Deferred Tax Asset

What is a deferred tax asset?

We've seen this on about half the engagements where the client has a loss year in its recent history: management recognises a deferred tax asset (DTA) for the full loss carryforward, supports it with a hockey-stick forecast, and nobody on the audit team pushes back hard enough. Then the inspection file lands on the reviewer's desk and the first question is "where is the evidence that future taxable profit is probable?" This is genuinely one of the hardest judgment calls on a tax-heavy file, because the answer depends on forecasts that are, by definition, uncertain.

IAS 12.24 requires an entity to recognise a DTA for all deductible temporary differences to the extent that it is probable that taxable profit will be available against which the temporary difference can be used. IAS 12.34 extends the same principle to unused tax losses and unused tax credits. "Probable" here carries its IFRS meaning (more likely than not), but the standard layers on additional conditions. Where an entity has a history of recent losses, IAS 12.35 limits recognition to the amount supported by sufficient taxable temporary differences reversing in the same period, or by convincing other evidence that enough taxable profit will arise.

Under IAS 12.47 , DTAs must be measured at the tax rates expected to apply when the asset is realised, based on rates enacted or substantively enacted at the reporting date. The auditor's focus under ISA 540.13 (a) lands on management's profit forecasts: the projections that support recoverability are accounting estimates with embedded assumptions about revenue growth, margin recovery, the timing of temporary difference reversals, and applicable tax rate changes. IAS 12.82 also requires disclosure of the amount and expiry dates of unused losses for which no DTA is recognised, a line item that inspection teams review closely.

Worked example: Bergstrom Skog AB

Client: Swedish forestry and paper company, FY2025, revenue EUR 75M, IFRS reporter. Bergstrom has an unused tax loss carryforward of EUR 4.8M from FY2023, when a downturn in pulp prices produced a pre-tax loss. The Swedish corporate tax rate is 20.6%. In FY2024 the company returned to profitability (EUR 2.1M taxable profit), and FY2025 taxable profit is EUR 3.4M. Management forecasts taxable profit of EUR 3.0M annually for FY2026 and FY2027.

Step 1 — Identify the deductible item

The EUR 4.8M tax loss carryforward is the source of the potential DTA. Sweden does not impose an expiry on tax loss carryforwards, though an annual limitation restricts use to 50% of taxable profit exceeding SEK 5M (approximately EUR 440,000) in any single year.

Documentation note: record the loss carryforward amount, the jurisdiction's carryforward rules, any annual utilisation caps, and confirm no change of ownership restriction applies under Swedish law. Reference IAS 12.34 .

Step 2 — Assess recoverability

Bergstrom has a recent loss history (FY2023). IAS 12.35 requires evidence beyond the existence of the loss itself. The entity returned to profit in FY2024 and FY2025. Management's board-approved forecasts project EUR 3.0M annual taxable profit for the next two years. After applying the Swedish limitation rule, approximately EUR 1.3M of the loss can be used per year against profit above the threshold, plus unrestricted use against the first SEK 5M. The team estimates full utilisation within four years.

Documentation note: record the profit forecasts, the board approval date, the loss utilisation schedule year by year, and the basis for concluding that taxable profit is probable per IAS 12.35 –36. Cross-reference to the FY2024 actual results as corroborative evidence of the forecast trend.

Step 3 — Measure the DTA

EUR 4.8M multiplied by the enacted rate of 20.6% produces a gross DTA of EUR 989,000. Because the full loss is expected to be utilised (supported by forecasts and the absence of an expiry date), the entire EUR 989,000 is recognised.

Documentation note: record the tax rate source (Swedish Income Tax Act, substantively enacted at the reporting date), the gross-up calculation, the sensitivity analysis showing the effect on the DTA if taxable profit falls 25% below forecast, and a cross-reference to the utilisation schedule. Per IAS 12.47 , confirm the rate reflects the manner in which the asset is expected to be realised.

Step 4 — Reassess at year-end

At 31 December 2025, EUR 3.4M of taxable profit has absorbed a portion of the carryforward. The remaining loss is EUR 1.4M (EUR 4.8M less EUR 3.4M absorbed in FY2025, after applying limitation rules across FY2024 and FY2025). The DTA reduces to EUR 288,000. The EUR 701,000 reduction flows through tax expense in the income statement.

Documentation note: record the revised loss carryforward schedule, the journal entry reducing the DTA, the reconciliation of the effective tax rate per IAS 12.81 (c), and the updated sensitivity analysis on the remaining balance. Confirm the remaining EUR 288,000 is still recoverable based on the FY2026 forecast.

The DTA of EUR 288,000 at year-end is defensible. The recoverability assessment rests on two years of actual profits corroborating the forecast, the tax rate is enacted, the utilisation schedule accounts for Sweden's annual limitation rule, and the sensitivity analysis confirms headroom even if taxable profit drops 25%.

Why it matters in practice

• Teams recognise DTAs on loss carryforwards without documenting why future taxable profit is probable. IAS 12.82 requires disclosure of the amount of deductible temporary differences and unused tax losses for which no DTA is recognised. ISA 540.18 requires the auditor to evaluate whether the point estimate is reasonable. In our experience, accepting management's forecast at face value (without testing assumptions against historical accuracy of prior forecasts) is the single most common deficiency on DTA files. It amounts to "appears reasonable, waive further pursuit" when the standard demands actual evidence.
• DTAs and deferred tax liabilities (DTLs) are frequently netted without verifying the conditions in IAS 12.74 . Netting is permitted only when the entity has a legally enforceable right to set off current tax assets against current tax liabilities and the deferred amounts relate to the same taxable entity and the same taxation authority. Netting across jurisdictions or across entities that file separate returns violates the standard and misstates both the asset and liability lines.
• A SALY approach on the DTA recoverability test is particularly dangerous. If last year's team accepted a five-year forecast when the entity was profitable, rolling that same workpaper forward into a loss year without re-evaluating the evidence bar under IAS 12.35 leaves the file exposed.

DTA vs. deferred tax liability

In practice, the recognition threshold is asymmetric, and that asymmetry drives audit effort. A DTL is recognised for nearly every taxable temporary difference. A DTA requires a probability assessment that depends on forward-looking profit projections. This asymmetry means the audit effort on DTAs is heavier, and the documentation requirement (forecasts, utilisation schedules, sensitivity analysis, tax rate confirmation) is correspondingly greater.

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Jurisdiction notes

IAS 12 DTAs require assessment of recoverability against probable future taxable profits. In the United Kingdom, the FRC has noted inspection findings where auditors did not sufficiently challenge management’s forecasts of future taxable profits supporting DTA recognition, particularly for entities with a history of tax losses. In the Netherlands, the AFM expects auditors to evaluate whether the tax planning strategies and profit forecasts underpinning DTAs are consistent with the entity’s going concern assessment. In Australia, ASIC has highlighted that auditors should critically evaluate management’s probability assessment for future taxable income under AASB 112, including the period over which DTAs are expected to be realised.

In the United States, DTAs are accounted for under ASC 740, Income Taxes, which uses a “more likely than not” recognition threshold with a valuation allowance approach (differing from IAS 12 ’s “probable” criterion). Under ASC 740, a DTA is recognised in full and then reduced by a valuation allowance if it is more likely than not that some or all of the asset will not be realised. Auditors apply AU-C 540 (non-public) or PCAOB standards to evaluate management’s assessment of positive and negative evidence supporting realisability. PCAOB inspection findings have cited deficiencies in auditors’ evaluation of the weight of negative evidence (such as cumulative losses) against positive evidence (such as future income projections), and insufficient challenge of the tax planning strategies cited by management. The SEC actively reviews DTA disclosures and valuation allowance assessments through comment letters.

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