CHAPTER 16 ACCOUNTING FOR INCOME TAX TECHNICAL KNOWLEDGE To know the distinction between accounting income and taxable income. To distinguish permanent differences and temporary differences between accounting income and taxable income. To know the recognition and measurement of deferred tax asset and deferred tax liability. To know the recognition and measurement of current tax asset and current tax liability. To distinguish interperiod tax allocation and intraperiod tax allocation. 519y the, Introduction Deferred tax accounting is applicable to all entities, wy}, public or nonpublic entities. ‘A public entity is an entity: a. Whose equity and debt securities are traded in a tag 3 exchange or over-the-counter market. b. Whose equity or debt securities are registered with Securities and Exchange Commission in preparation fe sale of the securities. Accounting income Accounting income or financial income is the net income for the period before deducting income tax expense. ‘Nhis is the income appearing on the traditional income statement and computed in accordance with accounting standards. Taxable income Taxable income is the income for the period determined in accordance with the rules established by the taxation authorities upon which income taxes are payable ot recoverable. ‘Taxable income is the income appearing on the income ta return and computed in accordance with the income tax Jaw. ‘Taxable income may be defined also as the excess of taxabl revenue over tax deductible expense and exemptions for th? period as defined by the Bureau of Internal Revenue.erences between account; piffere unting and taxable i ‘able income erences betweEN accountin i * : in os pe classified into two, namely. 2 and taxable income , permanent differences hb qemporary differences permanent differences manent differences are items of i . + reven hich are included in either accounting Tee expense jncome but will never be included in the other, or taxable jcually, permanent differences pertai b menue and nondeduelible expenses,” “™a70%le permanent differences do not give rise to deferred tax asset and liability because they have no future tax consequences. Examples inglude the following: a. Interest income on deposits Dividends received Life insurance premium When the entity is the beneficiary of a life insurance policy on an officer or employee, the premium paid by : the entity is not deductible as expense for tax purposes but said premium is an expense for financial reporting Purposes. Tax penalties, surcharges and fines are nondeductible.Temporary differences Temporary differences are differences between th f e amount of an asset or liability and the tax base. °™ "Ying Temporary differences include timing differences. ‘Timing differences are differences between Accoun, income and taxable income that originate in one perjgg v"® reverse in one or more subsequent periods. | Timing differences are items of income and expenseg whi are included in both accounting income and taxable igor t but at different time periods. me For every temporary difference, eventually that item's treatment will be the same in accounting and taxable income Accordingly, temporary differences give rise either to: a. Deferred tax liability b. Deferred tax asset Kinds of temporary difference a. Taxable temporary difference is the temporary difference that will result in future taxable amount in determining taxable income of future periods when the carrying amount of the asset or liability is recovered or settled. b. Deductible temporary difference is the temporary difference that will result in future deductible amount in determining taxable income of future periods when # carrying amount of the asset or liability is recovered of settled. oyax base jax base of an asset or 4 liad ts . the table to th iit putable le asset or liability ¥ is the amount a Y for tax purposes. ded in another way, the t; worde » the tax base of . jsthe amount of the asset or liability grote OF 8 liability allowed for tax purposes. 18 recognized or qax base of an asset ne tox base of an asset is the amount y for tox purposes against future icone ME Deana eible for example, if an entity has appropriately capitalized 1,000,000" as software development cost, the carryin: gnount is P1,000,000 for accounting purposes vee However, if this amount is allowed as a one-time deduction for tax purposes, the tax base is zero because the entire amount is expensed in the current year. Tax base of a liability The tax’ base of a liability is normally the carrying amount less the amount that will be deductible for tax purposes in the future. for example, if an entity has recognized an estimated warranty liability of P500,000, the carrying amount is ?500,000 for accounting purposes. However, an estimated warranty cost is deductible only when. ‘ually paid. Thus, the tax base is zero because the estimated warranty stis a future deductible amount.Deferred tax liability Y iability is the amount of income ¢, Deferred tax liability is t ens in future periods with respect to a taxable tempyible difference. Ory A deferred tax liability is the deferred tax cong attributable to a taxa le temporary difference op fae taxable amount. lire eqieng, Actually, a deferred tax lability arises from the following a. When the accounting income is higher than taxab) income because of timing differences. 8 b. When the carrying amount of an asset is higher than the tax base. c. When the carrying amount of a liability is lower than the tax base. Accounting income higher than taxable income Temporary differences that result in accounting income higher than taxable income include the following: 1. Revenues and gains are included in accounting income of the current period but are taxable in future periods, For example, an installment sale is included in accounting income at the time of sale and included in taxable income when cash is collected in future periods. 2. Expenses and losses are deductible for tax purposes in the current period but deductible for accounting purposes in future periods. a. Accelerated depreciation for tax purposes and straight line depreciation for accounting purposes. b. Development cost may be capitalized and amortized over future periods in determining accounting incom? but deducted in determining taxable income in period in which it is paid. ¢. Prepaid expense has already been deducted on & cash ies ae determining taxable income of the curté™ T1od.other taxable temporary differences taxable temporary diff, ost : : ferences ari 3 ences in the pay of the recognition of ty Neeinan sof . jecounting and tax purposes, le transaction weve there are other taxable te, i nically are. not timing differe; Wein deferred tax liability, Mporary differences that neces but nevertheless give such other taxable temporary differences include: a, Asset is revalued upward and no ¢ is made for tax purposes, quivalent adjustment The carrying amount of investment in subsidiary, associate or joint venture is higher than the tax base because the subsidiary, associate or joint venture has not distributed its entire income to the parent or investor. ¢, The cost of a business combination that is accounted for as an acquisition is allocated to the identifiable assets and liabilities acquired at fair value. Recognition of a deferred tax liability PAS 12, paragraph 15, provides that a deferred tax liability shall be recognized for all taxable temporary differences. However, a deferred tax liability is not recognized when the taxable temporary difference arises from: 1. Goodwill resulting from a business combination and which is nondeductible for tax purposes. asset or liability in a transaction bination and affects neither income. ). Initial recognition of an that is not a business com! i accounting income nor taxable i . Undistributed profit of subsidiary, associate or joint venture when the parent, investor or venturen 16 able to control the timing of the reversal of the temporary ference. 525Deferred tax asset gset is the bee with respec ting Joss carryforward. amount of income tax Tecoveray) t to deductible tem, le Adeferred ore in futare periods difference and opera! d tax asset is the deferreg words, a deferre: h i a a ee attributable to a future deductible amount an operating loss carryforward. A deferred tax asset arises from the following: When the taxable income is higher than accounting incom, because of timing differences. b. When the tax base of asset is higher than the carrying amount. When the tax base of a liability is lower than the carrying amount. a Taxable income higher than accounting income Temporary differences that will result to taxable income higher than accounting income because of timing differences include the following: 1. Revenues and gains are included in taxable income of current period but are included in accounting income of future periods. For example, rent received in advance is taxable at the time of receipt but deferred in future periods for accounting purposes. 2 Expenses and losses are deducted from accounting income of current period but i : a tax Purposes in future periods. i