How does this example result in future tax payment?

Entities pay income tax on their taxable profits, which are calculated by adding back depreciation and deducting tax depreciation from the accounting profit and loss.

In the above example, the tax depreciation ($750) is greater than depreciation ($500) in T1. The entity has received early tax relief, and as a result, the payment of tax is deferred. However, this tax difference is temporary as tax will be paid in the future.

In year 2, when the tax depreciation ($250) is less than the depreciation charged ($500), the entity is liable to pay additional tax.

In accordance with the accrual and matching principle, revenue or expenses are recorded when a transaction occurs rather than when the payment is received or made. The matching principle also requires that revenue and expenses should be recognized in the same period.

Therefore, a Deferred Tax Liability is recorded, equal to the expected tax payable in the future.

Assuming a tax rate of 20%, the deferred tax liability recognized at T1 will be 20% x 250 = $50.

Please feel free to contact Cheylesmore Chartered help sorting this out for you.