Deferred Income Taxes

Corporations pay taxes on their income. Traditionally, accounting income is used for the basis of taxation. However, this is not always the case because there are some forms of income that count as exceptions to this rule.

There are some forms of revenue and expenses that are calculated for both accounting purposes and taxation but not in the same year. In general, most companies use the straight line method when calculating depreciation. The law implores the use of a declining balance method for most tax calculations instead.

As a result, most companies have higher depreciation charges and lower income for tax purposes in the early years of their possession of the asset and lower depreciation and higher taxable income in the latter years. Fines and interest on unpaid taxes are not permitted as expenses for tax purposes.

Deferred income taxes come from these types of differences in recording methods. The most marked difference is seen in calculating depreciation. Because depreciation is calculated over the long-term life of assets, the deferred tax differences are noticeable long-term as well. Deferred taxes are not discounted to indicate future payment.

Consequently, corporations report large amounts that are considerably overstated on the balance sheets in comparison to the present value. Therefore, in financial statements ,the current income tax expense is reported apart from the deferred tax expense. A reconciliation of tax expense to tax levied is demonstrated by public companies to explain the reasons for the differences.