Power transformers are the boon of the power supply system as it transform the voltage to a very high level for the transmission of power over long distances. Transformers, just like generators, transmission lines and other elements of the power system, requires protection from possible damage by various faults. The differential protection is the most widely used scheme for the protection of power transformer from the internal faults. However this conventional scheme suffers serious difficulties due to reasons such as saturation of current transformers, magnetizing inrush current etc which causes maloperation of relays. It can not eliminated by using conventional scheme. This paper proposes design of the digital differential relay based upon the Clarke’s transformation approach. This relay effectively discriminates between inrush current and fault current and hence improves the sensitivity and reliability of the operation of protection scheme. The proposed scheme is implemented with MATLAB/SIMULINK software.