## Income Tax in the Cash Flow Statement

### General Rule

Income tax paid is classified in the same activity as the income on which it was levied.

Tax paid on...	Classification
Operating income	Operating cash flow
Investing income (e.g., capital gain on asset sale)	Investing cash flow
Financing income (e.g., premium on share issue treated as income)	Financing cash flow

### Default Rule (Exam Shortcut)

> If the question gives income tax paid but does not specify which activity it relates to → treat it as Operating cash flow.

### Why the Default?

In practice, the vast majority of corporate tax arises from operating profits. AS 3 itself acknowledges that allocating tax to individual activities is often impractical, so operating is the default.

Worked example

### Example 1

Question states: 'Income tax paid ₹40,000.' No further details given.

→ Classify as Operating cash outflow of ₹40,000.

### Example 2

Question states: 'Tax of ₹10,000 was paid on capital gain arising from sale of machinery.'

→ Sale of machinery = Investing activity → Tax is Investing cash outflow ₹10,000.

### Example 3

Question states: 'Advance tax paid ₹15,000 (out of which ₹3,000 relates to profit on sale of investments and ₹2,000 to interest on debentures issued).'

→ ₹10,000 Operating | ₹3,000 Investing | ₹2,000 Financing.

⚠️ Common exam mistakes

Always putting income tax under operating without checking — if the question specifies what income the tax relates to, split it accordingly.
Ignoring advance tax / TDS refunds — these also need to be classified based on the underlying income.

Reference:

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Income Tax Treatment in Cash Flow Statement

Worked example

⚠️ Common exam mistakes