Buổi 7 - Income Tax - Hedge Academy

CFA Level I
Income Tax
Compiled by Hedge Academy (+84) 0869231510
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Hedge.Academy@gmail.com Skype: Khanhn1510@outlook.com.vn
Agenda
1. Learning outcome
2. Key Terminology and The Differences Between Accounting profit and
Taxable income
3. Deferred Tax Assets (DTA) and Deferred Tax Liabilities (DTL).
4. How to calculate DTA, DTL
5. Effect of Tax Rate Change
6. Valuation for DTA
7. The Effect of DTA/DTL and Tax rate on Financial Statement and it’s
2
disclosure
Hedge.Academy@gmail.com - (+84)0869231510 - https://www.facebook.com/hedgeacademyvn/ - https://hedgeacademy.com.vn/
1.● Learning outcome
describe the differences between accounting profit and taxable income, and define key
terms, including deferred tax assets, deferred tax liabilities, valuation allowance, taxes
payable, and income tax expense;
● explain how deferred tax liabilities and assets are created and the factors that determine
how a company’s deferred tax liabilities and assets should be treated for the purposes of
financial analysis;
● calculate the tax base of a company’s assets and liabilities;
● calculate income tax expense, income taxes payable, deferred tax assets, and deferred tax
liabilities, and calculate and interpret the adjustment to the financial statements related to
a change in the income tax rate;
● evaluate the impact of tax rate changes on a company’s financial statements and ratios;
● distinguish between temporary and permanent differences in pre-tax accounting income
and taxable income;
● describe the valuation allowance for deferred tax assets—when it is required and what
impact it has on financial statements;
● compare a company’s deferred tax items;
● analyze disclosures relating to deferred tax items and the effective tax rate reconciliation,
and explain how information included in these disclosures affects a company’s financial
statements and financial ratios;
● identify the key provisions of and differences between income tax accounting under 3
International Financial Reporting Standards (IFRS) and US generally accepted accounting
principles (GAAP).
2. Key Terminology and the differences between
accounting profit and taxable income
Tax Return Terminology
● Taxable income: Income subject to tax based on the tax return

● Taxes payable. The tax liability caused by taxable income (= Tax
expenses, Not income tax expenses)
● Income tax paid: actual cash flow for income taxes
● Tax loss carryforward. A current or past loss that can be used to reduce
taxable income
● Tax Base: Net amount of an asset or liability used for tax reporting
purposes 4

Financial Reporting Terminology
● Accounting profit = income:
● Income tax expense. Expense recognized in the income statement
that includes taxes payable and changes in DTA/DTL
● Income tax expense = taxes payable + ΔDTL – ΔDTA
● Deferred tax liabilities: Income tax expenses > Tax payables
● Deferred tax assets: Income tax expenses < Tax payables
● Valuation allowance. Reduction of deferred tax assets based on the
likelihood the assets will not be realized.
● Permanent/Temporary difference: in term of accounting and tax 5

● A permanent difference is a difference between taxable income and
pretax income that will not reverse in the future
● Permanent differences do not create DTA or DTL
→ Permanent differences will cause the firm’s effective tax rate to
differ from the statutory tax rate
→ Temporary differences can be taxable temporary differences that

result in expected future taxable income or deductible temporary
differences that result in expected future tax deductions.
6


● Tax base assets: amount that will be deducted (expensed) on the

tax return in the future as the economic benefits of the asset are
realized.
● A liability tax base is the carrying value of the liability minus any
amounts that will be deductible on the tax return in the future

3. Deferred tax assets and Deferred tax liabilities
Deferred tax occurs when:
● Timing of revenue and expense recognition in IS and tax return differ
● Certain revenues and expenses are recognized in IS but never on tax

return or vice-versa.
● Assets and/or liabilities have different carrying amounts and tax

bases.
● Gain or loss recognition in IS differs from the tax return
● Tax losses from prior periods may offset future taxable income
9
● Financial statement adjustments may not affect the tax return or may
3. Deferred tax assets and Deferred tax liabilities
Deferred Tax Liabilities: due to temporary difference:
● Revenues (or gains) are recognized in IS before they are included on tax
return
● Expenses (or losses) are tax deductible before they are recognized in IS
Deferred Tax Assets: Due to temporary difference
● Revenues (or gains) are taxable before they are recognized in IS

● Expenses (or losses) are recognized in IS before they are tax
deductible.
● Tax loss carryforwards are available to reduce future taxable income 10

4. How to calculate Tax Base and DTA/DTL
To watch demonstration
11

5. Effect of tax rate change
When income tax rate changes, DTAs and DTLs are adjusted to reflect the
new rate.
● ↑ tax rate => DTL ↑ and DTA ↑
● ↓ tax rate => DTL ↓ and DTA ↓
Income tax expense = taxes payable + ΔDTL – ΔDTA
● If tax rates ↑, ↑ in DTL is added to taxes payable and ↑ in DTA is

subtracted from taxes payable to arrive at income tax expense.
● If tax rates ↓, ↓ in DTL would result in ↓ income tax expense ↓ in the DTA
would result in ↑ income tax expense 12

5. Effect of tax rate change
13

6. Valuation of Deferred Tax Assets
● Although deferred taxes are expected to reverse in future, neither

DTA nor DTL are carried on BS at their discounted present value.
● DTA are assessed at each balance sheet date to determine the
likelihood of sufficient future taxable income to recover tax assets
● U.S. GAAP, if it is more likely than not (greater than a 50% probability)
that some or all of a DTA will not be realized (insufficient future taxable
income to recover the tax asset) => Valuation allowance for DTA
● When an increase (decrease) in valuation allowance will decrease
(increase) earnings, => can manipulate earnings by changing valuation
14
allowance.
6. Valuation of Deferred Tax Assets
● The measurement of deferred tax items depends on the tax rate

expected to be in force when the underlying temporary difference
reverses.
● Another issue with the measurement of deferred tax items is

whether a change in asset value is recorded on IS or taken directly to
equity.
● In a case, where the change that leads to a deferred tax item is taken
directly to equity, the deferred tax item should also be taken directly
15
to equity.
7. The Effect of DTA/DTL and Tax rate on Financial
Statement and it’s disclosure
● A deferred tax liability results from using accelerated depreciation for
tax purposes and straight-line depreciation for the financial statements.
● Impairments result in DTA since the writedown is recognized
immediately in the income statement, but the deduction on the tax
return is generally not allowed until the asset is sold or disposed.
● Restructuring generates a deferred tax asset, but not deducted for tax
purposes until actually paid
● Post-employment benefits and deferred compensation are both
recognized for financial reporting when earned by the employee but not
deducted for tax purposes until actually paid.
● A deferred tax adjustment is made to stockholders’ equity to reflect the
future tax impact of unrealized gains or losses on available-for-sale 16
marketable securities that are taken directly to equity
7. The Effect of DTA/DTL and Tax rate on Financial
Statement and it’s disclosure
The following deferred tax information is disclosed:

● DTA, DTL, any valuation allowance, and the net change in the valuation
allowance over the period.
● Any unrecognized DTL for undistributed earnings of subsidiaries and
joint ventures.
● Current-year tax effect of each type of temporary difference.
● Components of income tax expense.
● Reconciliation of reported income tax expense and the tax expense
based on the statutory rate.
17
● Tax loss carryforwards and credits.
Thank you
Do you have any
question?
Hope you pass all levels!
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CFA Level I

● Taxable income: Income subject to tax based on the tax return

Hedge.Academy@gmail.com - (+84)0869231510 - https://www.facebook.com/hedgeacademyvn/ - https://hedgeacademy.com.vn/

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→ Temporary differences can be taxable temporary differences that

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● Tax base assets: amount that will be deducted (expensed) on the

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Deferred tax occurs when:

● Timing of revenue and expense recognition in IS and tax return differ

● Certain revenues and expenses are recognized in IS but never on tax

● Assets and/or liabilities have different carrying amounts and tax

● Gain or loss recognition in IS differs from the tax return

Deferred Tax Liabilities: due to temporary difference:

Deferred Tax Assets: Due to temporary difference

● Revenues (or gains) are taxable before they are recognized in IS

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● ↑ tax rate => DTL ↑ and DTA ↑

● ↓ tax rate => DTL ↓ and DTA ↓

Income tax expense = taxes payable + ΔDTL – ΔDTA

● If tax rates ↑, ↑ in DTL is added to taxes payable and ↑ in DTA is

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● Although deferred taxes are expected to reverse in future, neither

● The measurement of deferred tax items depends on the tax rate

● Another issue with the measurement of deferred tax items is

The following deferred tax information is disclosed:

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