Altidore Inc. operates a calendar-year-end business that suffers from dramatic s

Question

Altidore Inc. operates a calendar-year-end business that suffers from dramatic seasonal variation in taxable income. For example, it often operates at a net loss for the first two quarters of the year and then operates profitably for the last two quarters and, for as long as anyone can remember, finishes the year with taxable income. The new tax director has been asked to help calculate the deferred tax assets at the end of the first quarter. After looking at the quarterly loss, he claims that since there is no net income, there are no deferred tax assets because the effective tax rate is zero. (Carrybacks and carryforwards are not allowed in this jurisdiction.) Is the tax director correct in his assessment of the effective tax rate for calculating the deferred tax assets?

Explanation / Answer

Accounting Standard 22, on "Accounting for taxes on income' explains about the deferred tax asset(DTA) and deferred tax liability(DTL). timing difference and permanent difference are the reason for difference between accounting profit and profit calculated for tax purposes as per the income tax act. As per this accounting standard, the income tax should be treated just like any other expenses on accrual basis irrespective of the timing of payment of tax. Difference between the tax expenses and current tax liability , to be paid fro a particular period as per income tax act is called deferred tax ( Asset/ Liability). that is why tax expense = current tax + deferred tax. this difference between current tax and tax expenses arises only due to timing difference(differences originating in one period and are capable of reversal in one or more subsequent periods. eg: difference due to rate of depreciation, or method of depreciation.timing difference and permanent difference are the reason for difference between accounting profit and profit calculated for tax purposes as per the income tax act.) and thus creating tax asset/ liability. a) accounting income is in excess of the tax income: tax on accounting income is more, whereas tax payable is less as per income tax law for the period - create DTL by crediting to deferred tax and debit to P&l A/c b) accounting income is less than the tax income: tax on accounting income is less, whereas tax payable is more as per income tax law for the period - create DTA by debiting deferred tax. c) there is income as per income tax but loss as per accounts: tax on accounting loss is nil but there is liability to pay tax - create DTA by debiting deferred tax( subject to recoverability/ adjustments from future income) d) Accounting profit but loss as per income tax law. however MAT(Minimum alternate tax) is payable: tax on accounting profit but tax as per tax law is nil. carry forward of loss allowed - Create DTL for the difference. DTL is recognized for temporary differences that will result in taxable amount in future years. DTA is recognized for temporary differences that will result in deductible amounts in future years and for carry forwards.

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