'Deferred Tax’ & 'Income Tax'

'Deferred Tax’

What is a 'Deferred Tax Asset'

Deferred tax asset is an accounting term that refers to a situation where a business has overpaid taxes or taxes paid in advance on its balance sheet. These taxes are eventually returned to the business in the form of tax relief, and the over-payment is, therefore, an asset for the company. A deferred tax asset can conceptually be compared to rent paid in advance or refundable insurance premiums; while the business no longer has cash on hand, it does have comparable value, and this must be reflected in its financial statements.

BREAKING DOWN 'Deferred Tax Asset'

Deferred tax assets are often created due to taxes paid or carried forward but not yet recognized in the income statement. For example, deferred tax assets can be created due to the tax authorities recognizing revenue or expenses at different times than that of an accounting standard. This asset helps in reducing the company’s future tax liability. It is important to note that a deferred tax asset is recognized only when the difference between the loss-value or depreciation of the asset is expected to offset future profit.

How Deferred Tax Assets Arise?

The simplest example of a deferred tax asset is the carry-over of losses. If a business incurs a loss in a financial year, it usually is entitled to use that loss in order to lower its taxable income in following years. In that sense, the loss is an asset.

Another scenario where deferred tax assets arise is where there is a difference between accounting rules and tax rules. For example, deferred taxes exist when expenses are recognized in the income statement before they are required to be recognized by the tax authorities or when revenue is subject to taxes before it is taxable in the income statement. Essentially, whenever the tax base or tax rules for assets and/or liabilities are different, there is an opportunity for the creation of a deferred tax asset.

Deferred Tax Liability

A deferred tax liability is an account on a company's balance sheet that is a result of temporary differences between the company's accounting and tax carrying values, the anticipated and enacted income tax rate, and estimated taxes payable for the current year. This liability may be realized during any given year, which makes the deferred status appropriate.

Because there are differences between what a company can deduct for tax and accounting purposes, there is a difference between a company's taxable income and income before tax. A deferred tax liability records the fact the company will, in the future, pay more income tax because of a transaction that took place during the current period, such as an installment sale receivable.

BREAKING DOWN 'Deferred Tax Liability'

Because U.S. tax laws and accounting rules differ, a company's earnings before taxes on the income statement can be greater than its taxable income on a tax return, giving rise to a deferred tax liability on the company's balance sheet . The deferred tax liability represents a future tax payment a company is expected to make to appropriate tax authorities in the future, and it is calculated as the company's anticipated tax rate times the difference between its taxable income and accounting earnings before taxes.

Examples of Deferred Tax Liability Sources

A common source of deferred tax liability is the difference in depreciation expense treatment by tax laws and accounting rules. The depreciation expense for long-lived assets for financial statements purposes is typically calculated using a straight-line method, while tax regulations allow companies to use an accelerated depreciation method. Since the straight-line method produces lower depreciation when compared to that of the under accelerated method, a company's accounting income is temporarily higher than its taxable income. The company recognizes the deferred tax liability on the differential between its accounting earnings before taxes and taxable income. As the company continues depreciating its assets, the difference between straight-line depreciation and accelerated depreciation narrows, and the amount of deferred tax liability is gradually removed through a series of offsetting accounting entries.

Another common source of deferred tax liability is an installment sale, which is the revenue recognized when a company sells its products on credit to be paid off in equal amounts in the future. Under accounting rules, the company is allowed to recognize full income from the installment sale of general merchandise, while tax laws require companies to recognize the income when installment payments are made. This creates a temporary positive difference between the company's accounting earnings and taxable income, as well as a deferred tax liability.

Deferred Income Tax

A deferred income tax is a liability recorded on the balance sheet that results from a difference in income recognition between tax laws and accounting methods. For this reason, the income tax payable for a company may not equate to the total tax expense reported. The total tax expense for a specific fiscal year may be different than the tax liability owed to the IRS as the company is postponing payment based on accounting rule differences.

BREAKING DOWN 'Deferred Income Tax'

Situations may arise where the income tax payable on the tax return is greater than the income tax expense on the financial statements. When this occurs, previous balances of deferred income tax liabilities are extinguished. In time, if no other reconciling events occurred, the deferred income tax account would net to $0. However, if there was no deferred income tax liability account, a deferred income tax asset would be created. This account would represent the future economic benefit expected to be received because income taxes were charged in excessed based on GAAP income.

Financial Accounting vs. Tax Accounting

Financial accounting standards are guided by generally accepted accounting principles (GAAP). GAAP accounting requires calculation and disclosure of economic events in a specific manner. In addition, income tax expense — a financial accounting account — is calculate using GAAP income. Meanwhile, the Internal Revenue Service (IRS) tax code specifics certain rules on the treatment of events. The differences between these two sets of guidelines result in different computations in net income and the subsequent income taxes due on that income.

Financial Statement Classification

A deferred income tax liability is classified on the balance sheet. However, it may be classified as either a short-term liability or long-term liability based. If the deferred tax liability is presumed to be paid in the next 12 months, it must be recorded as a current liability. Otherwise, it is of a long-term nature. Deferred income tax liabilities are the difference between the income tax expense reported on the income statement and the income tax payable reported on the balance sheet.

Example of Deferred Income Tax

The most common situation that generates a deferred income tax liability is from differences in depreciation methods. GAAP allows for businesses to choose between multiple depreciation methods. However, the IRS requires use of one depreciation method different from all GAAP methods. For this reason, the amount of depreciation recorded on the financial statements is commonly different than the calculations found on a company’s tax return. Over the life of the asset, the value of the depreciation in both areas changes, and at the end of the life of the asset, no deferred tax liability exists as total depreciation between the two methods is equal

Income Tax

An income tax is a tax that governments impose on financial income generated by all entities within their jurisdiction. By law, businesses and individuals must file an income tax return every year to determine whether they owe any taxes or are eligible for a tax refund. Income tax is a key source of funds that the government uses to fund its activities and serve the public.

BREAKING DOWN 'Income Tax'

Most countries employ a progressive income tax system in which higher-income earners pay a higher tax rate compared to their lower-earning counterparts. The first income tax imposed in America was during the War of 1812. Its original purpose was to fund the repayment of a $100 million debt that was incurred through war-related expenses. After the war, the tax was repealed, but income tax became permanent during the early 20th century.

In the United States, the Internal Revenue Service (IRS) collects taxes and enforces tax law. The IRS employs a complex set of rules and regulations regarding which income must be reported and which deductions and credits filers may claim. The agency collects taxes on all forms of income, including wages, salaries, commissions, investments and business earnings.

Individual Income Tax

Most individuals do not pay tax on all of their income. Rather, the IRS offers a series of deductions, including mortgage interest, a portion of medical and dental bills, education expenses and several others, which taxpayers subtract from their gross income to determine their taxable income. For example, if a taxpayer earns $100,000 in income and qualifies for $20,000 in deductions, the IRS only taxes the remaining $80,000. Then, the agency applies credits to the taxes owed. To illustrate, if an individual owes $20,000 in taxes but qualifies for $4,500 in credits, he only owes $15,500 in tax.

Business Income Taxes

Businesses also pay income on their earnings, and the IRS considers corporations, partnerships, self-employed contractors and small businesses to be businesses. These entities report their business income, and then deduct their operating and capital expenses. The difference is their taxable business income.

State and Local Income Tax

In addition to federal income taxes, many states in the United States also levy income taxes. As of 2016, only seven states do not levy income taxes on their citizens, and they include Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming. New Hampshire and Tennessee only collect income tax on earnings from dividends and investments.

Income tax exists in contrast to property tax and sales tax.

Property Tax and Sales Tax

Property tax is levied on properties based on their assessed values. The business, person or other entity who owns the property must then remit the tax to the governing authority of the jurisdiction. In the United States, municipal or county governments typically levy property taxes. Sales taxes are applied to goods purchased by consumers, and are levied by federal, state and local authorities.

Income Tax Payable

Income tax payable is a type of account in the current liabilities section of a company's balance sheet comprised of taxes that must be paid to the government within one year. Income tax payable is calculated according to the prevailing tax law in the company's home country. The taxes are calculated on the company's net income according to its corporate tax rate; if a company is due to receive a tax benefit from its revenue agency, the amount of income tax payable will decrease.

BREAKING DOWN 'Income Tax Payable'

Income tax payable is usually a current liability, because the debt is anticipated to be extinguished within the next year. However, any portion of income tax payable not attributable for payment within the next 12 months is considered a long-term liability.

Types of Income Taxes Payable

Income taxes payable encompass levies assessed at the federal, state and local levels. The dollar amount is the amount that has accrued since the company’s last income tax return. In general, payroll taxes, property taxes and sales taxes are listed as separate liabilities.

Income Tax Payable vs. Income Tax Expense

Income tax expense is calculated by a business based on generally accepted accounting principles (GAAP). This figure is listed on the income statement and is usually the last expense line item listed before net income is calculated. Upon completing a federal income tax return, a business knows the true amount of taxes owed, which is reflected as a tax liability. A difference arises between income tax expense and income tax liability because the two sets of rules – GAAP and the Internal Revenue Service tax code – do not treat all items the same.

An example of this difference arises when depreciating assets. GAAP allows for numerous different methods of depreciation that all typically result in different expense amounts by period. The tax code, however, has more stringent rules that limit acceptable depreciation methods. The use of these two depreciation methods for two different purposes create a difference in the tax expense and the tax liability.

Deferred Tax Liability

Income tax payable is one component necessary in calculating an organization's deferred tax liability. A deferred tax liability arises when a difference is reported between a company's income tax liability and income tax expense. This difference may arise due to the timing of when the actual income tax is due. For example, a business may owe $1,000 in income taxes when calculated using accounting standards. However, if it only owes $750 on its income tax return, the $250 difference is expected to be a liability in future periods. The difference arises because rule differences cause some liability to be deferred to a future period.

Future Income Tax

Income tax that is deferred because of discrepancies between a company's tax return and the tax calculated on the company's financial statements. Future income tax occurs when there is a greater amount of deductions on taxable income than on the net income that is calculated on a company's income statement.

BREAKING DOWN 'Future Income Tax'

In simple terms future income tax is an adjustment accounting for the difference between what the company has already paid in taxes on the current income and what they will have to pay in the future for this income. This difference occurs because companies are taxed by government in a different way than from the way they calculate tax on their accounting records.

Tax Return

What is 'Tax Return'?

A tax return is the tax form or forms used to report income and file income taxes with tax authorities such as the Internal Revenue Service (IRS) in the United States. Tax returns allow taxpayers to calculate their tax liability and remit payments or request refunds, as the case may be. In most countries, tax returns must be filed every year for an individual or business that received income during the year, whether through wages, interest, dividends, capital gains or other profits.

BREAKING DOWN 'Tax Return'

In the U.S., individuals use Form 1040, corporations use Form 1120, and partnerships use Form 1065 to file their annual returns, while investment income is recorded on Form 1099.

Typically, a tax return begins with an identification section and is then divided into three main sections: income, deductions and credits. The return itself is only a few pages long, but depending on the type of income declared or the credits and deductions requested, there can be several schedules that need to be added on.

Income

In this part of the return, the person preparing it must indicate all forms of income received during the year from all sources. Salaries, dividends, royalties and, in many countries, capital gains must be reported.

Deductions

Taxpayers will then be entitled to various deductions. These vary greatly from jurisdiction to jurisdiction, but typical examples include contributions to retirement savings plans, alimony paid and interest deductions on certain loans. For businesses, all expenses incurred in order to conduct the business is deductible.

At this point in the return, the taxpayer will be able to determine his taxable income and tax payable.

Credits

The next section of the return deals with any tax credits that the taxpayer may be entitled to. Again, these vary greatly from jurisdiction to jurisdiction, but there are often credits attributed for dependent children, old age pensions, education and many more. The total credits are subtracted from the taxpayer's tax payable.

The end of the return is used to calculate if the taxpayer has an amount to pay or is entitled to a refund. Most salaried employees have taxes withheld at source on each pay, so they may be entitled to a refund if too much tax has been withheld during the year. Similarly, corporations and individuals in business may make quarterly advance payment to keep their tax balance running as close to $0 as possible and avoid oversized tax bills at the end of the year.

How to submit your income tax return

INCOME tax return means submission of return of income in the prescribed form to the Deputy Commissioner (DC) of Taxes by a person whose total income during the income year exceeds the maximum amount of non-chargeable income or the income of any other person in respect of which he is assessable to tax under the Income Tax Ordinance (ITO), 1984.

However, any non-resident Bangladeshi may file his return of income along with bank draft equivalent to the tax liability to the nearest Bangladesh mission and the mission will issue a receipt of such return with official seal and send the return to the National Board of Revenue (NBR).

As per the stipulation stated in the Finance Act, 2014 if any person earned more than Tk 220,000 during the income year 2013-14 then s/he has to file his/her income return along with the source(s) of income. Nevertheless, the limit of maximum non taxable income will be Tk 275,000 for women and senior tax payers of 65 years and above age, Tk 350,000 for physically challenged and retarded personnel and Tk 400,000 for gazette enlisted war wounded freedom fighters. However, the following person also has to submit his/her income tax return though s/he did not earn much than the highest limit, if s/he:

i)     resides in city corporation or paurashava or divisional Head Quarters (HQ) or district HQ and owns motor car including jeep/micro-bus or holds membership of a club registered under the VAT law;

ii)     runs any business or profession having trade licence and operates a bank account;

iii)     has registered with a recognised professional body as a doctor, dentist, lawyer, income-tax practitioner, chartered accountant, cost and management accountant, engineer, architect, surveyor or any other similar profession;

iv)     member of a chamber of commerce and industries or a trade association;

v)     is a candidate for an office of any paurashava, city corporation, or a Member of Parliament;

vi)     assessed to tax for any of the three years immediately preceding the income year;

vii)     participates in a tender floated by the Government, semi- Government, autonomous body or a local authority. In addition, any registered company/Non-Government Organization (NGO) shall file a return of its income or the income of any other person for whom the company/NGO is assessable to the authority.

The tax rates during the assessment year 2014-15 for individual taxpayer other than female, taxpayers of 65 years and above, differently able person, retarded employee and gazetted war-wounded freedom fighter are as follows:

    Total Income                     Rate of Tax
    For first Tk 220,000           0%
    For next Tk 300,000         10%
    For next Tk 400,000         15%
    For next Tk 500,000         20%
    For next Tk 3000,000       25%
    For rest of the amount      30%

The tax rates for female, taxpayers of 65 years and above, differently able, retarded and gazetted war-wounded freedom fighter are same after exceeding the maximum tax free threshold. However, the minimum amount of income tax for the assessee who lives in city corporation area is Tk 3000, Tk 2000 for district HQ inhabitants and Tk 1000 for other tax payers.

Submission of income tax return
Each income tax payer is entitled to get income tax return form for free of cost from tax offices or from the website of NBR i.e www.nbr-bd.org. In addition, NBR has launched online tax calculator on www.nbrtaxcalculatorbd.org to make it easy for the assessees to assess their taxes. Also, NBR introduces spot assessment for small entrepreneurs, doctors and lawyers. Whoever invests Tk 1000,000 as initial capital shall pay Tk 4000 and those doctors and lawyers who practiced their profession 5-10 years shall pay Tk 2000-4000 as income tax. After assessing the amount of income tax every assessee shall deposit the amount to the govt. exchequer through pay order, treasury challan or online via www.nbrepayment.gov.bd and submit duly signed and verified return form along with the necessary documents to relevant tax circle.

Time limit to submit the return
A company/NGO shall submit the income tax return, by the fifteenth day of July next following the income year or where the fifteenth day of July falls before the expiry of six months from the end of the income year, before the expiry of such six months and in all other cases, by the thirtieth day of September next following the income year. However, the last date for the submission of return may be extended by the DC of Taxes up to six months with the approval of the Inspecting Joint Commissioner. Beside this, the Government can also extend the time limit.

Punishment for infringement of the rules
An assessee will be guilty of an offence punishable with imprisonment for a term which may extend to three years but shall not be less than three months or with fine or with both, if s/he makes a statement in any verification, return or any other document furnished under any provisions of the ITO, 1984 which is false or knowingly and willfully aids, abets, assists, incites or includes another person to make or deliver a false return, account, statement, certificate or declaration or himself knowingly and willfully makes or delivers such false return, account, statement, certificate or declaration on behalf of another person.

Furthermore, an assessee will be culpable of an offence punishable with imprisonment for a term which may extend to one year or with fine or with both, if s/he, without reasonable cause fails to furnish the return of income in due time. Beside this, the DC of Taxes will impose fine Tk 10% from the last assessed amount but not less than Tk 1000 and also impose fine Tk 50 for each day late.

In addition, a person will be guilty of an offence punishable with imprisonment which may extend to five years but shall not be less than three months or with fine or with both, if he conceals the particulars or deliberately furnishes inaccurate particulars of his income. However, if a public servant or any person assisting or engaged by any person discloses any particulars/information in contravention of the provisions of this law is guilty of an offence punishable with imprisonment for a term which may extend to six months or with fine.

The existing systems of accumulation of income tax are weak, complex, time consuming and still not hassle free for the taxpayers. In this regard the whole tax management system should be structured effectively to prevent evasion of taxes.