Temporary Tax Differences for Deferred Tax Assets and Liabilities

What are temporary tax differences, and how do they create deferred tax assets and liabilities? In this CPA exam lecture, Professor Farhat explains temporary tax differences for CPA, CMA, and EA candidates and accounting students — defining the gap between an item's tax basis and its book carrying value, and showing which differences produce deferred tax assets and which produce deferred tax liabilities. Ideal for anyone studying intermediate accounting, accounting for income taxes, and FAR-topic deferred taxes.
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Video Timeline & Key Concepts:
0:00 — Introduction
0:00-1:23 — Defining a temporary difference as the gap between tax basis and book carrying value
2:00-2:16 — Differences that create deferred tax liabilities
2:16-3:35 — Differences that create deferred tax assets
3:00-11:40 — Revenue and gain scenarios: taxed now versus taxed later
7:15-15:00 — Deferred tax liability examples such as depreciation, prepaids, and installment sales
11:48-18:00 — Expense scenarios: deducted now versus deducted later
15:02-17:50 — Deferred tax asset examples such as unearned revenue, warranties, and litigation accruals
Frequently Asked Questions:
What is a temporary tax difference?
A temporary difference is the difference between the tax basis of an asset or liability and its carrying value in the financial statements. Unlike a permanent difference, it reverses over time, which is why it creates a deferred tax asset or liability.
What creates a deferred tax liability?
A deferred tax liability arises when revenue is recognized for book purposes before it is taxed, or when an expense is deducted for tax before it is recognized for book. Common examples include depreciation, prepaid expenses, and installment sales.
What creates a deferred tax asset?
A deferred tax asset arises when revenue is taxed before it is recognized for book purposes, or when an expense is recognized for book before it is deductible for tax. Common examples include unearned revenue, warranty liabilities, and litigation accruals.
Why does tax depreciation differ from book depreciation?
Tax law often allows accelerated depreciation, so more depreciation is deducted for tax in early years than under the book method. This creates a temporary difference that produces a deferred tax liability that reverses in later years.
How do temporary differences reverse?
A temporary difference reverses when the timing catches up, meaning the item is eventually recognized for both book and tax. As it reverses, the related deferred tax asset or liability is drawn down to zero.
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