-: Here we look at how to do step two
of the deferred tax sequence of events
and this is working out the temporary differences.
This assumes we've already worked out the carrying amount
and we've worked out the tax base
and now we work out the temporary difference
and from here we can recognise the DTA or the DTL.
Now you should be getting quite familiar with Farmer Brown.
We've looked at this a few times.
The tractor costs 120,000.
Different depreciation for accounting purposes, 24,000 here.
For tax purposes, 30,000 for a year.
And this temporary difference expands over time
and then reconciles back to zero.
So Figure 4.3 shows us the formula.
Quite simple, get the carrying amount subtract the tax base
and we have our temporary difference.
Where it gets a bit tricky, is you've got to first remember
to multiply that by the tax rate and secondly,
determine if it's a DTA or a DTL.
Then when we get into Part B, we will work out,
should we recognise it or not,
based on recognition criteria as well.
Let's look at this temporary difference.
At the very start, for carrying amount,
for accounting purposes, 120.
For tax purposes, 120.
There is no temporary difference at all.
But after one year of depreciation, for accounting, 24,000
brings us to a closing balance of 96.
For tax purposes, 30,000 brings us a closing balance of 90.
A clear difference of $6,000.
So when you see it like this, you go, oh,
actually that's not that complicated.
We've now worked out the temporary difference,
carrying amount minus tax base.
Over the period of time, you would do this every single year
you have a temporary difference.
It's now 12,000.
It's now 18,000.
It's now $24,000.
And so we get to the end result though
and because in the final year, there is depreciation
for the accounting purposes 'cause it's done
over five years.
But there's none in the fifth year
because for tax it's already depreciated in four.
That $24,000 temporary difference that arose
over those years is now eliminated.
It's brought back to zero, that's why it was temporary.
It's now zero.
A DTL is going to arise over this time
and then be eliminated in the end.
Looking at Table 4.5, the question is,
does this temporary difference lead to a DTL,
a deferred tax liability or a DTD?
And that's going to lead us to a deferred tax asset.
So is it a taxable temporary difference
or a deductible temporary difference?
The first one we have is cash and there was no difference
between the carrying amount and the tax base,
so there's no deferred tax asset or deferred tax liability.
Now we have receivables.
What's going on?
For accounting purposes, 75,000.
For tax, it's written down as 80,000.
Now what could cause this to happen?
Most likely, for tax purposes, we have not been allowed
to adjust for possible doubtful debts.
In our accounting books, we would have written off 5,000
as a provision for doubtful debts.
But for tax purposes, you cannot write off an amount
until it's fully written off.
So for tax purposes, the full amount of revenues
being recognised but in the future you should be allowed
to write off this bad debt once it's proven.
Because you had to recognise the full 80,000 in sales,
you are going to pay slightly more tax than based
on the accounting books, $5,000 worth of difference.
This 5,000 is a deductible temporary difference.
You'll see up here, DTDs went to DTAs.
That means you are going to pay more tax now
because this recognises a higher level of earnings,
$5,000 more than in your accounting books.
If your tax earnings are up 5,000,
you are going to pay more tax now
but when that bad debt is written off in the future,
you will pay less.
If you pay less tax later, it's going to be a future benefit
and we're going to call that an asset.
So the next item is inventories and for accounting
and tax purposes, there is no difference.
There is no temporary difference, there is no DTA or DTL.
But what about plant and equipment?
Well, on the accounting books, it's 1.25 million
versus 1.05 million in the tax base.
It's going to be similar to how we worked out Farmer Brown.
You will have had items here and they would be depreciated
differently for accounting as for tax.
So there is going to be a temporary difference in place.
How much different?
200,000.
Now that is going to resolve itself in future but not yet.
We call it a taxable temporary difference.
That's giving us a deferred tax liability
because we have written off
$200,000 more depreciation expense for tax.
So we've taken our accounting profit and then pushed
that down when we calculate our taxable profit by 200,000.
So we're going to pay a lot less tax now
but when that temporary difference reconciles,
it's going to be more tax paid later.
There's lots of colours here.
There's a greater level of depreciation in the tax books
than the accounting books.
More depreciation pushes down our taxable profit.
We have less taxable profit now, great.
It means less tax paid now, great.
But you can't avoid it forever.
You will pay more tax later.
You have a present obligation to pay this tax in the future.
That's a deferred tax liability.
So what about trade payables?
There's no difference between these two items.
But provisions, there is.
Now when we looked at the tax base of liabilities
in a separate clip, we see that,
if we recognise something for accounting purposes,
like a provision or a warranty claim.
It might be a provision
for employee benefits, for example.
The Tax Office usually does not allow that expense
until the cash has been paid.
For accounting purposes, we have an expense and a liability.
But for tax purposes, we have nothing.
The tax base is zero because no liability is recognised.
The same thing is going to happen
when we have unearned revenue.
If we have unearned revenue on our accounting books
as a liability, for tax purposes,
it's already been recognised.
There is no tax base.
So what's happening here
is a deductible temporary difference which gives us a DTA,
a deferred tax asset.
For accounting purposes, our profit is down
because of the provision.
But for tax purposes, we add that back on,
we don't get to deduct it.
So we're going to pay more tax now.
And if we pay more tax now,
we will pay less tax in the future.
So more tax now, less in the future, giving us a DTA,
a deferred tax asset.
Borrowings, no difference in this situation.
The first component of this calculation is to work out
the temporary difference, and that's as simple
as comparing the two numbers and adding it up.
The second component is trickier
and that's where we work out if it is a TTD or a DTD.
That determines whether it's a deferred tax liability
or a deferred tax asset.
Now at each point, I talked through the logic of
is this going to be an asset or liability?
Many, many students get stuck and they go,
oh, I can't remember or they guess.
You never need to guess.
You can always work out the logic of, am I going to
pay more tax later or am I going to pay less tax later?
That tells you the answer.
The key final step here and we look at this more
when we get to step three and step four,
is once we've wrote down our temporary difference,
we can work out our deferred tax component
but it's never the same amount.
You have to multiply it, usually by 30%.
Now the study guide gives you some examples.
Sometimes a tax rate might change, it might be 25%
or it depends if you hold the asset for sale
or if we use slightly different tax rate.
Regardless, you must always multiply it by the tax rate
because this will tell us that we have a deferred tax asset.
This will tell us a deferred tax liability
and this is the $1,500 deferred tax asset.
So to bring this section to a conclusion,
what we've now done is worked our way carefully
through this whole flowchart.
We started off with Module four Part A Section one
looking at current tax
and how we adjust the accounting profit over here
to work out our taxable income.
Then we want to look at the deferred tax and we need to know
our temporary differences but we first have
to calculate our carrying amount, reasonably simple.
But then determining the tax base, the tax base of assets,
liabilities, and unearned revenue liabilities.
Once we know the difference between the two,
we can multiply it by the tax rate and the hard part now
is is it a DTA or DTL?
So I took you through that table to try and make that clear.
And then the worksheet to explain it further.
So let's see how good your logic is.
Can you, we've looked at Barber Ltd. a couple of times.
Barber Ltd. received 3,000 in income in advance.
For accounting purposes, that is a liability.
Zero income.
For tax purposes, it's 3,000 of income now
and no liabilities.
So there's no tax base.
So we have a $3,000 temporary difference.
So what's going on?
We have a temporary difference.
Is it going to cause a DTA or a DTL?
Well, our Table 4.6 gives you a formula sheet here
but I don't want you to memorise it.
I want you to understand the logic
'cause then you can always work out a scenario.
So they say that if the carrying amount
of an asset is greater than the tax base,
then you're going to get a DTL.
If you've got the carrying amount being less
than the tax base, for example of the liability,
that will be a DTL.
Now people memorise these but they don't understand it.
That's why I think it's really unhelpful.
You should always talk through the logic.
So let's do that here.
Why does this table make sense?
Well, if we've got a carrying amount,
the accounting book's higher than the tax base for an asset.
That is going to give us a deferred tax liability.
Well, let's think about that.
Let's take a fixed asset being depreciated faster
for tax purposes.
What takes place in this scenario?
If you depreciate faster that means you have
a higher expense in your tax books
so your taxable profit is going to go down.
You are going to pay less tax now.
But you're going to end up paying more tax later
and therefore if you pay more tax later,
you have a deferred tax liability.
You will often see this with accelerated depreciation
for tax purposes.
Now a liability is going to give you a deferred tax asset
when the carrying amount is greater than the tax base.
When does this normally happen?
Well, think about it.
Barber Ltd, it happens.
We have a liability for accounting purposes
because it's unearned revenue.
We have zero for tax purposes.
We have zero for tax purposes because we've had to pay tax
now on it or pay less later, deferred tax asset.
Another time this'll happen is with a provision.
In accounting books, we have a provision
for employee benefits, a provision for customer warranties.
But the Tax Office doesn't allow you
to recognise that provision until it's been paid.
So our carrying amount will be here
and the tax base will be zero.
So when our carrying amount is up and our tax base is zero,
that means we are going to get the benefit
of that deduction in the future.
And when we get that benefit, it will be an asset.
So long service leave.
The carrying amount, the estimate for long service leave.
For tax purposes, zero.
So if for tax purposes, zero now, when you pay out
that long service leave, you will actually pay less tax
because you are forced to pay it now
because your taxable profit now is much, much higher
because you weren't allowed to expense
that long service leave component.
I hope by going through some logic here,
you can properly understand why this table works
and you should be able to apply this.
Whenever you get a CPA exam question
you should be thinking it through and talking it through,
not just magically applying formulas.
Now we're looking at Barber Ltd.
We've got a liability,
so straightaway we look at this column.
The carrying amount is greater than the tax base.
It's 3,000 for the accounting books.
Zero for the tax books.
This is going to give us a DTA.
Great, I underlined the wrong one,
carrying amount greater than the tax base.
So here's our DTA.
I hope you can solve that with logic instead.
Now our final component of step two and three,
they sort of go together.
Then step four of this component
of deferred tax is the whole of Part B.
So step three.
What we've got, Barber Ltd. again.
What is the deferred tax?
We were able to work out that the tax base is zero.
We were able to work out the temporary difference is 3,000
but what is the deferred tax?
I'm going to take the low light onto this
by using a table format which you can use for any question.
We have 3,000 on the liability in our books,
our accounting books, the carrying amount
because it's revenue in advance.
So we have a debit to cash and a credit
to an unearned revenue liability account.
But from a tax perspective,
the full 3,000 was recognised now.
So we have a zero liability for tax.
We worked that through already.
You're going to pay more tax now because you've recognised
all that income and less tax later.
That's going to give us a deductible temporary difference
so carrying amount minus tax base, $3,000.
We then multiply it by the tax rate to give us
the deferred tax of $900.
Now I've previously asked you is it a DTA or DTL?
You should be able to remember this but if not,
then here's the table.
The carrying amount, 3,000,
greater than the tax base of zero.
This is a liability account and it's a deferred tax asset.
I hope that table format helps you logically think
through what's being requested here.
Farmer Brown is back again.
Purchased a tractor, 120.
Depreciated for different rates,
so what is the deferred tax in year one?
So opening balance, carrying amount, tax base, 120,000.
Absolutely no temporary difference at the start
so no deferred tax.
But because the depreciation goes from 24,000 to 30,000,
depending on accounting or tax, $6,000 temporary difference.
For accounting, 96,000 to 90,000.
How do we work out our temporary differences?
Carrying amount less the tax base,
$6,000 temporary difference.
And now the final component is, what is the deferred tax?
The deferred tax, there's going to be a movement.
We'll look at that more in Part B.
But in Part A, the key here is,
we have deferred tax of 1,800.
6,000 multiplied by 30%.
And how do I know it's a deferred tax liability?
Well, we can use the table.
The carrying amount of 96 greater than the tax base of 90
gives me for an asset, a DTL.
But more importantly, the logic is this.
You have written it off faster for tax purposes.
Greater tax expense pushes down your taxable profit
so you pay less tax now but you will pay more tax later
in that final year when it all unwinds and comes back
to a zero temporary difference,
that's when it has to be all caught up and reconciled.
So the journal entry, the focus of Part B
but I'll show it to you now.
Debit to this deferred tax expense or DTE.
Credit to the deferred tax liability.
I hope you found that a useful conclusion
to Part A of Module four.
It's a complicated area.
You'll have to work through this several times
to build up your speed and your understanding
so that when you get to the recognition areas
you can work quickly through the questions.
Thank you.