Question

Jones Limited has a year-end of 31 December. When preparing its financial statements for 2012, the accountants estimated that the income tax payable would be £62,000. The liability was settled in 2013 at £65,000. Assume this company pays its tax liabilities on time. Jones bought a piece of machinery for £50,000 on 1 January 2013 which has a useful life of two years and will be scrapped at the end of its life. A first year allowance of 100% is available on this asset. The company earns profits before depreciation of £300,000 each year. Assume the tax rate is 30%.

Required:

a)Prepare the journal entries for the tax expense and payments for the year ended 31 December 2013 and 2014 and show how the company should provide for any movement in deferred tax.

b) Explain the difference between permanent and temporary differences and how they are dealt with for under IAS12.

c) Provide a justification for why IFRS requires full provision of deferred taxation.

Answer 1

A)Computation for Current tax for each year   

Year 2013 Year 2014   

Profit before Depreciation 3,00,000 3,00,000

Less:Allowance for Machinery 50,000 -

Taxable Income 2,50,000 3,00,000

Tax @30% 75,000 90,000

Defer tax Computation

Opening balance 0 25,000

Timing difference 25,000 0

Reversal 0 25,000

Closing 25,000 0

Defer tax @ 30% 7,500(L) 0

Year 2013

Provision for tax Dr... 62000

Income tax Expense Dr. 3000

Bank A/c 65000

(Being Income tax for the year 2012 paid)

  

Profit & Loss A/c Dr..... 75,000

To Provision for Tax A/c 75,000

(Being provision for tax booked)

Profit & loss A/c Dr..... 7,500

To Defer tax Liability A/c 7,500

(Being defer tax liablity booked)

Year 2014

Profit & Loss A/c Dr..... 90,000

To Provision for Tax A/c 90,000

(Being provision for tax booked)

Defer tax Liability A/c Dr..... 7,500

To Profit & Loss A/c 7,500

(Being defer tax liablity revesed booked)

B)Permanent Difference: Difference between tax expense and tax payable caused by an item which does not reverse over the time.It does not create defer tax.E.g Disallowance of charity expense which does not allowed in Income tax act.

Temporary Difference: Difference between accounting income and taxable income which can be reverse itself and eliminate the tax effect on such differences.It will results in defer tax .E.g:Depreciation as per Income tax Act and depreciation as per Accounting purpose.

C)Justification: IAS12 prescribes income taxes on incomes.Income tax includes foreign taxes and domestic taxes too.