wrecking my brains on this one, any support would be appreciated.
Im preparing accounts for a limited company by guarantee whos main source of income is through grants, other income is very minimum, below £4,000.
The depreciation charges are in the region of £3,500. For tax purposes, depreciation is non deductible, but as the income was from grants through which the depreciation has been charged, am i right in thinking the adjustment for the tax calculation will not require to add back depreciation? as the deduction of depreciation was from grant income which is non taxable income. The grants were given for all running costs and any unspent grant would be a liability and taken to deferred income as it would either have to be repaid, or used in the next year. (this is the grants terms)
I did think that depreciation should be added back for tax purposes and capital allowances could be claimed, hence resulting in a deferred tax charge. However im still determined to agree to it not being deducted due to the income it was deducted from being non taxable.
Question2...... im new to the calculation on deferred tax and although it seems straight forward in terms of fixed assets etc if there was a difference due to the dep charge being lower than the capital allowances, im assuming the entries would be:
Tax charge Debit expense
Deferred tax Credit Liability
So would the deferred tax figure be charged in that year through the p and l? and if so would the reverse of that entry be, once the tax has been paid?
Really sorry guys but this is really getting me confused, or im confusing myself. Please help.................................
Can you confirm that any of the grants received was for the purchase of the capital asset? Whatever the case, the depreciation charge should be added back and capital allowances claimed instead.
DEFERRED TAX
The deferred tax is a timing difference. The best way to show how it works is to give an example:-
John Limited purchases a piece of equipment for £20,000. It will depreciate the equipment over 4 years with no scrap value. The company claims the full Annual Investment Allowance (AIA) on the equipment in the year of purchase. The Corporation Tax Rate is constant at 20%.
Year One
Timing Difference:- Net Book Value Of Equipment In Accounts (£20,000 cost less £5,000 dep'n) 15,000 Written Down Value Of Asset In Capital Allowance Computation (Full AIA) - Timing Difference 15,000
Deferred Tax Liability: Timing Difference x Corporation Tax Rate £3,000
So the journal would be: Dr Deferred Tax (included as part of 'Taxation On Ordinary Activities' in the Profit and Loss Account) 3,000.00 Cr Deferred Tax (included as part of 'Provision For Liabilities & Charges' in the Balance Sheet) 3,000.00
Year Two
Timing Difference:- Net Book Value Of Equipment In Accounts (£20,000 cost less £10,000 dep'n) 10,000 Written Down Value Of Asset In Capital Allowance Computation (Full AIA) - Timing Difference 10,000
Deferred Tax Liability: Timing Difference x Corporation Tax Rate £2,000
So the journal would be: Dr Deferred Tax (included as part of 'Provision For Liabilities & Charges' in the Balance Sheet) 1,000.00 Cr Deferred Tax (included as part of 'Taxation On Ordinary Activities' in the Profit and Loss Account) 1,000.00
Thank you so much for that clear well explained example. However just one thing confused on, year 2 timing differences x tx rate come to £2,000 but the entries are for £1,000
Which seems rite as it will end up with a nil balance on both accounts at the end of year4 however please can you explain year 2 in a little more detail pls...
As I said you are accounting for a timing difference. At the end of year 1, the potential deferred tax liability is £3,000. At the end of year 2, the potential deferred tax liability has reduced to £2,000. Therefore, £1,000 must be written back to the profit and loss account to account for the change in the deferred tax liability shown in the Balance Sheet.
