Question

Danna Spice Inc. has the following Deferred tax assets and liabilities.

Deferred Tax Assets		Deferred Tax Liabilities
Allowance for bad debts	$72,450	Depreciation	(2,100,000)
Reserve for warranties	90,300
Net Operating loss carry-forward	5,040
Deferred Compensation	252,000
Contributions carry-forward	0
Capital Loss carry-forward	0
Valuation allowance for deferred tax assets	0
Deferred tax assets, net of valuation allowance	$419,790	Total Deferred Tax Liabilites	$(2,100,000)

What should Danna Spice Inc. recognize on the balance for these deferred tax assets and liabilities?

a. Both the Net Deferred tax asset of $419,790 and the deferred tax liability would be reported in the respective asset and liability sections of the balance sheet.

b. Only the Net Deferred tax asset would be reported as $419,790.

c. Only the net of the deferred tax assets and liabilities would be reported as a deferred tax liability of $1,680,210.

d. Only the Net Deferred tax liability would be reported as $2,100,000.

Answer 1

Deferred Tax Assets (DTA) and Deferred Tax Liabilities (DTAL) are calculated because the financial statements are prepared in accordance with the rules of companies act and calculation of taxable profit is done based on provision of the Income-tax Act. There is a difference in the calculation of the profits as per the Companies Act and the income Tax Act because of certain items which are specifically allowed and disallowed as per the Income Tax Act..

There is only a timing difference and the items forming part of DTA and DTL will be adjusted with each other at a future date on calculation of future profits.

Since there is an intention of settling the asset and liability on net basis Danna Spiece Inc should recognise only the Net of deferred tax assets and liabilities and would report a Deferred Tax Liability (DTL) of $ 1,680,210.

The other options (b) of showing only the Deferred Tax Asset of $ 419,790 is incorrect as Deferred Tax Liability of $ 2,100,000 is not considered and is a incorrect reporting or partial reporting of the figures. The other option (d) is also incorrect presentation for the same reason. Option (a) of reportings Both the Net Deferred tax asset of $419,790 and the deferred tax liability in the respective asset and liability sections of the balance sheet will lead to reporting of higher assets and higher liabilities on both sides and will not show a true and fair picture of the Balance Sheet.