Deferred Income Tax, Simplified

by Investing School on December 19, 2011

There are times when a balance sheet shows the result of some income generating activity which has been documented in the books, but has not yet been recorded for tax purposes. Sometimes laws change causing a short term difference in the amount of income tax which accompany must pay. The differences caused by such changes are recorded as deferred income tax as well.

An example would be when a company has a tax burden of $50,000 at the end of the year but tax laws allow it to pay only $42,000. The $8,000 not paid would be considered deferred income tax liability which the company would have to make up later on. These liabilities can sometimes be deferred indefinitely and even taxed at a lower rate later on.

One of the most common examples of deferred income taxes result from money set aside in retirement accounts of all sorts. Not all such investments are tax deferred, but those which are generally offer the best choice, since when the monies are withdrawn after retirement income levels are typically much lower. The best choices for such accounts are investments which generate distributions which would be taxable under other circumstances. The payments must be reinvested for efficient management.

Even without the benefit of deferred income taxes, there are some retirement accounts worth pursuing. Opting to put away more money, even if you have to pay taxes up front, is a good way to increase your holdings in anticipation of when you give up working.

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