Deferred taxes under ASC 740

Deferred taxes reconcile book income and taxable income over time. This guide works through a US example of accelerated tax depreciation, shows how a deferred tax liability builds and reverses, and explains deferred tax assets, enacted rate changes and the journal entries.

By Muhammad Bilal, Chartered Accountant. Reviewed by Awais Jameel, Chartered Accountant. 3 minute read.

Short answer

ASC 740 deferred taxes arise from temporary differences between the book basis and tax basis of assets and liabilities, and from loss and credit carryforwards. A deferred tax liability arises when taxable income will be higher in future, for example after bonus depreciation; a deferred tax asset arises when future deductions are expected, such as accrued expenses. Each is measured at the enacted rate expected to apply when it reverses. Equipment costing $100,000 deducted in full for tax in year 1 but depreciated over 5 years for book creates a deferred tax liability of $16,800 at 21%.

At a glance

Arise from
Temporary differences and carryforwards
Measured at
Enacted rate for reversal years
Federal rate
21%
Discounted
Never
Classification
Noncurrent
Excel
Deferred tax calculator
Deferred taxes under ASC 740Arise from: Temporary differences and carryforwards; Measured at: Enacted rate for reversal years; Federal rate: 21%; Discounted: Never; Classification: Noncurrent; Excel: Deferred tax calculator.KEY FACTS AT A GLANCEDeferred taxes under ASC 740Arise fromTemporary differences andcarryforwardsMeasured atEnacted rate for reversalyearsFederal rate21%DiscountedNeverClassificationNoncurrentExcelDeferred tax calculatorTax BakersDeferred taxes under ASC 740Arise from: Temporary differences and carryforwards; Measured at: Enacted rate for reversal years; Federal rate: 21%; Discounted: Never; Classification: Noncurrent; Excel: Deferred tax calculator.KEY FACTS AT A GLANCEDeferred taxes under ASC 740Arise fromTemporary differences and carryforwardsMeasured atEnacted rate for reversal yearsFederal rate21%DiscountedNeverClassificationNoncurrentExcelDeferred tax calculatorTax Bakers
Key facts at a glance, as set out in this guide.

An ASC 740 deferred taxes example: accelerated depreciation

A company buys equipment for $100,000. For book purposes it is depreciated straight-line over 5 years. For tax, the company deducts the full cost in year 1, as accelerated methods such as bonus depreciation can allow. The federal rate is 21%.

Year endBook basisTax basisTemporary differenceDeferred tax liabilityDeferred tax expense
180,000080,00016,800+16,800
260,000060,00012,600-4,200
340,000040,0008,400-4,200
420,000020,0004,200-4,200
50000-4,200
Deferred tax liability at each year end ($)Deferred tax liability at each year end ($)16,800Year 112,600Year 28,400Year 34,200Year 40Year 5Deferred tax liability
The full deduction in year 1 creates the liability; it unwinds as book depreciation catches up.

In year 1 the company pays $21,000 less current tax than its book income suggests and records a deferred tax expense of $16,800. Each later year, book depreciation of $20,000 has no tax deduction, so current tax is higher, and the liability unwinds by $4,200 a year.

What are the journal entries?

YearEntry$
1Dr Deferred income tax expense, Cr Deferred tax liability16,800
2 to 5Dr Deferred tax liability, Cr Deferred income tax benefit (each year)4,200

Over the five years, total income tax expense equals 21% of book income in every year; only the split between current and deferred tax changes. That matching is the whole purpose of deferred taxes.

What creates deferred tax assets?

  • Accrued expenses deductible when paid, such as bonuses, warranties and vacation pay.
  • Allowances for credit losses, deductible when debts are written off.
  • Net operating loss carryforwards. Federal losses arising after 2017 can be carried forward indefinitely but generally offset only 80% of taxable income in a year.
  • Tax credit carryforwards and capitalized research costs deducted over several years for tax.

Deferred tax assets are then assessed for realizability; see the valuation allowance.

What happens when tax rates change?

Deferred tax balances are remeasured when a new rate is enacted, with the effect recognized in income from continuing operations in the period that includes the enactment date, even if the original deferred tax was recognized in other comprehensive income. When the federal rate fell from 35% to 21% in December 2017, companies remeasured all their federal deferred taxes in that quarter.

How are deferred taxes classified and offset?

All deferred tax assets and liabilities are classified as noncurrent. Within each tax-paying component and tax jurisdiction they are offset and shown as a single net amount; balances in different jurisdictions are not offset against each other.

What is a naked credit?

A deferred tax liability on an asset with an indefinite life for book purposes, such as tax-deductible goodwill or an indefinite-lived intangible, which will not reverse in any foreseeable period. Because its reversal timing is unknown, it generally cannot be used as a source of income to support deferred tax assets with limited carryforward periods. Since post-2017 federal losses carry forward indefinitely, it can support them, subject to the 80% limitation.

Common mistakes

  • Using the current rate when a different rate has already been enacted for the reversal years.
  • Recording the effect of a rate change through other comprehensive income instead of continuing operations.
  • Offsetting federal and state, or US and foreign, deferred taxes against each other.

What about state taxes?

State income taxes are calculated separately, with their own deferred taxes at enacted state rates, and state taxes are deductible for federal purposes. Many companies use a blended rate for planning, but the calculation is done by jurisdiction.

Can you calculate it in Excel?

Yes. Set the tax rate to 21%, or your combined rate, in the Deferred tax calculator (Excel); its tax depreciation sheet runs schedules like this one. For IFRS, see deferred tax under IAS 12, and for the overview, ASC 740 explained.

Need help applying the standards?

Our Chartered Accountants help finance teams and students apply US GAAP and IFRS to real transactions.

Book a call Chat on WhatsApp

Questions people ask

What are deferred taxes under ASC 740?

The future tax effects of temporary differences between book and tax bases, and of loss and credit carryforwards, measured at enacted rates.

How do you calculate a deferred tax liability?

Multiply the taxable temporary difference by the enacted rate expected to apply when it reverses.

What happens to deferred taxes when the tax rate changes?

They are remeasured, with the effect recognized in income from continuing operations in the period of enactment.

Are deferred taxes discounted under US GAAP?

No. Deferred tax assets and liabilities are not discounted.

Sources

Every fee, date and rule on this page was taken from these official and primary sources.

  1. FASB Accounting Standards Codification: Topic 740, Income Taxes
  2. Financial Accounting Standards Board

Rules and fees change. If you are reading this long after October 4, 2026, confirm the figures with the source before you rely on them.

ASC 740ASC 740 income taxes explainedASC 740The valuation allowanceIAS 12Deferred tax liabilities and assets with examples

More in ASC 740

TopicAll 5 guides in ASC 740

This guide is general information. It is not tax or legal advice for your situation.