer >>
  3. What is the justification for allowing deferred tax liabilities?

    Understand the justification for allowing deferred tax liabilities. Learn the reasoning behind why a company would want to ... Read Answer >>
  4. What are some examples of a deferred tax liability?

    Learn why deferred tax liability exists, with specific examples that illustrate how it arises as a result of temporary differences. Read Answer >>
  5. Do tax liabilities appear in the financial statements?

    Find out how taxes are shown on the balance sheet, the income statement and the cash flow statement, and why taxes are an ... Read Answer >>
  6. How does the Fair Accounting Standards Board (FASB) regulate deferred tax liabilities?

    Learn about the treatment of deferred tax liabilities under the requirements set forth by the Financial Accounting Standards ... Read Answer >>
Hot Definitions
  1. Diversification

    A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique ...
  2. European Union - EU

    A group of European countries that participates in the world economy as one economic unit and operates under one official ...
  3. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  4. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
  5. Brexit

    The Brexit, an abbreviation of "British exit" that mirrors the term Grexit, refers to the possibility of Britain's withdrawal ...
  6. Underweight

    1. A situation where a portfolio does not hold a sufficient amount of a particular security when compared to the security's ...
Trading Center