Question

Sub: Advanced Federal Taxation

What happens to permanent differences? Do they ever "reconcile" ? Why or why not?

Answer 1

The difference in accounting income and taxable income can give rise to timing difference. Timing difference refers to the difference in taxability of income or expenses allowable as per tax laws. The timing difference can be temporary difference or permanent difference. Example of timing differences are different depreciation methods followed by firm like straight line method in accounting and accelerated depreciation in tax laws, taxability of income on receipt basis, expenditure allowed on payment basis say like warranty expense. Unlike temporary difference a permanent difference does not reverse over a period of time. For example: non taxable income of municipal bonds, penalties and fines levied. Permanent differences are never accounted in books as deferred taxes. Permanent differences cause difference in statutory tax rate and effective tax rate. There is no need to reconcile permanent difference since it is excluded in deferred tax calculations. Permanent differences arise in only one year in Income statement and hence the need to reconcile is eliminated for future years.