Deferred Tax (AS 22 / Ind AS 12) Explained Simply
- Deferred tax is the tax you owe (or will save) in future years because accounting profit and taxable profit differ today — it is not a cash payment yet.
- Under AS 22, deferred tax is based on timing differences; under Ind AS 12, the wider "temporary difference" approach is used — the distinction matters when you file or prepare investor-ready accounts.
- A deferred tax liability (DTL) means you will pay more tax later; a deferred tax asset (DTA) means you will pay less tax later — both must be shown on your balance sheet.
- Why Accounting Profit and Taxable Profit Are Different
- Deferred Tax Asset (DTA) vs. Deferred Tax Liability (DTL)
- Worked Example — Deferred Tax on Depreciation
- AS 22 vs. Ind AS 12 — Key Practical Differences
- Common Mistakes People Make
- Deferred Tax and Your Tax Return — Does It Affect What You Pay?
- Quick Reference — Which Standard Applies to You?
Deferred tax trips up even experienced finance teams. The core idea is simple: your accountant calculates profit one way, the Income Tax Department calculates it another way, and the gap creates a tax effect that belongs to the future, not today. That future tax effect — positive or negative — is deferred tax. It does not change your tax cheque this year, but it does change what your balance sheet says you owe or are owed. Get it wrong and your audited accounts misstate both profit and net worth.
Why Accounting Profit and Taxable Profit Are Different
Companies follow accounting standards (AS 22 for non-Ind AS companies, Ind AS 12 for listed or larger companies). The Income Tax Act has its own rules. Common differences:
- Depreciation: You might charge ₹1,00,000 depreciation using the straight-line method in your books. The Income Tax Act allows ₹1,50,000 under the Written Down Value method. That ₹50,000 gap is a timing difference — it reverses later.
- Provisions: You create a ₹2,00,000 provision for doubtful debts in your books. Tax law disallows it until the debt is actually written off. Deferred tax asset arises.
- Prepaid expenses / accruals: Revenue or expense recognised in different years under accounting vs. tax law.
Under AS 22, only timing differences — items that originate in one period and reverse in another — create deferred tax. Under Ind AS 12, the scope is wider: it uses temporary differences, which includes the carry value of an asset/liability vs. its tax base, even for items that may never hit the P&L in the same way. The practical impact: Ind AS 12 can create deferred tax on items like fair value adjustments that AS 22 ignores.
Deferred Tax Asset (DTA) vs. Deferred Tax Liability (DTL)
| Situation | Effect This Year | Future Effect | Balance Sheet Item |
|---|---|---|---|
| Tax depreciation > Book depreciation | Taxable profit lower, pay less tax now | Pay more tax later when difference reverses | Deferred Tax Liability (DTL) |
| Provision disallowed by tax (e.g., bad debts) | Taxable profit higher, pay more tax now | Pay less tax later when deduction is allowed | Deferred Tax Asset (DTA) |
| Brought-forward losses (eligible under tax law) | No current benefit | Future profits taxed less | Deferred Tax Asset (DTA) — but only if virtual certainty of future profit exists |
The key restriction under AS 22: you can only recognise a DTA if there is reasonable certainty of future taxable profits to absorb it. For losses and unabsorbed depreciation, the standard raises the bar to virtual certainty. Ind AS 12 uses a single "probable" test but requires you to reassess every reporting date.
Worked Example — Deferred Tax on Depreciation
Suppose your company buys machinery for ₹12,00,000 on 1 April 2026.
- Book depreciation (straight-line, 10% p.a.): ₹1,20,000 for FY 2026-27.
- Tax depreciation (WDV, 15% rate under the Income Tax Act for this asset class): ₹1,80,000 for FY 2026-27.
Timing difference for FY 2026-27 = ₹1,80,000 − ₹1,20,000 = ₹60,000
Your taxable profit is ₹60,000 lower than book profit because the tax authority allowed more depreciation this year. You pay less tax now. But you will pay more tax in future years when book depreciation exceeds tax depreciation (i.e., when the difference reverses).
Assume the applicable tax rate (including surcharge and cess for a domestic company under the new concessional regime) is 25.168% (22% base rate + applicable surcharge + 4% cess — verify the exact rate for your company size with your CA).
Deferred Tax Liability = ₹60,000 × 25.168% ≈ ₹15,101
Journal entry in your books:
- Dr. Tax Expense (P&L) ₹15,101
- Cr. Deferred Tax Liability (Balance Sheet) ₹15,101
No cash leaves your bank. But your balance sheet now shows ₹15,101 as a future obligation. Next year, when the difference starts reversing, you will reduce the DTL and reduce your tax expense accordingly.
AS 22 vs. Ind AS 12 — Key Practical Differences
If your company is required to follow Ind AS (broadly, listed companies or those above the prescribed net worth / turnover thresholds), you use Ind AS 12. Smaller non-listed companies typically follow AS 22. Here is what changes in practice:
- Ind AS 12 picks up deferred tax on items recognised in Other Comprehensive Income (OCI), such as fair value changes on financial instruments. AS 22 does not have this concept.
- Ind AS 12 prohibits recognising deferred tax on goodwill arising from a business combination (in most cases). AS 22 is silent on business combination specifics.
- Under Ind AS 12, deferred tax on investments in subsidiaries must be recognised unless the parent can control the timing of reversal and reversal is not probable. This is a common missed item in group accounts.
- The measurement approach differs: Ind AS 12 requires you to use the tax rate expected to apply when the asset is recovered or liability settled — not always the current year's rate.
If you are preparing investor-ready or DRHP-stage accounts, our Ind AS Helper can flag these deferred tax items automatically during your first-time adoption or annual close.
Common Mistakes People Make
- Applying the wrong tax rate. Many companies use the MAT rate (15% base) when the company is actually under the regular or concessional regime, or vice versa. The deferred tax rate must reflect how the timing difference will reverse — if you expect to exit MAT by then, do not use the MAT rate.
- Recognising a DTA without checking the certainty test. A loss-making startup creates a large DTA on carried-forward losses but has no concrete business plan showing future profits. This inflates net worth and misleads investors. Auditors routinely adjust this.
- Forgetting to reassess the DTA/DTL at each year-end. Tax rates change (as they did with the new concessional regime), and business conditions change. A DTL calculated at last year's rate using last year's tax position is wrong on day one of the new year if the rate has moved.
- Not creating deferred tax on provisions. Small businesses routinely make provisions for gratuity, leave encashment, or warranty costs. These are disallowed by tax law until paid. A DTA must be created. Skipping this understates the DTA and overstates tax expense in the current year.
- Netting DTA and DTL without checking eligibility. You can net a DTA against a DTL on the balance sheet only if you have a legally enforceable right to set off current tax assets against current tax liabilities and they relate to the same taxable entity and same tax authority. Netting across group companies or across different jurisdictions is not permitted.
Deferred Tax and Your Tax Return — Does It Affect What You Pay?
No. Deferred tax is a financial reporting concept. Your actual tax payment is based on taxable income computed under the Income Tax Act. Deferred tax exists only in your statutory accounts to match the tax effect to the period the income or expense is recognised. Think of it as an accounting bridge between book profits and tax profits — it ensures your P&L shows the true cost of tax for the year, not just the cheque you wrote to the government.
Quick Reference — Which Standard Applies to You?
| Company Type | Standard to Follow | Key Recognition Test |
|---|---|---|
| Non-listed, below Ind AS threshold | AS 22 | Timing differences; reasonable / virtual certainty for DTA |
| Listed companies, large unlisted companies above threshold | Ind AS 12 | Temporary differences; probable future profit for DTA |
| Banks, NBFCs (Ind AS applicable) | Ind AS 12 | Same as above plus RBI-specific disclosures |
| Partnership firms, LLPs, proprietorships | Neither (no mandatory standard) — but good practice applies AS 22 logic | N/A for statutory purposes; relevant if seeking bank finance or due diligence |
Do it yourself in minutes — free to try, no login needed.
Open Ind AS Helper →Frequently asked questions
Is deferred tax an actual payment I need to make to the Income Tax Department?
No. Deferred tax is purely a bookkeeping entry in your financial statements. It represents a future tax effect — either an amount you will save or pay — but your actual tax payment to the government is always based on your taxable income calculated under the Income Tax Act, not on your accounting profit.
Can a startup with losses always create a Deferred Tax Asset on those losses?
Not automatically. Under AS 22, you need "virtual certainty" of future taxable profits before you can recognise a DTA on carried-forward losses or unabsorbed depreciation. Under Ind AS 12, the test is whether it is "probable" that future taxable profit will be available. If the startup has no clear evidence of future profits — such as signed contracts, funding commitments, or a credible business plan — the DTA should not be recognised, and many auditors will insist it is written off or not created at all.
What happens to the Deferred Tax Liability on depreciation when I sell the asset?
When you sell the asset, the timing difference collapses. The accumulated DTL that was built up over the years is reversed through the P&L in the year of sale. This reduces your tax expense in that year. In practice, your accountant will calculate the remaining book value vs. the remaining tax written-down value at the date of sale and clear the residual DTL accordingly.
Does deferred tax apply to a small private limited company with simple operations?
Yes, if the company prepares accounts under Schedule III of the Companies Act 2013 and follows AS 22, it must account for deferred tax on all timing differences — even simple ones like depreciation differences or disallowed provisions. Many small Pvt Ltd companies skip this, which is a compliance error that auditors should flag. The only entities that are genuinely exempt are those not required to follow any accounting standard, such as sole proprietorships not seeking formal audited financials.
General information for FY 2026-27, not professional advice for your specific case. Rules change — verify against the latest notification or ask a KyaTax expert.
Related: All free tools · More guides · Virtual CFO