Deferred Tax Assets

Definition

Deferred tax assets are financial statement items that represent the amount of taxes a company has overpaid or has deferred to future periods due to temporary differences between its accounting income and taxable income. These arise when a company recognizes an expense or loss on its financial statements before it is recognized for tax purposes, leading to a future tax benefit. In the context of International Financial Reporting Standards (IFRS), understanding how deferred tax assets are recognized, measured, and disclosed is crucial for accurately reporting a company's financial position.

5 Must Know Facts For Your Next Test

1. Deferred tax assets can arise from various situations, including accrued expenses, loss carryforwards, and tax credits that have not been utilized yet.
2. Under IFRS, companies must assess the recoverability of deferred tax assets based on the likelihood of generating future taxable income against which these assets can be realized.
3. Deferred tax assets are recognized only to the extent that it is probable that future taxable profits will be available, so companies often perform assessments of their profitability outlook.
4. Changes in tax laws or rates can impact the measurement of deferred tax assets, requiring companies to adjust their reported amounts accordingly.
5. Proper disclosure of deferred tax assets is essential in financial statements to provide clarity on potential future tax benefits that may impact a company's cash flow.

Review Questions

• How do deferred tax assets arise and what implications do they have for a company's financial statements?
  • Deferred tax assets arise from temporary differences between accounting income and taxable income, such as expenses recognized in financial statements before being deducted for taxes. Their presence indicates that a company has overpaid taxes or has incurred losses that will benefit future periods. This can enhance the financial position by showing potential future tax savings, impacting how investors and analysts perceive the company’s profitability and cash flow prospects.
• Discuss the recognition criteria for deferred tax assets under IFRS and how companies assess their recoverability.
  • Under IFRS, deferred tax assets are recognized when it is probable that future taxable profits will be available to utilize these benefits. Companies must evaluate their future profit projections and consider factors such as recent earnings history, business plans, and economic conditions. If it is determined that it is not probable that future taxable income will be generated, the deferred tax asset may need to be reduced or fully written off.
• Evaluate the impact of changing tax rates on deferred tax assets and how companies must respond in their financial reporting.
  • When tax rates change, companies must reassess their deferred tax assets to ensure they reflect the new rates accurately. This adjustment can lead to either an increase or decrease in the value of these assets on the balance sheet, affecting the overall financial position. Additionally, any significant changes in deferred tax asset valuations due to rate adjustments must be disclosed in financial statements, ensuring transparency for stakeholders regarding potential impacts on future earnings and cash flows.

Related terms

Deferred Tax Liabilities: Deferred tax liabilities are amounts that a company owes in taxes for income that has been recognized in its financial statements but not yet reported on its tax return, representing future tax payments.

Temporary Differences: Temporary differences occur when there is a discrepancy between the book value of an asset or liability in the financial statements and its tax base, leading to deferred tax assets or liabilities.

Tax Loss Carryforward: A tax loss carryforward allows a company to use a net operating loss to offset future taxable income, creating potential deferred tax assets.