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Temporary differences
Temporary differences are differences in the tax and book bases of assets and liabilities. These differences in bases result in taxable or deductible amounts in future years when the asset is recovered or the liability is settled. Consider, for example, the book and tax treatment of property, plant and equipment. Often the basis of property, plant and equipment is lower under tax rules than under GAAP because the tax laws mandate faster depreciation. Thus, GAAP will report higher assets and higher income than will the tax laws. Taxes remitted to the government will be lower early in an asset’s life due to the accelerated depreciation, but will be higher in future years, once the asset is fully depreciated for tax purposes but is still depreciating for book purposes. Thus, a liability is reported on the company’s GAAP balance sheet that measures the amount of the future tax liability that will be owed when the book depreciation becomes greater than the tax depreciation. This liability is called the deferred tax liability (DTL).
Likewise, companies will often report a deferred tax asset balance. Consider, for example, the treatment of bad debts. GAAP rules set up an allowance account (thus reducing the basis of the accounts receivable balance) while tax law does not. Thus, assets (and income) will be lower for financial reporting purposes than for tax purposes. Taxes remitted to the government will be higher this year, but will be lower in a future year when the bad debt is written off for tax purposes. Thus, on the balance sheet of the company, a tax asset is included that measures the amount of future tax benefit that will be available when the same bad debts that were expensed under GAAP this year are deducted for tax purposes in a future year.
An important consideration under GAAP, when recording any asset, relates to the probability of recoverability of the asset. Under GAAP, when a firm records a deferred tax asset, it must also assess its recoverability. If it is more likely than not that the asset will not be recovered, then the firm must reduce the net asset balance. In the case of the DTA, the net asset balance is reduced by recording a valuation allowancethat offsets the DTA balance. For example, if a company recorded a $1,000 deferred tax asset, but believes that it will only benefit by $700, then it will record a valuation allowance of $300. It is important to note that the offset to the creation of the valuation allowance runs through tax expense (and thus net income). Thus, in the preceding example, the creation of the $300 valuation allowance account would increase income tax expense and thus reduce net income by $300.
The tax footnotes in the financial statements are the best source of detailed information about temporary differences. Examining Fortune 50 firms from 1993 to 2007, Raedy et al. (2011) find that the number of accounts listed on the statement of deferred tax positions ranges from two to 28. Using similar data, Poterba et al. (2011) find that more companies have net DTLs than have net DTAs, and depreciation is the largest source of temporary differences. For some companies, the deferred accounts are very large, e.g., in 2004, 29% of the net-DTL companies had net DTLs that exceeded 5% of total assets. The largest DTL (DTA) is property, plant and equipment (other assets). The mean valuation allowance balance suggests that a majority of DTAs are 本论文由英语论文网提供整理，提供论文代写，英语论文代写，代写论文，代写英语论文，代写留学生论文，代写英文论文，留学生论文代写相关核心关键词搜索。