Deferred Tax Assets/Liabilities
can anyone explain DTA and DTL in layman terms? still having some trouble understanding it. just wanted to know them well for IB Interviews
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Every year, a company has to report taxes to the IRS. Often times, the tax basis of an item they report is different that what the company is reporting on their books. This creates a temporary difference between the tax basis and book basis, which will eventually reverse.
So for example, a company may use a straight-line method of depreciation for their PPE on a book basis. On a tax basis, the IRS may allow them to fully depreciate the PPE right away for tax purposes. As a result, the book basis is temporarily lower than the tax basis. Eventually, this needs to reverse and the book basis will be higher than the tax basis, so this creates a DTL.
To me this can still be confusing to think through, so hopefully I did an okay job explaining it.
thanks for the explanation! so when a DTA comes up, there’s a net operating loss right?
Zinburger1,
A DTA can be generated from NOLs, as firms can carry them back or forward to offset past or future income. A DTA on the books doesn't mean the firm has had losses though.
Basis differences can also cause DTAs. For example, if a firm records deferred revenue for the sale of a three year subscription service where that cash is received up front, they may have to recognize that cash as income for tax purposes in the year of reciept. As GAAP recognizes the income over three years, the firm will reverse that income in computing taxable income. This ability to reverse the GAAP income is reflected as a DTA (i.e. there is a "future deductible amount").
Hope that helps.
why would the book basis be lower if it’s straight line depreciation? shouldn’t the tax basis be lower since it’s all of it is depreciated right away?
Yes, book basis would be higher. All else equal, the tax basis in PPE will be lower than book basis due to accelerated MACRS depreciation for tax purposes + bonus depreciation + Sec. 179 depreciation.
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