Deferred Tax Liability: Meaning, Calculation & Examples 2026
Deferred Tax Liability (DTL) is the tax a company will have to pay in the future because today it paid less than it should have. This happens when the income a company shows in its financial books is higher than the income it declares for tax purposes. The difference is temporary, and the tax on that difference does not disappear. It gets deferred to a later year.
I see this concept confuse a lot of business owners and finance students. The most common question I hear is: “If I am paying less tax now, isn’t that a good thing?” Yes, it is, in the short term. But DTL is essentially a future tax obligation sitting quietly on your balance sheet. If you do not plan for it, it can show up as a significant cash outflow in later years.
In this guide, I will explain what deferred tax liability means, why it arises, how to calculate it using actual numbers, how it differs from deferred tax assets, and what the accounting standards AS 22 and Ind AS 12 require Indian companies to do.
What is Deferred Tax Liability?
Deferred Tax Liability is the amount of income tax a company is expected to pay in future periods on account of temporary differences between its accounting profit (as per books) and its taxable profit (as per the Income Tax Act).
Think of it like this. Suppose your company earns a profit of Rs. 10 lakh as per its books, but under the Income Tax Act it is allowed to claim higher deductions this year, bringing taxable profit down to Rs. 8 lakh. You pay tax on Rs. 8 lakh today. But the Rs. 2 lakh difference is not permanent. In a later year, the situation reverses and you will pay tax on more than you show in books. That reversal is what DTL accounts for.
Under Indian Accounting Standard AS 22 and Ind AS 12 (Income Taxes), Indian companies are required to recognise and disclose this future obligation in their financial statements. This prevents investors from being misled into thinking a company is paying lower taxes permanently.
Why Does Deferred Tax Liability Arise?
DTL arises because the Income Tax Act and Indian Accounting Standards treat certain income and expenses differently. These differences are called timing differences (under AS 22) or temporary differences (under Ind AS 12). The most common situations are:
1. Depreciation: The Most Common Cause
Companies can choose how to depreciate assets in their books. Most use the Straight Line Method (SLM). But the Income Tax Act prescribes higher depreciation rates under the Written Down Value (WDV) method, especially in the early years of an asset’s life.
This means the tax depreciation is higher than book depreciation in early years. As a result, taxable profit is lower, and the company pays less tax now. But in later years, tax depreciation falls below book depreciation, and the company ends up paying more tax. This difference creates a DTL on the balance sheet.
2. Accrued Income Recognised Differently
Your books may recognise interest income as it accrues each year. The Income Tax Act, however, taxes it only when it is actually received. This means your accounting profit includes income that has not been taxed yet, creating a DTL for the tax that will be due when you receive it.
3. Preliminary and Pre-operative Expenses
Some company formation or startup costs are written off in one year in the books. But the Income Tax Act requires these to be spread over five years for deduction purposes. So the full deduction has already been claimed in books, but the tax benefit arrives gradually. This results in a DTL in year one that reverses over the next four years.
Deferred Tax Liability Formula and Calculation
The formula is straightforward:
Deferred Tax Liability = Temporary Difference × Applicable Tax Rate
Where Temporary Difference = Accounting Income minus Taxable Income (when accounting income is higher).
For FY 2025-26 (AY 2026-27), the applicable corporate tax rates in India are:
| Company Type | Base Tax Rate | Effective Rate (incl. surcharge and cess) |
|---|---|---|
| Domestic company opted for Section 115BAA | 22% | 25.17% |
| Domestic company (turnover below Rs. 400 crore, not opted 115BAA) | 25% | 26% to 29.12% depending on income |
| Large domestic company (turnover above Rs. 400 crore, not opted 115BAA) | 30% | 34.94% (approx.) |
| New manufacturing company (Section 115BAB)* | 15% | 17.16% |
*Section 115BAB applies only to new manufacturing companies that commenced operations on or before March 31, 2024. Companies incorporated in FY 2025-26 or later cannot avail this rate. Their best concessional option is Section 115BAA at 25.17%.
Practical Example: Machinery Depreciation
Let us take a real example. Arjun Engineering Pvt. Ltd. purchases a machine for Rs. 20,00,000 in FY 2025-26.
- In the books of accounts: Depreciation at 10% using Straight Line Method = Rs. 2,00,000
- For Income Tax purposes: Depreciation at 15% using Written Down Value method = Rs. 3,00,000
| Particulars | Books of Accounts (SLM) | Income Tax (WDV) |
|---|---|---|
| Revenue | Rs. 10,00,000 | Rs. 10,00,000 |
| Less: Depreciation | Rs. 2,00,000 | Rs. 3,00,000 |
| Profit | Rs. 8,00,000 | Rs. 7,00,000 |
Step 1: Temporary difference = Rs. 8,00,000 (book profit) minus Rs. 7,00,000 (taxable profit) = Rs. 1,00,000
Step 2: Tax rate applicable = 25.17%
Step 3: DTL = Rs. 1,00,000 × 25.17% = Rs. 25,170
Arjun Engineering saves Rs. 25,170 in tax this year. But this amount appears as a Deferred Tax Liability on the balance sheet. In future years when tax depreciation becomes lower than book depreciation, the company will pay this extra tax back.
Deferred Tax Liability Journal Entry
When a DTL is created, the accounting entry under AS 22 is:
| Account | Debit / Credit | Amount |
|---|---|---|
| Profit and Loss A/c | Dr. | Rs. 25,170 |
| Deferred Tax Liability A/c | Cr. | Rs. 25,170 |
When the DTL reverses in subsequent years (i.e., when taxable profit exceeds book profit), the entry is reversed:
| Account | Debit / Credit | Amount |
|---|---|---|
| Deferred Tax Liability A/c | Dr. | Rs. 25,170 |
| Profit and Loss A/c | Cr. | Rs. 25,170 |
The DTL account gradually comes down to zero as the temporary differences reverse over time.
Deferred Tax Asset vs Deferred Tax Liability: Key Differences
DTL and DTA (Deferred Tax Asset) are two sides of the same coin. The direction of the temporary difference determines which one arises.
| Feature | Deferred Tax Liability (DTL) | Deferred Tax Asset (DTA) |
|---|---|---|
| Simple meaning | Future tax you will have to pay | Future tax benefit you will receive |
| When it arises | Accounting profit is higher than taxable profit | Taxable profit is higher than accounting profit |
| Common cause | Higher tax depreciation in early years | Expenses provisioned in books but not yet allowed for tax (e.g., gratuity provisions, bad debt provisions) |
| Balance sheet position | Non-current liability | Non-current asset (recognised only if future taxable profit is virtually certain) |
| Effect on cash flow | Future cash outflow | Future tax saving (cash benefit) |
| Investor perspective | A liability to monitor | A deferred benefit |
A practical example of DTA: Priya Garments books a provision for bad debts of Rs. 5 lakh. The Income Tax Act does not allow this deduction until the amount is actually written off. So the company pays tax on Rs. 5 lakh more than its book profit shows. This excess tax paid is a Deferred Tax Asset, which is a future saving waiting to be claimed.
DTL Under AS 22 vs Ind AS 12: What is the Difference?
Both standards require companies to recognise deferred tax, but they approach it differently.
| Aspect | AS 22 (Indian GAAP) | Ind AS 12 (converged with IFRS) |
|---|---|---|
| Approach | Income statement approach: based on timing differences between book profit and tax profit | Balance sheet approach: based on temporary differences between carrying amount and tax base of assets/liabilities |
| Scope | Applicable to companies not yet moved to Ind AS | Applicable to listed companies and larger unlisted companies in India |
| DTA recognition | Requires virtual certainty for unabsorbed depreciation and brought-forward losses | Requires probable future taxable profit for DTA recognition |
| Balance sheet presentation | DTL shown under Unsecured Loans (net of DTA); DTA shown under Investments | Both shown under Non-current Assets / Liabilities separately |
| Permanent differences | Ignored for deferred tax (e.g., fines and penalties disallowed under tax law) | Same treatment: no deferred tax on permanent differences |
The key practical implication: companies reporting under Ind AS 12 tend to have a more comprehensive DTL/DTA on their balance sheets because the balance sheet approach captures more differences than the income statement approach.
Where Does DTL Appear on the Balance Sheet?
Under Ind AS 12, Deferred Tax Liability appears as a Non-current Liability on the balance sheet. You will typically see it disclosed as “Deferred Tax Liabilities (Net)”, which means DTL has been reduced by any DTA balance that can be legally offset.
You can see real-world examples of this in the annual reports of large Indian companies. Reliance Industries and Infosys both disclose detailed DTL/DTA breakdowns in their balance sheets, with notes explaining the nature of the underlying temporary differences.
Important note: Only temporary differences create DTL or DTA. Permanent differences, such as fines, penalties, or expenses permanently disallowed under the Income Tax Act, do not create any deferred tax entry.
Is Deferred Tax Liability a Bad Thing for a Company?
Not necessarily. In the short term, DTL means the company is using the Income Tax Act’s provisions, such as accelerated depreciation, to legally reduce the current year’s tax outflow. That cash can be reinvested into the business. Think of it as an interest-free loan from the government for the period the deferral lasts.
However, there are situations where a large or growing DTL is worth scrutinising. If a company consistently grows its asset base and claims higher tax depreciation every year, the DTL on its balance sheet can keep expanding. As long as temporary differences keep arising, the actual cash payment stays deferred. But investors should be aware that this liability will eventually need to be settled.
From a financial analysis perspective, a DTL is not inherently bad. It is a sign that a company is managing its tax payments smartly within the law. What matters is whether the company has planned for the future outflows.
Frequently Asked Questions
What is the difference between deferred tax and current tax?
Current tax is the actual income tax payable for the current financial year, calculated on taxable profit as per the Income Tax Act. Deferred tax arises from temporary differences between book profit and taxable profit. Current tax is a present obligation; deferred tax is a future one.
Is DTL a non-current liability?
Yes. Under Ind AS 12 and AS 22, deferred tax liabilities are classified as non-current liabilities unless there is a clear expectation that the temporary difference will reverse within twelve months. In practice, most DTL balances remain non-current.
When does DTL reverse?
DTL reverses when the temporary difference that created it starts to unwind. For depreciation-based DTL, this happens in later years when tax depreciation falls below book depreciation. As this gap closes, the DTL on the balance sheet reduces and the company pays higher tax in those years.
Can DTA and DTL be offset against each other?
Yes, but only when there is a legally enforceable right to set them off, and when they relate to the same taxable entity and the same tax authority. When offset, you will see “Deferred Tax Liabilities (Net)” or “Deferred Tax Assets (Net)” on the balance sheet.
Do all companies have DTL?
Almost every company that owns significant fixed assets such as machinery, vehicles, and buildings will have some DTL due to the difference between book depreciation and tax depreciation. Service companies with fewer fixed assets may have smaller or no DTL.
Are permanent differences included in DTL calculation?
No. Only temporary differences are included. Permanent differences, such as expenses permanently disallowed under the Income Tax Act like fines and penalties, do not reverse in future years, so no deferred tax is created for them.
