Deferred tax

Why are there two books at all? Financial statements follow accounting standards, and their goal is faithful economics. The tax return follows the tax statute, and its goals are revenue and policy. In India that statute is the Income-tax Act, 2025, which replaced the Income-tax Act, 1961 from tax year 2026-27. In the US it's the Internal Revenue Code. So the same year in the same machine produces two different "profit" numbers, and both are legitimate. Deferred tax accounting stops that divergence from making the income statement lie about the long-run tax cost of the business.

Permanent vs temporary differences

Sort every difference with one question: does it ever reverse?

• Permanent differences never reverse. They're expenses tax law will never allow, or income it will never tax. In India that means CSR spending (required by statute yet explicitly non-deductible), penalties and fines, and tax-free bond interest. In the US it's fines and municipal-bond interest, plus half of business meals. Permanent differences create no deferred tax. They push the effective tax rate away from the statutory rate, forever.
• Temporary differences are about timing. Both books recognize the same lifetime amount, just in different years. Depreciation schedules differ. Provisions are expensed now but deductible when paid. Some revenue is taxed before or after the books recognize it. These differences create deferred tax liabilities (DTLs) and deferred tax assets (DTAs).

How is deferred tax calculated?

IAS 12, Ind AS 12 and ASC 740 all work the same way underneath, through the balance-sheet (liability) method. For every asset and liability, compare the carrying amount with the tax base, which is what the tax authority will let you deduct, or has already taxed. A difference that produces taxable amounts when it reverses is a DTL. One that produces deductions is a DTA. Measure it at the rate that's enacted (US), or enacted or substantively enacted (IFRS/Ind AS), for the reversal period. Deferred tax balances are non-current under all three frameworks. Give the two builds that follow your full attention the first time through.

Build a DTL first, using a machine. Deccan Precision Ltd (synthetic) buys one for ₹300 crore. The books depreciate it straight-line over 3 years, at ₹100/yr. Tax law accelerates it to ₹150, then ₹100, then ₹50. The tax rate is 25%, and book EBT is ₹200 crore each year.

Look at the last two rows. Cash tax wobbles from 37.5 to 62.5, but total tax expense is a steady 25% of book profit. That's what deferred tax is for. The income statement charges the tax cost that belongs to this year's book profit, whenever the cash goes out. In year 1 the entry is Dr Tax expense 50.0 · Cr Current tax payable 37.5 · Cr DTL 12.5, and year 3 reverses it.

A DTA usually comes from a loss carryforward. Say a young company loses ₹80 crore in year 1. Tax law lets losses offset future profits. In India, business losses carry forward 8 assessment years and unabsorbed depreciation indefinitely. US federal NOLs from after 2017 carry forward indefinitely but offset only 80% of a year's taxable income. Verify current rules before you rely on either. The future deduction is an asset: DTA = 80 × 25% = ₹20 crore, if it will ever be used. In year 2 the company makes ₹120 crore. Current tax = (120 − 80) × 25% = 10. Deferred expense = 20 as the DTA reverses, and total = 30, which is 25% of 120. Once deferred tax does its job, the ETR tells the truth again. You'll see other DTAs every day: provisions, which are deductible when paid, and stock-based compensation in the US.

When can a deferred tax asset be recognised?

The recognition judgment is where you come in as an analyst. A DTA is worth something only if future taxable profit will absorb it. The frameworks police this differently, with the same intent:

• Under US GAAP (ASC 740), you recognize the full DTA, then post a valuation allowance against the portion that's more likely than not (>50%) to go unused. The allowance is visible, and its swings run straight through tax expense.
• Under IFRS / Ind AS (IAS 12 / Ind AS 12) it's one step. You recognize a DTA only to the extent it's probable that future taxable profit will be available, and you disclose the unrecognized amounts in the notes.

The judgment moves markets. Tesla carried a full valuation allowance against its US deferred tax assets for years, because a history of losses is strong negative evidence. In Q4 2023, sustained profitability finally made realization more likely than not. Tesla released the allowance and booked a one-time, non-cash tax benefit of about $5.9bn, which roughly doubled that quarter's GAAP net income (Tesla's Q4 2023 update gives $5,927m; check in the FY2023 10-K). Analysts had to strip it out of EPS, growth rates and every forward multiple. India's mirror is Tata Motors. Its FY24 consolidated profit was boosted when it recognized previously unrecognized DTAs at JLR once JLR's outlook firmed. The credit was on the order of several thousand crore (illustrative; pull the FY24 annual report). That was before the demerger, and since October 2025 JLR has been part of Tata Motors Passenger Vehicles Ltd. Chronic loss-makers, meanwhile, properly leave giant potential DTAs unrecognized. Think of Vodafone Idea, or new-age companies before they turn a profit. Carry this rule forward: a big DTA recognition or allowance release is management's most respectable-looking way to print a profit jump, so check the tax note before you applaud an earnings surprise.

How do you read the tax rate reconciliation?

Next, the ETR reconciliation note. Every 10-K and Indian annual report reconciles the statutory rate to the effective rate, so know the statutory anchors first. In India, companies electing Section 115BAA pay 22% + 10% surcharge + 4% cess = 25.168%. The legacy regime is 30% + surcharge + cess ≈ 34.94%. Under it, MAT is 14% from tax year 2026-27 (15% before). MAT is now a final tax, and it creates no new MAT credit for companies staying in the legacy regime. The 15% new-manufacturing option (115BAB) is closed to new entrants. All of this is as of October 2026, so verify current law. The section numbers are the 1961 Act's, carried into the Income-tax Act, 2025 under corresponding provisions. In the US it's 21% federal flat plus state taxes, which typically blends to ~24–27%. Be aware of one more thing. The OECD's Pillar Two 15% global minimum tax is live in many jurisdictions and appears in large multinationals' tax notes (as of mid-2026). Here's a typical reconciliation for a synthetic Indian FMCG company with EBT of ₹400 crore:

Here's how to read it. (1) Separate the recurring items from the one-offs. Recurring means permanent differences, structurally lower-taxed subsidiaries, and tax holidays until their sunset. One-offs include true-ups and dispute settlements, plus valuation-allowance moves. The recurring set gives you the forecast rate for your Phase 3 models. (2) Check the split between current and deferred tax. If a company's cash tax runs far below book tax year after year, it's building DTLs. You should know what from. Growth capex is fine. Anything exotic, investigate. (3) Scan for DTA or allowance swings that distort EPS. (4) For Indian companies, note the elected regime. Also note any MAT credits still being consumed. From tax year 2026-27 a brought-forward credit can be used only by a company that has moved to the 22% or 15% regime, and only up to 25% of its normal tax in a year (as of October 2026).

Is a deferred tax liability really a debt?

There's a deeper way to see DTLs. A depreciation DTL reverses asset by asset. A growing company, though, keeps adding assets whose accelerated deductions outrun the old reversals. So the aggregate DTL grows for decades and behaves like an interest-free loan from the government, a kind of quasi-permanent capital. Buffett has described deferred taxes in these terms. Work on ROIC treats chronic DTLs that way, and doesn't count them as debt due tomorrow. DTAs get the opposite scrutiny. They're only as good as the future profits they assume.