Deferred tax asset - basic understanding

VVicky4y ago

Dear all, Could you please help me to understand the following: Activity 5: Pargatha Co Pargatha Co recognises a liability of $10,000 for accrued product warranty costs on 31 December 20X7. These product warranty costs will not be deductible for tax purposes until the entity pays the warranty claims. The tax rate is 25%. ___ Answer: When the liability is settled for its carrying amount, the entity’s future taxable profit will be reduced by $10,000 and so its future tax payments by $10,000 × 25% = $2,500. Pargatha Co should therefore recognise a deferred tax asset of $10,000 × 25% = $2,500 ___ I'm trying to understand this particular sentence "When the liability is settled for its carrying amount, the entity’s future taxable profit will be reduced by $10,000" My logic and understanding of the above mentioned sentence, when the company pays someone the warranty claims, they will incur expenses. So in the PL, i will see -10,000 > meaning, the taxable profit will be less for 10,000 > meaning, if it's going to be less in the future, then right now we have a deferred tax asset. Is this correct? Or I am missing the whole point of the DFL/DFA difference?

P2-D2Tutor4y ago#1

Hi, You are correct in that you have a deferred tax asset and your logic is correct under the older version of deferred tax where we looked at the profit impact. The standard now looks at it from an SFP perspective (assets and liabilities). Hence, the carrying value of the recognised liability for the costs is (10,000) and the tax base is nil as the costs are not recognised by the tax authorities until the amount is paid. The CV is therefore less than the tax base and we have a tax deductible temporary difference and a DT asset. Thanks

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