Deferred tax is the tax effect of profits and losses that the accounts and the tax computation recognise in different periods. Under FRS 102 Section 29 a company recognises it on all timing differences at the reporting date, measured at the tax rate expected to apply when they reverse — for most profitable UK companies the 25% main rate of Corporation Tax. Micro-entities using FRS 105 do not recognise deferred tax at all.
Deferred tax is never paid to HMRC as such. It is an accounting entry that keeps the tax charge in line with the profit reported.
Why deferred tax arises
Permanent differences, such as non-deductible client entertaining, create no deferred tax. Timing differences do: the item is taxed or relieved eventually, just in a different year.
FRS 102 defines timing differences as "differences between taxable profits and total comprehensive income as stated in the financial statements that arise from the inclusion of income and expenses in tax assessments in periods different from those in which they are recognised in financial statements". The commonest examples are:
- Capital allowances and depreciation. Tax relief for plant and machinery usually comes faster than the depreciation charge, creating a deferred tax liability;
- Tax losses carried forward. Losses that will reduce future tax bills can create a deferred tax asset;
- Revaluations. A revaluation gain recognised in the accounts is a timing difference, because tax will be due on it if the asset is sold;
- Accruals relieved on payment. Some expenses, such as pension contributions, are deductible only when paid.
The FRS 102 approach: timing differences plus
The FRC calls its approach "timing differences plus". Deferred tax is recognised on timing differences, with additional recognition for certain differences that are not timing differences — chiefly fair value adjustments in a business combination. The FRC says this "would give the same answers as IFRS in most cases".
The main rules in Section 29 are:
- Measurement. Use the tax rates and laws "enacted or substantively enacted by the reporting date that are expected to apply to the reversal of the timing difference" (paragraph 29.12);
- Graduated rates. Where different rates apply to different levels of profit, use the average rate expected to apply in the reversal periods (paragraph 29.13) — relevant to companies in the marginal relief band;
- No discounting. Current and deferred tax are never discounted (paragraph 29.17);
- Revalued land and investment property. Measure using the tax rates and allowances that apply to a sale (paragraphs 29.15 and 29.16);
- Presentation. A deferred tax liability sits within provisions for liabilities and a deferred tax asset within debtors (paragraph 29.23).
Worked example: capital allowances versus depreciation
A company with profits well above £250,000 buys a machine for £100,000. It claims the Annual Investment Allowance, which currently gives 100% relief on up to £1 million of qualifying plant and machinery, so the whole cost is deducted for tax in year 1. In the accounts it depreciates the machine straight-line over five years: £20,000 a year.
| End of year | Carrying amount | Tax written-down value | Timing difference | Deferred tax liability at 25% |
|---|---|---|---|---|
| 1 | £80,000 | £0 | £80,000 | £20,000 |
| 2 | £60,000 | £0 | £60,000 | £15,000 |
| 3 | £40,000 | £0 | £40,000 | £10,000 |
| 4 | £20,000 | £0 | £20,000 | £5,000 |
| 5 | £0 | £0 | £0 | £0 |
In year 1 the current tax bill falls by £25,000 (25% of £100,000), but the accounts have only charged £20,000 of depreciation. The company books a £20,000 deferred tax charge. The net effect on the tax line is a £5,000 reduction, which is exactly 25% of the £20,000 depreciation in the profit and loss account. In each of years 2 to 5 the liability unwinds by £5,000, offsetting the higher current tax that arises because there are no allowances left to claim.
Budget 2026 announced a cut in the main rate of writing down allowances from 14% to 12% from April 2027 and an increase in the main rate first-year allowance from 40% to 50% for expenditure from 1 January 2027. Neither affects the AIA example above, but both will change timing differences once legislated. Our Corporation Tax rates guide covers the 19%, 25% and marginal relief bands.
Deferred tax assets: when you can recognise them
A deferred tax asset can arise from trading losses carried forward, from accrued expenses relieved later, or where depreciation runs ahead of allowances. FRS 102 is cautious about recognising them. Paragraph 29.7 allows unrelieved tax losses and other deferred tax assets "only to the extent that it is probable that they will be recovered against the reversal of deferred tax liabilities or other future taxable profits", and adds that "the very existence of unrelieved tax losses is strong evidence that there may not be other future taxable profits".
The strongest support for an asset is a deferred tax liability reversing in the same periods.
What the 2024 amendments changed
The FRC's Periodic Review 2024 amendments to FRS 102, issued in March 2024 and consolidated in the September 2024 edition, generally apply to accounting periods beginning on or after 1 January 2026. For Section 29 the main change is new guidance on uncertain tax treatments (paragraphs 29.17A to 29.17C), based on IFRIC 23. A company must assume HMRC will examine any amount it has a right to examine with full knowledge of the facts. If it is not probable that HMRC will accept a treatment, the company reflects the uncertainty using either the most likely amount or an expected value.
IAS 12, FRS 105 and small companies
Groups reporting under IFRS apply IAS 12, which measures deferred tax on temporary differences between the carrying amounts of assets and liabilities and their tax bases. As the FRC notes, IAS 12 has an exception under which deferred tax is not generally recognised on the initial recognition of an asset outside a business combination. The two approaches usually reach the same answer, but not always. Our guide to FRS 101 vs FRS 102 covers the choice of framework.
Small companies applying FRS 102 Section 1A still recognise deferred tax, though they disclose less. Micro-entities are different: FRS 105 states simply that "a micro-entity shall not recognise deferred tax". See our explainer on UK GAAP for how the frameworks fit together.
Getting it right
Deferred tax errors are a common audit adjustment, usually because the fixed asset register and the capital allowances computation have drifted apart. Our FRS 102 accounts team prepares the deferred tax workings alongside the Corporation Tax computation. Our capital allowances specialists can check that the tax pools behind the numbers are complete.