In addition to income, expenses also shape your everyday business life. While bills can be paid promptly, there are also numerous expenses, the exact amount of which will only be known at a later point in time. In order to prepare for their financial burden, it is advisable to set up provisions. You can find out what tax provisions are, what types there are and what needs to be considered when entering them in the balance sheet here:
What are tax provisions?
It is not always possible to precisely calculate the amount of upcoming expenses. According to the law, you are entitled to plan an appropriate amount in the form of provisions for uncertain liabilities and impending losses from pending transactions . The creation of a classic provision makes sense, for example, in the following situations:
- Maintenance measures in the new financial year within three months
- Overburden removal
- Warranties without legal obligation
The so-called tax provisions are a special form of ordinary provisions. More precisely, these are provisions for taxes that arose within a financial year for economic reasons . However, their respective levels are still unknown. Tax provisions can be set up for corporation tax , trade tax and sales tax . These all belong to the provisions for uncertain liabilities.
What is the difference between provisions and reserves?
The similar-sounding terms “provision” and “reserve” are often used synonymously. On closer inspection, however, it becomes clear that these clearly differ from one another based on a few characteristics:
|work across periods
|Part of the operating equity
|Effort is booked immediately, since the business transactions based on it would otherwise no longer be correct
|partly uniformly regulated by laws and statutes
|future profits will be reduced, while future debts will increase
|Formation takes place to compensate for possible future losses
|Formation takes place for future liabilities
How do you share tax provisions?
Do you consider the issue of tax provisions more closely, you will quickly notice that, this in debt provisions and provisions for expenses can be divided:
This group includes all obligations towards third parties . Usually these are high amounts to be expected in connection with a court hearing. In this case, you are entitled to set up what are known as provisions for litigation costs.
Provision for expenses
This form of provision concerns obligations towards yourself . These are financial expenses that are not due to third parties. These include provisions for maintenance measures as well as numerous operating expenses that are very likely to be incurred in the near future.
Types of provisions
In addition to tax provisions, classic provisions can also be divided into other provisions and pension provisions.
Other provisions include, for example, these expenses:
- Expense and school deferrals
- Provisions for contingent losses
- Goodwill provisions and guarantee obligations
- Annual financial statements and audit provisions
As an employer, you are legally obliged to set up pension provisions if you have made a binding and direct pension commitment to your employer. According to Section 249 (1) HGB, this pension commitment must be available in writing by the balance sheet date at the latest .
What booking rates are there for tax provisions?
Since liability accounts are always affected when a provision is posted , these processes must always be classified on the credit side of the balance sheet .
In this context, the “Provision for uncertain liabilities” account is usually used. Since it especially when tax reserve provision depends on the individual case, can be no general accounting record set for control provisions.
For the areas of corporation tax and trade tax, you will find examples of possible provisions here to record these expenses in practice:
The exact amount of the corporation is in the preparation of financial statements normally not yet known. So it is up to you to assess this realistically from a commercial point of view.
The trade tax is similar to the corporation tax listed above. Here, too, the exact amount is mostly still unknown at the end of the year. Since the annual amounts to be paid are usually not identical, it is also important here to realistically estimate the amount of expenditure .
In summary, the respective bookings can look like this:
|General approach to posting provisions
|Expenditure on provisions
|Corporate tax expense to corporation tax provision
|Trade tax to trade tax provisions
What do you have to consider when reversing tax provisions?
As soon as the reason for creating your provision no longer applies , you are encouraged to dissolve it. The amount of the provision is based on the amount of the expenses actually incurred. This results in the following three situations for the reversal of provisions:
- Provision and payment are the same: In this case, the amount of money retained is identical to the associated expenditure. This means that the provision can be fully released without affecting income.
- The provision is higher than the payment: This situation turns out to be particularly favorable for you, as a remainder of the amount of money saved remains after the expenditure has been paid. When tax provisions are released, other operating income is posted.
- The provision is less than the payout: This situation is the worst case for you. When you cancel your provision, the amount of money saved will not be enough to settle the claim . In order for you to be able to meet your payment obligation, it is necessary to activate further financial reserves. This results in the posting of other operating expenses.
For a clear overview of all provisions , it is advisable to draw up a list of provisions. According to the law, you are not obliged to keep such a list of provisions, but it does show the development of individual items, which in turn is part of the legal obligation to provide evidence . The structure is up to you. However , it is also conceivable to purchase accounting software including a provision table.
Frequently asked questions about tax provisions
What can I reserve for?
As already mentioned in the definition of provisions above, it is permissible to set up provisions for expenses the exact amount of which is not yet known . The purpose of this is to cover impending liabilities as extensively as possible in advance in the following financial year. Since the booking is made immediately as an expense, the provision already reduces your profit at the turn of the year. This in turn affects your tax burden . The conditions for the formation of tax provisions are regulated in detail in the German Commercial Code (HGB) .
In the following cases, for example, it makes sense to set up a provision:
- Protection against impending liabilities such as litigation costs
- immediate reduction of your company’s profit and tax burden
- The formation of a provision is required by law
What are provisions on the balance sheet?
As already mentioned, provisions are to be classified under liabilities in terms of their character. In the balance sheet, you should therefore make sure to clearly distinguish your provisions from your usual liabilities, as these belong to the unusual liabilities.
Are Provisions Debt?
As with your company’s ordinary liabilities, accruals are also debts because they are part of your debt . Because provisions reduce the profit of your company.
Where do provisions belong on the balance sheet?
According to Section 246 of the German Commercial Code (HGB), you are required to show the liabilities of your company on the liabilities side of the balance sheet with regard to the passivation obligation. Since tax provisions are liabilities, they are also subject to the liability requirement and must therefore be classified on the credit side of the balance sheet .
If the law does not already require you to set up provisions, this can be worthwhile for your company in some situations. By immediately posting it as an expense, the provision directly reduces your balance sheet profit before the expense actually occurs. The creation of a list of provisions can also prove to be helpful for you to keep an eye on all of the provision items.