ABC Ltd. prepares its accounts annually on 31st March. On 1st April, 2022, it purchases a machine at a cost of 1,50,000. The machine has a useful…

If the cost of machine is spread over three years of its life for accounting purposes, the amount of the tax saving should also be spread over the same period as shown below: Statement of Profit and Loss (for the three years ending 31st March, 2022, 2023, 2024) (₹ in thousand) 2022 2023 2024 Profit before depreciation and taxes 200 200 200 Less: Depreciation for accounting purposes 50 50 50 Profit before taxes 150 150 150 Less: Tax expense Current tax: 0.40 x (200-150) 20 0.40 x 200 80 80 Deferred tax: Tax effect of timing differences originating during the year leading to DTL 0.40 (150-50) 40 Tax effect of timing differences reversing during the year 0.40 (0-50) — (20) (20) Tax expense 60 60 60 Profit after tax 90 90 90 Net timing differences 100 50 0 Deferred tax liability balance 40 20 0 In 2022, the amount of depreciation allowed for tax purposes exceeds the amount of depreciation charged for accounting purpose by - 1,00,000 and, therefore, taxable income is lower than the accounting income. This gives rise to a deferred tax liability of 40,000. In 2023 and 2024 accounting income is lower than taxable income because the amount of depreciation charged for accounting purposes exceeds the amount of depreciation allowed for tax purposes by - 50,000 each year. Accordingly, deferred tax liability is reduced by - 20,000 each in both the years. As may be seen, tax expense in based on the accounting income of each period. In 2022, the profit and loss account is debited and deferred tax liability account is credited with the amount of tax on the originating timing difference of 1,00,000 while in each of the following two years, deferred tax liability account is debited and profit and loss account is credited with the amount of tax on the reversing timing difference of 50,000. The following Journal entries will be passed: Year 2022 Profit and Loss A/c Dr. 20,000 To Current tax A/c 20,000 (Being the amount of taxes payable for the year 2022 provided for) Profit and Loss A/c Dr. 40,000 To Deferred tax liability A/c 40,000 (Being the deferred tax liability created for originating timing difference of 1,00,000) Year 2023 Profit and Loss A/c Dr. 80,000 To Current tax A/c 80,000 (Being the amount of taxes payable for the year 2023 provided for) Deferred tax liability A/c Dr. 20,000 To Profit and Loss A/c 20,000 (Being the deferred tax liability adjusted for reversing timing difference of 50,000) Year 2024 Profit and Loss A/c Dr. 80,000 To Current tax A/c 80,000 (Being the amount of taxes payable for the year 2024 provided for) Deferred tax liability A/c Dr. 20,000 To Profit and Loss A/c 20,000 (Being the deferred tax liability adjusted for reversing timing difference of 50,000) Presentation: In the year 2022, the balance of deferred tax account i.e.40,000 would be shown separately from the current tax payable for the year in terms of paragraph 30 of AS 22. In the year 2023, the balance of deferred tax liability account would be - 20,000 and be shown separately from the current tax payable for the year as in year 2022. In year 2024, the balance of deferred tax liability account would be nil. If the rate of tax changes, it would be necessary for the enterprises to adjust the amount of deferred tax liability carried forward by applying the tax rate that has been enacted or substantively enacted by the balance sheet date on accumulated timing differences at the end of the accounting year The amount of deferred tax liability would be computed as follows: The deferred tax liability carried forward each year would appear in the balance sheet as under: 31 st March, 2022 = 0.40 (1,00,000) = 40,000 31 st March, 2023 = 0.35 (50,000) = 17,500 31 st March, 2024 = 0.38 (Zero) = ₹Zero Accordingly, the amount debited (credited) to the profit and loss account (with corresponding credit or debit to deferred tax liability) for each year would be as under: 31 st March, 2022 Debit = 40,000 31 st March, 2023 (Credit) = ₹(22,500) 31 st March, 2024 (Credit) = ₹(17,500)