Deferral

A Deferral, in accrual accounting, is any account where the asset or liability is not realized
until a future date (accounting period), e.g. annuities, charges, taxes, income, etc. The
deferred item may be carried, dependent on type of deferral, as either an asset or liability. See
also accrual.
Deferrals are the consequence of the revenue recognition principle which dictates that
revenues be recognized in the period in which they occur, and the matching principle which
dictates expenses to be recognized in the period in which they are incurred. Deferrals are the
result of cash flows occurring before they are allowed to be recognized under accrual
accounting. As a result, adjusting entries are required to reconcile a flow of cash (or rarely
other non-cash items) with events that have not occurred yet as either liabilities or assets.
Because of the similarity between deferrals and their corresponding accruals, they are
commonly conflated.

Deferred expense: cash has left the company, but the event has not actually occurred
yet. Prepaid expenses are the most common type. For instance, a company may
purchase a year of insurance. After six months, only half of the insurance will have
been 'used' with another six months of the insurance still owed to the company. Thus,
the company records half of the payment as an outflow (an expense) and the other
half as a receivable from the insurance company (an asset).
Deferred revenue: Revenue has come into the company, but the event has still not
occurred - it is unearned revenue. A magazine company, for instance, may receive
money for a one year subscription. However, the company has not spent the resources
in producing and delivering those magazines and thus accountants record this revenue
as a liability equal to the amount of cash received. The magazine company, while now
having more cash on hand, also now owes a year of magazines. The amount of each
magazine that gets delivered is then taken out of liabilities and recorded as revenue
during the economic period in which it actually happens, not just when the company
gets paid for it.

Deferral (deferred charge)

Deferred charge (or deferral) is cost that is accounted-for in latter accounting period for its
anticipated future benefit, or to comply with the requirement of matching costs with
revenues. Deferred charges include costs of starting up, obtaining long-term debt, advertising
campaigns, etc., and are carried as a non-current asset on the balance sheet pending
amortization. Deferred charges often extend over five years or more and occur infrequently
unlike prepaid expenses, e.g. insurance, interest, rent. Financial ratios are based on the total
assets excluding deferred charges since they have no physical substance (cash realization)
and cannot be used in reducing total liabilities.[1]

Deferred expense
A Deferred expense or prepayment, prepaid expense, plural often prepaids, is an asset
representing cash paid out to a counterpart for goods or services to be received in a later
accounting period. For example if a service contract is paid quarterly in advance, at the end
of the first month of the period two months remain as a deferred expense. In the deferred
expense the early payment is accompanied by a related recognized expense in the subsequent
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accounting period, and the same amount is deducted from the prepayment. [2] The deferred
expense shares characteristics with accrued revenue (or accrued assets) with the difference
that an asset to be covered later are proceeds from a delivery of goods or services, at which
such income item is earned and the related revenue item is recognized, while cash for them is
to be received in a later period, when its amount is deducted from accrued revenues.
For example, when the accounting periods are monthly, an 11/12 portion of an annually paid
insurance cost is added to prepaid expenses, which are decreased by 1/12 of the cost in each
subsequent period when the same fraction is recognized as an expense, rather than all in the
month in which such cost is billed. The not-yet-recognized portion of such costs remains as
prepayments (assets) to prevent such cost from turning into a fictitious loss in the monthly
period it is billed, and into a fictitious profit in any other monthly period.
Similarly, cash paid out for (the cost of) goods and services not received by the end of the
accounting period is added to the prepayments to prevent it from turning into a fictitious loss
in the period cash was paid out, and into a fictitious profit in the period of their reception.
Such cost is not recognized in the income statement (profit and loss or P&L) as the expense
incurred in the period of payment, but in the period of their reception when such costs are
recognized as expenses in P&L and deducted from prepayments (assets) on balance sheets.

Deferred revenue
Deferred revenue (or deferred income) is a liability, such as cash received from a
counterpart for goods or services that are to be delivered in a later accounting period. When
such income item is earned, the related revenue item is recognized, and the deferred revenue
is reduced. It shares characteristics with accrued expense with the difference that a liability to
be covered later is an obligation to pay for goods or services received from a counterpart,
while cash for them is to be paid out in a later period when its amount is deducted from
accrued expenses.
For example, a company receives an annual software license fee paid out by a customer
upfront on the January 1. However, the company's fiscal year ends on May 31. So, the
company using accrual accounting adds only five months' worth (5/12) of the fee to its
revenues in profit and loss for the fiscal year the fee was received. The rest is added to
deferred income (liability) on the balance sheet for that year.

Matching principle
In accrual accounting, the matching principle states that expenses should be recorded during
the period in which they are incurred, regardless of when the transfer of cash occurs.
Conversely, cash basis accounting calls for the recognition of an expense when the cash is
paid, regardless of when the expense was actually incurred.[1]
If no cause-and-effect relationship exists (e.g., a sale is impossible), costs are recognized as
expenses in the accounting period they expired: i.e., when have been used up or consumed
(e.g., of spoiled, dated, or substandard goods, or not demanded services). Prepaid expenses
are not recognized as expenses, but as assets until one of the qualifying conditions is met
resulting in a recognition as expenses. Lastly, if no connection with revenues can be
established, costs are recognized immediately as expenses (e.g., general administrative and
research and development costs).
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Prepaid expenses, such as employee wages or subcontractor fees paid out or promised, are
not recognized as expenses; they are considered assets because they will provide probable
future benefits. As a prepaid expense is used, an adjusting entry is made to update the value
of the asset. In the case of prepaid rent, for instance, the cost of rent for the period would be
deducted from the Prepaid Rent account.[2]
The matching principle allows for a more objective analysis of profitability. By recognizing
costs in the period they are incurred, a business can see how much money was spent to
generate revenue, reducing "noise" from timing mismatch between when costs are incurred
and when revenue is realized.

Expense vs. cash timing

Two types of balancing accounts exist to avoid fictitious profits and losses that might
otherwise occur when cash is paid out not in the same accounting periods as expenses are
recognized, because expenses are recognized when obligations are incurred regardless when
cash is paid out according to the matching principle in accrual accounting. Cash can be paid
out in an earlier or latter period than obligations are incurred (when goods or services are
received) and related expenses are recognized that results in the following two types of
accounts:

Accrued expense: Expense is recognized before cash is paid out.

Deferred expense: Expense is recognized after cash is paid out.

Accrued expenses is a liability with an uncertain timing or amount, but where the
uncertainty is not significant enough to qualify it as a provision. An example is an obligation
to pay for goods or services received from a counterpart, while cash for them is to be paid out
in a later accounting period when its amount is deducted from accrued expenses. It shares
characteristics with deferred income (or deferred revenue) with the difference that a liability
to be covered latter is cash received from a counterpart, while goods or services are to be
delivered in a latter period, when such income item is earned, the related revenue item is
recognized, and the same amount is deducted from deferred revenues.
Deferred expenses (or prepaid expenses or prepayment) is an asset, such as cash paid out
TO a counterpart for goods or services to be received in a latter accounting period when
fulfilling the promise to pay is actually acknowledged, the related expense item is
recognized, and the same amount is deducted from prepayments. It shares characteristics
with accrued revenue (or accrued assets) with the difference that an asset to be covered latter
are proceeds from a delivery of goods or services, at which such income item is earned and
the related revenue item is recognized, while cash for them is to be received in a later period,
when its amount is deducted from accrued revenues.

Examples

Accrued expense allows one to match future costs of products with the proceeds from
their sales prior to paying out such costs.
Deferred expense (prepaid expense) allows one to match costs of products paid out
and not received yet.
Depreciation matches the cost of purchasing fixed assets with revenues generated by
them by spreading such costs over their expected life.

Accrued expenses
For example, supplying goods in one accounting period by a vendor, but paying for them in a
later period results in an accrued expense that prevents a fictitious increase in the receiving
company's value equal to the increase in its inventory (assets) by the cost of the goods
received, but unpaid. Without such accrued expense, a sale of such goods in the period they
were supplied would cause that the unpaid inventory (recognized as an expense fictitiously
incurred) would effectively offset the sale proceeds (revenue) resulting in a fictitious profit in
the period of sale, and in a fictitious loss in the latter period of payment, both equal to the
cost of goods sold.
Period costs, such as office salaries or selling expenses, are immediately recognized as
expenses (and offset against revenues of the accounting period) also when employees are
paid in the next period. Unpaid period costs are accrued expenses (liabilities) to avoid such
costs (as expenses fictitiously incurred) to offset period revenues that would result in a
fictitious profit. An example is a commission earned at the moment of sale (or delivery) by a
sales representative who is compensated at the end of the following week, in the next
accounting period. The company recognizes the commission as an expense incurred
immediately in its current income statement to match the sale proceeds (revenue), so the
commission is also added to accrued expenses in the sale period to prevent it from otherwise
becoming a fictitious profit, and it is deducted from accrued expenses in the next period to
prevent it from otherwise becoming a fictitious loss, when the rep is compensated.

Deferred expenses
A Deferred expense (prepaid expenses or prepayment) is an asset used to costs paid out and
not recognized as expenses according to the matching principle.
For example, when the accounting periods are monthly, an 11/12 portion of an annually paid
insurance cost is added to prepaid expenses, which are decreased by 1/12 of the cost in each
subsequent period when the same fraction is recognized as an expense, rather than all in the
month in which such cost is billed. The not-yet-recognized portion of such costs remains as
prepayments (assets) to prevent such cost from turning into a fictitious loss in the monthly
period it is billed, and into a fictitious profit in any other monthly period.
Similarly, cash paid out for (the cost of) goods and services not received by the end of the
accounting period is added to the prepayments to prevent it from turning into a fictitious loss
in the period cash was paid out, and into a fictitious profit in the period of their reception.
Such cost is not recognized in the income statement (profit and loss or P&L) as the expense
incurred in the period of payment, but in the period of their reception when such costs are
recognized as expenses in P&L and deducted from prepayments (assets) on balance sheets.

Depreciation
Depreciation is used to distribute the cost of the asset over its expected life span according to
the matching principle. If a machine is bought for $100,000, has a life span of 10 years, and
can produce the same amount of goods each year, then $10,000 of the cost (ie $100,000/10
years) of the machine is matched to each year, rather than charging $100,000 in the first year
and nothing in the next 9 years. So, the cost of the machine is offset against the sales in that
year. This matches costs to sales and therefore gives a more accurate representation of the

business, but results in a temporary discrepancy between profit/loss and the cash position of
the business.

Revenue recognition
The revenue recognition principle is a cornerstone of accrual accounting together with
matching principle. They both determine the accounting period, in which revenues and
expenses are recognized. According to the principle, revenues are recognized when they are
realized or realizable, and are earned (usually when goods are transferred or services
rendered), no matter when cash is received. In cash accounting in contrast revenues are
recognized when cash is received no matter when goods or services are sold.
Cash can be received in an earlier or later period than obligations are met (when goods or
services are delivered) and related revenues are recognized that results in the following two
types of accounts:

Accrued revenue: Revenue is recognized before cash is received.

Deferred revenue: Revenue is recognized after cash is received.

IFRS Criteria To Recognize Revenue

The Critical-Event Approach: IFRS provides five criteria for identifying the critical event for
recognizing revenue on the sale of goods
1.
2.
3.
4.
5.

Risks and rewards have been transferred from the seller to the buyer
The seller has no control over the goods sold
Collection of payment is reasonably assured
The amount of revenue can be reasonably measured
Costs of earning the revenue can be reasonably measured

The first two criteria mentioned above are referred to as Performance. Performance occurs
when the seller has done most or all of what it is supposed to do to be entitled for the
payment. E.g.: A company has sold the good and the customer walks out of the store with no
warranty on the product. The seller has completed its performance since the buyer now owns
good and also all the risks and rewards associated with it. The third criterion is referred to as
Collectability. The seller must have a reasonable expectation of being paid. An allowance
account must be created if the seller is not fully assured to receive the payment. The fourth
and fifth criteria are referred to as Measurability. Due to Matching Principle, the seller must
be able to match expenses to the revenues they helped in earning. Therefore, the amount of
Revenues and Expenses should both be reasonably measurable

General rule
Received advances are not recognized as revenues, but as liabilities (deferred income), until
the conditions (1.) and (2.) are met.
1. Revenues are realized when cash or claims to cash (receivable) are received in
exchange for goods or services. Revenues are realizable when assets received in such
exchange are readily convertible to cash or claim to cash.

2. Revenues are earned when such goods/services are transferred/rendered. Both such
payment assurance and final delivery completion (with a provision for returns,
warranty claims, etc.), are required for revenue recognition.
Recognition of revenue from four types of transactions:
1. Revenues from selling inventory are recognized at the date of sale often interpreted as
the date of delivery.
2. Revenues from rendering services are recognized when services are completed and
billed.
3. Revenue from permission to use company's assets (e.g. interests for using money, rent
for using fixed assets, and royalties for using intangible assets) is recognized as time
passes or as assets are used.
4. Revenue from selling an asset other than inventory is recognized at the point of sale,
when it takes place.

Revenue vs. cash timing

Accrued revenue (or accrued assets) is an asset such as proceeds from a delivery of goods or
services, at which such income item is earned and the related revenue item is recognized,
while cash for them is to be received in a latter accounting period, when its amount is
deducted from accrued revenues. It shares characteristics with deferred expense (or prepaid
expense, or prepayment) with the difference that an asset to be covered later is cash paid out
to a counterpart for goods or services to be received in a latter period when the obligation to
pay is actually incurred, the related expense item is recognized, and the same amount is
deducted from prepayments
Deferred revenue (or deferred income) is a liability, such as cash received from a counterpart
for goods or services which are to be delivered in a later accounting period, when such
income item is earned, the related revenue item is recognized, and the deferred revenue is
reduced. It shares characteristics with accrued expense with the difference that a liability to
be covered later is an obligation to pay for goods or services received solo from a
counterpart, while cash for them is to be paid out in a later period when its amount is
deducted from accrued expenses.
For example, a company receives an annual software license fee paid out by a customer
upfront on the January 1. However the company's fiscal year ends on May 31. So, the
company using accrual accounting adds only five months worth (5/12) of the fee to its
revenues in profit and loss for the fiscal year the fee was received. The rest is added to
deferred income (liability) on the balance sheet for that year.

Advances
Advances are not considered to be a sufficient evidence of sale, thus no revenue is recorded
until the sale is completed. Advances are considered a deferred income and are recorded as
liabilities until the whole price is paid and the delivery made (i.e. matching obligations are
incurred).

Exceptions
Revenues not recognized at sale
The rule says that revenue from selling inventory is recognized at the point of sale, but there
are several exceptions.

Buyback agreements: buyback agreement means that a company sells a product and
agrees to buy it back after some time. If buyback price covers all costs of the
inventory plus related holding costs, the inventory remains on the seller's books. In
plain: there was no sale.
Returns: companies which cannot reasonably estimate the amount of future returns
and/or have extremely high rates of returns should recognize revenues only when the
right to return expires. Those companies that can estimate the number of future
returns and have a relatively small return rate can recognize revenues at the point of
sale, but must deduct estimated future returns.

Revenues recognized before sale

Long-term contracts
This exception primarily deals with long-term contracts such as constructions (buildings,
stadiums, bridges, highways, etc.), development of aircraft, weapons, and space exploration
hardware. Such contracts must allow the builder (seller) to bill the purchaser at various parts
of the project (e.g. every 10 miles of road built).

The percentage-of-completion method says that if the contract clearly specifies the
price and payment options with transfer of ownership, the buyer is expected to pay
the whole amount and the seller is expected to complete the project, then revenues,
costs, and gross profit can be recognized each period based upon the progress of
construction (that is, percentage of completion). For example, if during the year, 25%
of the building was completed, the builder can recognize 25% of the expected total
profit on the contract. This method is preferred. However, expected loss should be
recognized fully and immediately due to conservatism constraint. Apart from
accounting requirement, there is a need for calculating the percentage of completion
for comparing budgets and actuals to control the cost of long term projects and
optimize Material, Man, Machine, Money and time (OPTM4) .The method used for
determining revenue of a long term contract can be complex. Usually two methods
are employed to calculate the percentage of completion: (i) by calculating the
percentage of accumulated cost incurred to the total budgeted cost. (ii) by
determining the percentage of deliverable completed as a percentage of total
deliverable. The second method is accurate but cumbersome. To achieve this, one
needs the help of a software ERP package which integrates Financial, inventory,
Human resources and WBS (Work breakdown structure) based planning and
scheduling while booking of all cost components should be done with reference to
one of the WBS elements. There are very few contracting ERP software packages
which have the complete integrated module to do this.

The completed-contract method should be used only if percentage-of-completion is

not applicable or the contract involves extremely high risks. Under this method,
revenues, costs, and gross profit are recognized only after the project is fully
7

completed. Thus, if a company is working only on one project, its income statement
will show $0 revenues and $0 construction-related costs until the final year. However,
expected loss should be recognized fully and immediately due to conservatism
constraint.

Completion of production basis

This method allows recognizing revenues even if no sale was made. This applies to
agricultural products and minerals.There is a ready market for these products with reasonably
assured prices, the units are interchangeable, and selling and distributing does not involve
significant costs.

Revenues recognized after Sale

Sometimes, the collection of receivables involves a high level of risk. If there is a high
degree of uncertainty regarding collectibility then a company must defer the recognition of
revenue. There are three methods which deal with this situation:

Installment sales method allows recognizing income after the sale is made, and
proportionately to the product of gross profit percentage and cash collected
calculated. The unearned income is deferred and then recognized to income when
cash is collected.[1] For example, if a company collected 45% of total product price, it
can recognize 45% of total profit on that product.
Cost recovery method is used when there is an extremely high probability of
uncollectable payments. Under this method no profit is recognized until cash
collections exceed the seller's cost of the merchandise sold. For example, if a
company sold a machine worth $10,000 for $15,000, it can start recording profit only
when the buyer pays more than $10,000. In other words, for each dollar collected
greater than $10,000 goes towards your anticipated gross profit of $5,000.
Deposit method is used when the company receives cash before sufficient transfer of
ownership occurs. Revenue is not recognized because the risks and rewards of
ownership have not transferred to the buyer.[2]

Accrual
Accrual (accumulation) of something is, in finance, the adding together of interest or
different investments over a period of time. It holds specific meanings in accounting, where it
can refer to accounts on a balance sheet that represent liabilities and non-cash-based assets
used in accrual-based accounting. These types of accounts include, among others, accounts
payable, accounts receivable, goodwill, deferred tax liability and future interest expense.[1]
For example, a company delivers a product to a customer who will pay for it 30 days later in
the next fiscal year, which starts a week after the delivery. The company recognizes the
proceeds as a revenue in its current income statement still for the fiscal year of the delivery,
even though it will get paid in cash during the following accounting period.[2] The proceeds
are also an accrued income (asset) on the balance sheet for the delivery fiscal year, but not for
the next fiscal year when cash is received.
Similarly, a salesperson, who sold the product, earned a commission at the moment of sale
(or delivery). The company will recognize the commission as an expense in its current
8

income statement, even though the salesperson will actually get paid at the end of the
following week in the next accounting period. The commission is also an accrued expense
(liability) on the balance sheet for the delivery period, but not for the next period when the
commission (cash) is paid out to the salesperson.

Accrued expenses and accrued revenues

The term accrual also often used as an abbreviation for the terms accrued expense and
accrued revenue that share the common name word, but they have the opposite
economic/accounting characteristics.

Accrued revenue: revenue is recognized before cash is received.

Accrued expense: expense is recognized before cash is paid out.

Accrued revenue (or accrued assets) is an asset, such as unpaid proceeds from a delivery of
goods or services, when such income is earned and a related revenue item is recognized,
while cash is to be received in a later period, when the amount is deducted from accrued
revenues.
In the rental industry, there are specialized revenue accruals for rental income which crosses
month end boundaries. These are normally utilized by rental companies who charge in
arrears, based on an anniversary of a contract date. For example a rental contract which
began on 15 January, being invoiced on a recurring monthly basis will not generate its first
invoice until 14 February. Therefore at the end of the January financial period an accrual
must be raised for sixteen days' worth of the monthly charge. This may be a simple pro-rata
basis (e.g. 16/31 of the monthly charge) or may be more complex if only week days are being
charged or a standardized month is being used (e.g. 28 days, 30 days etc.).
Accrued expense is a liability whose timing or amount is uncertain by virtue of the fact that
an invoice has not yet been received. [3] The uncertainty of the accrued expense is not
significant enough to qualify it as a provision. An example of an accrued expense is a
pending obligation to pay for goods or services received from a counterpart, while cash is to
be paid out in a latter accounting period when the amount is deducted from accrued
expenses.
Under International Financial Reporting Standards, this difference is best summarized by
IAS 37 which states:
"11 Provisions can be distinguished from other liabilities such as trade payables and accruals
because there is uncertainty about the timing or amount of the future expenditure required in
settlement. By contrast:
"(a) trade payables are liabilities to pay for goods or services that have been received or
supplied and have been invoiced or formally agreed with the supplier; and
"(b) accruals are liabilities to pay for goods or services that have been received or supplied
but have not been paid, invoiced or formally agreed with the supplier, including amounts due
to employees (for example, amounts relating to accrued vacation pay). Although it is
sometimes necessary to estimate the amount or timing of accruals, the uncertainty is
generally much less than for provisions.

"Accruals are often reported as part of trade and other payables, whereas provisions are
reported separately."
To add to the confusion, some legalistic accounting systems take a simplistic view of
'accrued revenue' and 'accrued expenses", defining each as revenue or expense that has not
been formally invoiced. This is primarily due to tax considerations, since the act of issuing an
invoice creates, in some countries, taxable revenue, even if the customer does not ultimately
pay and the related receivable becomes uncollectable.

Accruals in payroll
In payroll, a common benefit that an employer will provide for employees is a vacation or
sick accrual. This means that as time passes, an employee accumulates additional sick leave
or vacation time and this time is placed into a bank. Once the time is accumulated, the
employer or the employer's payroll provider will track the amount of time used for sick or
vacation.

Length of service
For most employers, a time-off policy is published and followed with regard to benefit
accruals. These guidelines ensure that all employees are treated fairly with regard to the
distribution and use of sick and vacation time.
Within these guidelines, the rate at which the employee will accumulate the vacation or sick
time is often determined by length of service (the amount of time the employee has worked
for the employers).

Trial period
In many cases, these guidelines indicate there is a trial period (usually 30 to 90 days) where
no time is awarded to the employee. This does not prevent an employee from calling in sick
immediately after being hired, but it does mean that they will not get paid for this time off.
However, it does prevent an employee, for example, scheduling a vacation for the second
week of work. After this trial period, the award of time may begin or it may be retroactive,
back to the date of hire.

Rollover/carry over
Some accrual policies have the ability to carry over or roll over some or all unused time that
has been accrued into the next year. If the accrual policy does not have any type of rollover,
any accrued time that is in the bank is usually lost at the end of the employer's calendar year.

Deferred tax
An asset that may be used to reduce any subsequent period's income tax expense. Deferred
tax assets can arise due to net loss carry-overs, which are only recorded as assets if it is
deemed more likely than not that the asset will be used in future fiscal periods.

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Temporary differences
Temporary difference are differences between the carrying amount of an asset or liability
recognized in the statements of financial position and the amount attributed to that asset or
liability for tax; or

deductible temporary differences, which are temporary differences that will result
in deductible amounts in determining taxable profit (tax loss) of future periods when
the carrying amount of the asset or liability is recovered or settled.[1]

Illustrated example
The basic principle of accounting for deferred tax under a temporary difference approach can
be illustrated using a common example in which a company has fixed assets which qualify
for tax depreciation.
The following example assumes that a company purchases an asset for $1,000 which is
depreciated for accounting purposes on a straight-line basis of five years of $200/year. The
company claims tax depreciation of 25% per year. The applicable rate of corporate income
tax is assumed to be 35%. And then subtract the net value.
Purchase Year 1 Year 2 Year 3 Year 4
$1,000
$800 $600 $400 $200
$1,000
$750 $563 $422 $316

Accounting value
Tax value
Taxable/(deductible)
temporary
$0
difference
Deferred tax liability/(asset) at 35%
$0

$50

$37

$(22) $(116)

$18

$13

$(8)

$(41)

As the tax value, or tax base, is lower than the accounting value, or book value, in years 1
and 2, the company should recognize a deferred tax liability. This also reflects the fact that
the company has claimed tax depreciation in excess of the expense for accounting
depreciation recorded in its accounts, whereas in the future the company should claim less
tax depreciation in total than accounting depreciation in its accounts.
In years 3 and 4, the tax value exceeds the accounting value, therefore the company should
recognise a deferred tax asset (subject to it having sufficient forecast profits so that it is able
to utilise future tax deductions). This reflects the fact that the company expects to be able to
claim tax depreciation in the future in excess of accounting depreciation.

Timing differences
In many cases the deferred tax outcome will be similar for a temporary difference or timing
difference approach. However, differences can arise such as in relation to revaluation of fixed
assets qualifying for tax depreciation, which gives rise to a deferred tax asset under a balance
sheet approach, but in general should have no impact under a timing difference approach.

Justification for deferred tax accounting

Deferred tax is relevant to the matching principle.

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Examples
Deferred tax liabilities
Deferred tax liabilities generally arise where tax relief is provided in advance of an
accounting expense/unpaid liabilities, or income is accrued but not taxed until received.
Examples of such situations include:

Company takes accelerated depreciation per tax laws, in excess of depreciation

allowable by financial accounting standards

Deferred tax assets

Deferred tax assets generally arise where tax relief is provided after an expense is deducted
for accounting purposes.Examples of such situations include:

a company may accrue an accounting expense in relation to a provision such as bad

debts, but tax relief may not be obtained until the provision is utilized
a company may incur tax losses and be able to "carry forward" losses to reduce
taxable income in future years..

An asset on a company's balance sheet that may be used to reduce any subsequent period's
income tax expense. Deferred tax assets can arise due to net loss carryovers, which are only
recorded as assets if it is deemed more likely than not that the asset will

Deferred tax in modern accounting standards

Modern accounting standards typically require that a company provides for deferred tax in
accordance with either the temporary difference or timing difference approach. Where a
deferred tax liability or asset is recognised, the liability or asset should reduce over time
(subject to new differences arising) as the temporary or timing difference reverses.
Under International Financial Reporting Standards, deferred tax should be accounted for
using the principles in IAS 12: Income Taxes, which is similar (but not identical) to SFAS
109 under US GAAP. Both these accounting standards require a temporary difference
approach.
Other accounting standards which deal with deferred tax include:

UK GAAP - Financial Reporting Standard 19: Deferred Tax (timing difference

approach)
Mexican GAAP or PCGA - Boletn D-4, el impuesto sobre la renta diferido
Canadian GAAP - CICA Section 3465
Russian PBU 18 (2002) Accounting for profit tax (timing difference approach)

Derecognition of deferred tax assets and liabilities

Management has an obligation to accurately report the true state of the company, and to make
judgements and estimations where necessary. In the context of tax assets and liabilities, there
must be a reasonable likelihood that the tax difference may be realised in future years.
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For example, a tax asset may appear on the company's accounts due to losses in previous
years (if carry-forward of tax losses is allowed). In this case a deferred tax asset should be
recognised if and only if the management considered that there will be sufficient future
taxable profit to utilise the tax loss.[2] If it becomes clear that the company does not expect to
make profits in future years, the value of the tax asset has been impaired: in the estimation of
management, the likelihood that this tax loss can be utilised in the future has significantly
fallen.
In cases where the carrying value of tax assets or liabilities has changed, the company may
need to do a write down, and in certain cases involving in particular a fundamental error, a
restatement of its financial results from previous years. Such write-downs may involve either
significant income or expenditure being recorded in the company's profit and loss for the
financial year in which the write-down takes place.

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