Deferred tax provisions

This query is : Resolved

Sonnal Khandaray (Querist)
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13 December 2021 Hi all

My company has incurred a loss of 35000( 1st year of company) in the last year and of Rs. 5000 in the current year. Its bse of incorporation expenses of Rs. 150000.
Do I need to provide for deferred tax? How to calculate the same?

Thanks in advance.

Asha Kanta Sharma

Asha Kanta Sharma

(Expert)
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06 July 2024 Since your company has incurred losses in both the first and current years, and considering it's the first year of operation, deferred tax accounting may not be applicable immediately unless there are temporary differences that lead to deferred tax liabilities or assets.

Here’s a step-by-step approach to understand if you need to provide for deferred tax and how to calculate it:

### Step 1: Determine Temporary Differences

Deferred tax arises from temporary differences between the carrying amount of assets and liabilities in the financial statements and their respective tax bases. Common temporary differences include:

- **Depreciation**: Differences in depreciation methods or rates used for financial reporting and tax purposes.
- **Provisions**: Differences between provisions recognized for financial reporting and tax purposes.
- **Revenue Recognition**: Timing differences in recognizing revenue for financial reporting and tax purposes.
- **Startup Costs**: Deductibility of expenses incurred during startup phases (like incorporation expenses) for tax purposes.

### Step 2: Assess the Need for Deferred Tax Provision

Since your company has incurred losses:
- **Deferred Tax Asset**: If there are deductible temporary differences (like startup expenses) that will result in tax savings in future profitable years, you may recognize a deferred tax asset.
- **Deferred Tax Liability**: If there are taxable temporary differences (like accelerated depreciation for tax purposes compared to straight-line depreciation for financial reporting), you may recognize a deferred tax liability.

### Step 3: Calculate Deferred Tax

Deferred tax is calculated based on the tax rates that are expected to apply when the temporary differences reverse. Here’s a simplified example for illustration:

1. **Identify Temporary Differences**: Let’s assume the only significant temporary difference is the startup costs of Rs. 150,000.

2. **Calculate Deferred Tax Asset**:
- Temporary Difference: Rs. 150,000 (assuming 100% deductible for tax purposes in future years)
- Tax Rate: Current applicable tax rate (e.g., 30%)
- Deferred Tax Asset = Temporary Difference × Tax Rate
- Deferred Tax Asset = Rs. 150,000 × 30% = Rs. 45,000 (assuming full deduction in future taxable income)

### Step 4: Recording Deferred Tax

- **Journal Entry**: Once calculated, record the deferred tax in your books through a journal entry:
- Debit Deferred Tax Asset Account
- Credit Deferred Tax Liability Account (if applicable)

### Considerations

- **Consultation**: It’s advisable to consult with a tax advisor or accountant to ensure accurate calculation and compliance with tax regulations.
- **Future Reassessment**: Deferred tax assets and liabilities should be reassessed at the end of each reporting period to reflect any changes in tax rates or the expected timing of reversals.

Given the specifics of your company’s situation (first year losses and incorporation expenses), the need for deferred tax provision hinges on identifiable temporary differences. If there are no significant temporary differences apart from startup costs, the deferred tax impact may be minimal initially.

Always tailor your approach to specific accounting standards (such as Ind AS or IFRS) applicable to your jurisdiction and seek professional advice for accurate application to your company’s financial statements.