AS -22: ACCOUNTING FOR TAXES ON INCOME

AS- 22 ACCOUNTING FOR TAXES ON INCOME

Until recently the amount of tax provision was determined on the profit or loss
calculated on per Income Tax laws. As per accounting standard – 22 tax should be
accounted by following the principle of matching concept i.e. tax should be accounted
in the period in which the corresponding revenue and expenses are accounted.

2) Accounting Standard – 22 covers domestic and foreign taxes based on taxable

income. The standard does not deal with corporate dividend tax or wealth tax.

3) There is a difference between accounting profit (i.e. profit calculated on the basis of
accounting policies) and taxable profit (i.e. profit calculated as per Income Tax laws).
There are two main reasons for this difference.
a) Timing difference: These difference originate in one period and is capable of
reversal in one or more subsequent periods. E.g.
* Difference in rate of depreciation
* Difference in method of depreciation
* Expenses debited in the statement of profit and loss account for accounting
purpose but allowed for tax purpose in the subsequent year. Like Sec 43B of income
tax act
* Provision for doubtful debts

b) Permanent Difference: These difference originate in one period and do not reverse
subsequently e.g., expenses charged to Profit & Loss but not allowed for tax purpose
at all in any year or incomes credited to Profit & Loss but exempt from tax

4) Timing difference will lead to either Deferred Tax Asset or Deferred Tax Liability.
When accounting profit is more than taxable profit, a deferred tax liability is created.
However when accounting profit is less than taxable profit, a Deferred Tax Asset is
created e.g.

• Accelerated depreciation allowed by income Tax Act leads to creation of

Deferred Tax Liability.
• Provision for doubtful debts will leads to creation of Deferred Tax Asset.

1
 Illustration: Hinduja Limited prepares its accounts annually on March 31. On
April 1, 2002, it purchases a machine at a cost of Rs 1,50,000. The machine at a
cost Rs 1,50,000. The machine has a useful life of three years and an expected
Scrap value is Zero. Although it is eligible for 100% first year depreciation
allowance for the tax purpose, the straight line method of depreciation is
considered appropriate for accounting purpose. Hinduja limited has a profit
before depreciation and tax Rs 2,00,000 each year and corporate tax rate is 40%.
Solution:

Statement of profit and loss account for three years ending March 31, 2003, 2004,
2005

(Rs in 000)
Particulars 2003 2004 2005
Profit before depreciation and tax 200 200 200
Less: Depreciation (50) (50) (50)
Profit before tax 150 150 150
Less: Tax expense

Current tax 0.40 (200-150) 20

0.40 *200 80 80
Deferred tax
Tax effect of timing difference 40
originating during the year 0.40 *
(150-50)
Tax effect of timing difference (20) (20)
reversing during the year. 0.40 (0-50)

Tax expense 60 60 60
Profit after tax 90 90 90
Deferred tax Liability (DTL) 40 20 0
DTL is shown on the liability side of the

2
 balance sheet after head unsecured
loan under separate head

Year 2003:

Profit and loss a/c Dr 20,000

To Current tax a/c 20,000

Profit and loss account a/c Dr 40,000

To Deferred tax a/c 40,000

Year 2004:

Profit and Loss a/c/ Dr 80,000

To current tax a/c 80,000

Deferred tax a/c Dr 20,000

To Profit and loss a/c 20,000

Year 2005:

Profit and Loss a/c/ Dr 80,000

To current tax a/c 80,000

Deferred tax a/c Dr 20,000

To Profit and loss a/c 20,000

Illustration: Hinduja Limited prepares its accounts annually on March 31. The
company has incurred a loss of Rs 1,00,000 in the year 2003 and made a profit of Rs
50,000 and Rs 60,000 in year 2004 and 2005 respectively . It is can be assumed that
under tax laws , loss can be carried forward for 8 years and tax rate is 40% and at
end of the year 2003. It is virtually certain, supported by convincing evidence, that
company would have sufficient evidence taxable income in future year against which
unabsorbed depreciation and carry forward losses can be set off. It is assumed that
there is no difference between taxable profit and accounting profit except for set off
losses.

Statement of profit and loss account for three years ending 2003, 2004, 2005

3
 2003 2004 2005
Profit(loss) (100) 50 60
Less: Current tax -- -- (4)
Tax effect of timing difference 40
originating during the year
Tax effect of reversing the timing (20) (20)
difference during the year
Profit and loss after tax.

5) Permanent difference are difference that always remain and are of permanent
nature.
Permanent differences do not create Deferred Tax Asset / Deferred Tax Liability.
These are excluded for determining of tax expenses.

6) The difference between tax expenses and current tax (i.e. Tax payable as per
Income Tax Laws)
Arises only on account of timing difference which creates Deferred Tax Asset of
Deferred Tax Liability.
Tax expenses = Current Tax + Deferred Tax
Current tax is calculated using tax rates and tax laws applicable for the relevant
accounting year. . . Deferred Tax Asset or Deferred Tax Liability is
determined using tax rate and tax laws that have been . Enacted or substantially
enacted at the Balance Sheet date. Further deferred tax is not discounted to its P.V.

7) Deferred Tax Liability must be provided for, but prudence would require that
Deferred Tax Asset should be recognized and carried forward only to the extent that
there is reasonable certainty that sufficient future taxable income will be available
against which such Deferred Tax Asset can be realized. However in case of
unabsorbed depreciation and carry forward losses under Income Tax laws, Deferred
Tax Asset should be recognized only to the extent there is virtual certainty that
sufficient future taxable income will be available against which such Deferred Tax
Asset can be realized.

8) Review of deferred tax asset: The carrying amount of deferred tax asset should be
reviewed at each balance sheet date, if it is evident that any portion of the deferred
tax asset is not recoverable because of uncertainty of future income, the deferred tax
asset should be written down. Any such written down amount may be reversed in

4
subsequent period to the extent that it becomes reasonably certain that sufficient
future taxable income will be available.

9) Re-assessment of unrecognized deferred tax asset: Previously unrecognized

deferred tax asset is re-assessed at every balance sheet date. If it becomes reasonably
certain that such unrecognized deferred tax asset will be realized, then unrecognized
deferred tax asset is recognized now.

10) Any adjustment arising out of such review / reassessment is charged / credited to
Profit & Loss account for the year. (i.e. year of review / reassessment). It is not prior
period item but a change in accounting estimate. However if the amount is materials
proper disclosure should be made because this item would be an item of exceptional
nature.

11) For determining taxes during an interim period, the integral approach is
followed. (see Accounting Standard-25).

12) Transitional Provision: When this accounting standard of taxes on income is first
time applied, the amount of deferred tax asset / liability should be treated in the same
way had this accounting standard been in effect from the beginning. The
corresponding debit / credit to the revenue reserves is subject to the consideration of
prudence in case of deferred tax assets.

13) Disclosure:
* The break-up of deferred tax asset / liability should be disclosed.
* In case of deferred tax asset arising out of unabsorbed depreciation or loss,
evidence-supporting . recognition should be disclosed.
* Deferred tax asset / liability should be disclosed separately from current asset /
liabilities. They. . . should. also be distinguished from advance tax / tax
provision / tax refund due.
* Deferred tax asset and liability should be set off if permissible under the tax laws
but to be shown. . . separately if not permissible.

SECTION: 2- PROBLEM AND SOLUTION:-

5
Question 1

From the following information for Ceat Ltd. For the year ended 31st March, 2010,
calculate the deferred tax asset / liability as per AS-22.
Accounting Profit Rs.
100000
Book Profit as per MAT (Minimum Rs. 90000
Alternate Tax)
Profit as per Income Tax Act Rs. 10000
Tax Rate 30%\
MAT Rate 10%
7
Solution:

Deferred Tax liability as per AS-22 for the year ended 31st March, 2010 is Rs. 27000.
(1,00,000-10,000)*0.30
Amount of tax to be debited in Profit and Loss Account for the year 31.3.2009:
= Deferred Tax Liability + MAT
= 27000 + 9000
= Rs. 36000
Amount of tax to be debited in Profit and Loss Account for the year 31.3.2010 as per
AS-22 is Rs. 36000.

Question 2:

From the following information for Indigo Ltd. For the year ended 31st March, 2009,
calculate the deferred tax asset / liability as per AS-22.

Accounting Profit Rs. 20,00,000

Book Profit as per MAT (Minimum Rs. 18,00,000
Alternate Tax)
Profit as per Income Tax Act Rs. 2,00,000
Tax Rate 30%

6
 MAT Rate 10%
Solution:

Deferred Tax liability as per AS-22 for the year ended 31st March, 2009 is Rs. 540000
(20,00,000-2,00,000)*30%.
Amount of tax to be debited in Profit and Loss Account for the year 31.3.2009:
= Deferred Tax Liability + Provision of MAT
= 60000 +180000
= Rs. 720000
Amount of tax to be debited in Profit and Loss Account for the year 31.3.2009 as per
AS-22 is Rs.720000.

Question 3:

Godrej Ltd.has provided depreciation as per accounting records Rs. 80 lakhs but as
per tax records Rs. 120 lakhs. An unamortized preliminary expense, as per tax
records is Rs. 40000. There is adequate evidence of future profit sufficiency. Tax rate
30%.
How much deferred tax asset / liability should be recognized as transaction
adjustment as per AS-22?

Solution:
As per Para 13 of AS-22, deferred tax should be recognized for all the timing
differences. In this situation, the timing difference i.e. the difference between taxable
income and accounting income is:
(Rs. In
Lakhs)
Description Calculation Amount
(Rs.)
Excess Depreciation as pre tax Rs.120 lakhs – 80 lakhs 40.00
[ Tax Depreciation – Accounting =
Depreciation]
Less: Unamortized expenses provided 0.40
in taxable income
Timing Difference 39.60
As tax expenses is more than the current tax due to timing difference of Rs. 39.60
lakhs, therefore Deferred Tax Liability = 30% of Rs. 39.60 lakhs =Rs. 11.88 lakhs.

Journal Entry:

7
 Particulars Debit Credit
(Rs. In Lakhs) (Rs. In Lakhs)
Profit and Loss A/c 11.88
Dr.
To Deferred Tax Liability 11.88
A/c

Question 4:

Kalpataru Ltd. Has provided depreciation as per accounting records Rs. 20 lakhs but
as per tax records Rs. 30 lakhs. An unamortized preliminary expense, as per tax
records is Rs. 10,000. There is adequate evidence of future profit sufficiency. Tax rate
30%.
How much deferred tax asset / liability should be recognized as transaction
adjustment as per AS- 22?

Solution:
As per Para 13 AS-22, deferred tax should be recognized for all the timing
difference. In this situation, the timing difference i.e. difference between taxable
income and accounting income is:

Description Calculation Amount

(Rs.)
Excess Depreciation as pre tax Rs.30 lakhs – 20 lakhs 10.00
[ Tax Depreciation – Accounting =
Depreciation]
Less: Unamortized expenses provided 0.10
in taxable income
Timing Difference 9.90
As tax expenses is more than the current tax due to timing difference of Rs. 9.90
lakhs, therefore Deferred Tax Liability = 30% of Rs. 9.90 lakhs =Rs. 2.97 lakhs.

Journal Entry:

8
 Particulars Debit Credit
(Rs. In Lakhs) (Rs. In Lakhs)
Profit and Loss A/c 2.97
Dr.
To Deferred Tax Liability 2.97
A/c

Question 5:

X Limited has incurred a loss of Rs 5,00,000 during the year ended March 31, 2007.
As a product of the company becomes outdated and company do not expect with
reasonable certainty that in future it will earn taxable profits rather the company
expects with reasonable certainty that in future it will earn any taxable profits, rather
it expects that there will be loss in future. The company has not given any effect under
AS-22 whether this treatment is correct, tax rate is 30%.

Solution : As the company has incurred a loss as per income tax act, the company
should have created the deferred tax asset Rs 1,50,000(5,00,000*30%), Deferred tax
should be recognized and carried forward only to extent that there is virtual
certainty that sufficient profit will be available against which such deferred tax assets
can be realized. In this case the company do not expect sufficient future taxable
income . therefore the company is correct is not creating deferred tax asset as per AS
-22