Deferred taxes are taxes resulting from timing differences when a firm uses different methods for its financial accounting and tax accounting.  Tax expense relates to the income statement; the taxes that are actually due relate to tax returns.  Deferred tax items are netted, resulting in either a deferred tax asset or liability.

Deferred tax liability is a balance sheet account showing the estimated amount of taxes on income earned and recognized for accounting purposes (book income) but not yet due and payable for income tax purposes (taxable income).  When, for example, different depreciation methods are used for book purposes and tax purposes, the amount of depreciation expense in the firm’s income statement and its tax returns will be different.

Creation of Deferred Tax Liabilities and Deferred Tax Assets ­– Example
Cost Year 1 Year 2 Year 3 Year 4
Book Value $10,000 $8,000 $6,000 $4,000 $2,000
Tax Value $1,000 $7,500 $5,630 $4,220 $3,160
Taxable/(Deductible) Timing Difference $0 $500 $370 $(220) $(1,160)
Deferred Tax Liability/(Asset) $0 $180 $130 $(80) $(410)
Cost: $10,000; Economic Life: 4 years; Income Tax Rate: 35%

Under the equity method of accounting for investments, the investor must recognize deferred income tax expense on the earned but undistributed profit of the investee that will be taxed when dividends are received in a future period.

An interperiod income tax allocation is the allocation of a firm’s income tax obligation as an expense to different accounting periods due to timing differences between its book income and taxable income.  It produces a tax expense that is greater than tax payable, resulting in a deferred tax liability.

Deferred Taxes – US GAAP vs. IFRS
US GAAP IFRS
Reports them net as current or noncurrent, depending on the classification of the related asset or liability and the expected timing of realization. Reports the net amount as noncurrent in the balance sheet.
Deferred tax liabilities and assets arising from income taxes levied by the same tax authority on the different tax-paying components of an entity may not be offset. Deferred tax liabilities and assets arising from income taxes levied by the same tax authority on the same entity or group of taxable entities may be settled on a net basis.

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