What is deferred tax liability?
A deferred tax liability or tax claim is a future tax liability. The debt actually does not exist yet, and is of course still far from enforceable. Nevertheless, it is already (almost) certain that the debt will be collected by the tax authorities in the future. A deferred tax debt is therefore a common concept in tax science and is often the underlying reason for the incomprehensible tax legislation at first glance.
The opposite, a deferred tax claim, also exists but is much less common. The reason for this is the reluctance of tax legislation to tax economic benefits over time in order to avoid being caught on something that has not yet been realized economically.
A deferred tax debt or claim arises for entrepreneurs due to a temporary difference between the business economic and tax accounts. For non-entrepreneurs, the accrual of a deferred tax liability is due to the creation of taxable benefits in the future. Sources of deferred tax liabilities or receivables are:
- Depreciation differences between the business and tax accounts;
- Pension accrual and tax-assisted life insurance policies;
- Carry-back and carry-forward of tax losses result in deferred tax assets;
- Value increases that remain untaxed, resulting in a difference between the fiscal book value and the market value.
A deferred tax liability therefore arises because on a temporary basis untaxed economic value is built up. This economic value usually leaves the tax authorities untaxed because it is not reasonable or impractical to tax the taxpayer there already, or because it could bring about economic disruption. However, the government is (in most cases) of the opinion that every economic advantage for a taxpayer should be taxed at least once, especially since otherwise a shortcut can arise for the avoidance of (other) levies.
An example is unrealized added value of a company. If, according to its fiscal balance sheet, a company records a profit of 50 and in addition a value increase of 100 due to the increase in the value of the company hall, the tax authorities will in principle only tax 50 book profits. If the tax authorities also tax the appreciation of the value, the entrepreneur must actually pay tax on something that he does not yet have because he can only sell the hall after sale.
If he does not have enough liquid assets, this will lead to him being forced to sell the company hall, which could lead to him being unable to exercise his business and stop it immediately. Because this can lead to economic capital destruction and, moreover, is not considered reasonable, the entrepreneur only has to pay 50 tax and the 100 value increase will only be taxed in the future. One now arisessilent reserve.
Another example is pension accrual. Everyone accrues pension rights and is not, in principle, charged with this. In some cases, life insurance policies can also be tax-free up to a certain extent. The rationale behind this is that the benefits will in the future be taxed with wage tax. As a result, the full amount can be used for investments during construction. Normally, therefore, individuals hardly notice that they have a deferred tax liability, unless they emigrate. In that case, the national tax authorities will usually impose an exit tax on these deferred debts.
Realization, settlement and forwarding
In some cases it is possible that the deferred tax liability will still be realized. This occurs, for example, when selling a company. Tax, for example, has an intrinsic value of 200 in the books, but when the company is sold it is quite possible that the actual value (and therefore the sales price) is 600. This difference is, as stated earlier, due to a difference between the fiscal value and the actual economic value, and has usually increased over the years. An additional 400 profit has been realized that the entrepreneur will have to include in his declaration.
The silent reserve has now been realized and the entrepreneur must, as it is called in fiscal jargon, a settle “The deferred tax liability has now become a tangible tax liability that will eventually be enforced through formalization.” Deferred tax liabilities have to be “settled” in, among other things, a merger, contribution from a company, sale of the company or shares, emigration and death, it is possible that they are self-correcting, as with depreciation differences.
In some cases, however, it is possible to “pass” this statement. The entrepreneur or taxpayer then does not have to pay, but the old fiscal book values have to be kept. The entrepreneur or taxpayer thus postpones the latent debt as it were, because once in the future he will have to settle irrevocably. It will speak for itself that in such a case the economic value is (much) higher. The entrepreneur does not have to settle now, but will have lower depreciation due to the lower book value, so that future profits can turn out higher.
The decision to settle or postpone will vary per entrepreneur or shareholder and depends on the state of the company, the economy, the financial situation of the taxpayer and national tax law. The choice to “move” usually existsmergers and contributions, whereby (of course) the realized economic value directly flows back into the company and does not benefit entrepreneurs or shareholders. In this case, under stringent conditions, it will be possible to opt for “transfer”, usually this refers to situations in which the company is continued.
When silent reserves are taxed at such a transition, we speak of a “rustling” transition, if not, it is “silent”. “Rustling” is an expression from the murmur of coins that flow into the national treasury.