provision for tax and advance payment of tax

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santoshkumar

santoshkumar (Querist)

27 September 2009 what is the appropriate assumption when the both are given in the problem of cash flow statement.

CA. B.SRINIVASULU

CA. B.SRINIVASULU (Expert)

27 September 2009 For cash flow statement advance payment of tax has to be considered.

santoshkumar

santoshkumar (Querist)

28 September 2009 SIR
PLEASE EXPLAIN ME WITH AN EXAMPLE SO THAT I CAN BETTER UNDERSTAND

santoshkumar

santoshkumar (Querist)

28 September 2009 what is the appropriate assumption when the both are given in the problem of cash flow statement.

SIR
PLEASE EXPLAIN ME WITH AN EXAMPLE SO THAT I CAN BETTER UNDERSTAND

Aashok Kumar Sharma online

Aashok Kumar Sharma

(Expert)

10 August 2024 ### Provision for Tax and Advance Payment of Tax in Cash Flow Statements

When preparing a Cash Flow Statement, it's important to distinguish between "Provision for Tax" and "Advance Payment of Tax" as they affect cash flows differently. Here’s how to understand and handle them:

#### **1. Provision for Tax:**

- **Definition:** This is an amount set aside from the profit to cover the tax liability expected to be payable in the future. It is a non-cash item and represents a liability on the balance sheet.

- **Impact on Cash Flow Statement:** When preparing the Cash Flow Statement, you need to adjust for changes in provisions for tax. Since it is a non-cash item, it needs to be added back to the net profit in the Operating Activities section.

#### **2. Advance Payment of Tax:**

- **Definition:** This represents the actual cash outflow made during the period towards tax liabilities. It is a cash payment made in advance for future tax liabilities.

- **Impact on Cash Flow Statement:** Advance payments of tax are classified as a cash outflow in the Operating Activities section of the Cash Flow Statement.

### Example to Illustrate

Let’s consider an example to clarify how these items are handled in the Cash Flow Statement.

**Example Scenario:**

- **Net Profit:** ₹1,000,000
- **Provision for Tax (Increase during the year):** ₹200,000
- **Advance Payment of Tax during the year:** ₹150,000

**Cash Flow Statement Preparation:**

1. **Operating Activities:**

- **Net Profit Before Tax:** ₹1,000,000

- **Add: Provision for Tax (Non-Cash Item):** ₹200,000
- **Reason:** Provision for tax is not an actual cash outflow, so it is added back to net profit.

- **Less: Advance Payment of Tax:** ₹150,000
- **Reason:** Advance payment of tax is an actual cash outflow, so it is deducted from net profit.

**Cash Flow from Operating Activities Calculation:**

```
Net Profit Before Tax ₹1,000,000
Add: Provision for Tax ₹200,000
Less: Advance Payment of Tax ₹150,000
------------------------------------------------------------
Net Cash Flow from Operating Activities ₹1,050,000
```

**Explanation:**

1. **Provision for Tax:** Since it's a non-cash item, it is added back to net profit to reflect the actual cash flow.

2. **Advance Payment of Tax:** This represents actual cash spent on taxes, so it reduces the net cash flow.

### Key Assumptions:

- **Provision for Tax:** Adjust for changes in the provision for tax as it impacts the accounting profit but not the cash flow.
- **Advance Payment of Tax:** Directly affects cash flow as it is a cash outflow related to tax payments.

Understanding these adjustments ensures accurate reporting of cash flows, giving a true picture of the company’s liquidity and operational cash position.

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