Provision for taxation is the provision made out of current profits to meet the tax obligation. There is a time gap between the provision made and payment of the actual tax liability. So it serves as a source of short-term finance during the intermediate period.
Provision for taxation has the following features:
1. Source of Working Capital:
Provision for taxation provides funds for financing working capital.
2. Cost of Financing:
Financing of working capital through provision for taxation does not involve any cost.
3. Legal Formalities:
Use of provision for taxation as a source of finance does not require any legal formalities.
4. Floatation Cost:
It does not involve any issue-related cost.
The advantages of the provision for taxation as a source of short term capital are as follows:
It is a cheaper source of finance and does not involve any cost.
There is no obligation of payment of any cost of capital.
The disadvantages of the provision for taxation are as follows:
i. Short-term Finance:
Provision for taxation provides funds for a very short period.
ii. Inefficient Utilization of Funds:
Sometimes excess provision may be created which might lead to misuse of funds.