Tax depreciation is $2 million over 5 years, while financial statement depreciation for the asset is $1 million over 5 years. Walk me through the impact of these differences on the financial statements, assuming a tax rate of 40%.
Any help would be appreciated.
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Depreciation for tax purposes is greater than depreciation for accounting purposes. This means the company will report higher taxes paid on its financial statements, but will not actually be required to pay that much due to the greater offsetting of net income by the tax depreciation.
Therefore, a deferred tax asset is created on the balance sheet.
Assuming straight line depreciation, tax depreciation is $400,000 a year and accounting depreciation is $200,000 a year. The deferred tax asset is created in the amount of [40% * (the difference between tax and acct dep.)] or (.4) * 200,000 or 80,000 doll hairs in year one.
I guess I would assume a useful life of five years and no salvage value, so I would then repeat this process with the new net PP&E base each year for five years.
Anybody else have thoughts on this? OP, I would double check to be sure I'm right about this.
As far as I know, deferred tax assets/liabilities are only created when the deference between book and tax basis is going to revert which does not seem to be the case in this example. In general, if accelerated method of deprecation is used for tax accounting but straight line for the book, then deferred tax liability is actually created, not deferred tax asset, and this is because you currently pay less than what your books imply, so you will have to pay it in the future when tax basis = book basis
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