Book Read Free

International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards

Page 472

by International GAAP 2019 (pdf)


  drawn up by the tax authorities under tax law, this liability would not be included, since

  the relevant amount would, in the notional tax financial statements, have already been

  taken to income.

  An entity may have a liability of (say) €1,000 that will attract no tax deduction when it

  is settled. In this case, the tax base is €1,000 (on the analogy with the rule in 6.1.1 above

  that where, realisation of an asset will not be taxable, the tax base of the asset is equal

  to its carrying amount). This applies irrespective of whether the liability concerned

  arises from:

  • a transaction already recognised in total comprehensive income and already

  subject to a tax deduction on initial recognition (e.g. in most jurisdictions, the cost

  of goods sold or accrued expenses);

  • a transaction already recognised in total comprehensive income and outside the

  scope of tax (e.g. non tax-deductible fines and penalties); or

  • a transaction not affecting total comprehensive income at all (e.g. the principal of

  a loan payable). [IAS 12.8].

  Income

  taxes

  2369

  This is appropriate given that, in the first case, the liability represents a cost that has

  already been deducted for tax purposes and, in the second and third cases, the liabilities

  represent items that are outside the scope of tax.

  6.1.3

  Assets and liabilities whose tax base is not immediately apparent

  IAS 12 indicates that where the tax base of an asset or liability is not immediately

  apparent, it is helpful to consider the fundamental principle on which the standard is

  based: an entity should, with certain limited exceptions, recognise a deferred tax

  liability (asset) wherever recovery or settlement of the carrying amount of an asset or

  liability would make future tax payments larger (smaller) than they would be if such

  recovery or settlement were to have no tax consequences. [IAS 12.10]. In other words:

  provide for the tax that would be payable or receivable if the assets and liabilities in the

  statement of financial position were to be recovered or settled at book value.

  The implication of this is that in the basic ‘equation’ of IAS 12, i.e.

  carrying amount – tax base = temporary difference,

  the true unknown is not in fact the temporary difference (as implied by the definitions

  of tax base and temporary difference) but the tax base (as implied by paragraph 10).

  It will be apparent from the more detailed discussion at 6.2 below that this clarification is

  particularly relevant to determining the tax bases of certain financial liabilities, which often

  do not fit the general ‘formula’ of carrying amount less amount deductible on settlement.

  6.1.4

  Tax base of items not recognised as assets or liabilities in financial

  statements

  Certain items are not recognised as assets or liabilities in financial statements, but may

  nevertheless have a tax base. Examples may include:

  • research costs (which are required to be expensed immediately by IAS 38 –

  Intangible Assets – see Chapter 17);

  • the cost of equity-settled share-based payment transactions (which under IFRS 2

  – Share-based Payment – give rise to an increase in equity and not a liability –

  see Chapter 30); and

  • goodwill deducted from equity under previous IFRS or national GAAP.

  Where such items are tax-deductible, their tax base is the difference between their carrying

  amount (i.e. nil) and the amount deductible in future periods. [IAS 12.9]. This may seem

  somewhat contrary to the definition of tax base, in which it is inherent that, in order for an

  item to have a tax base, that item must be an asset or liability, whereas none of the items

  above was ever recognised as an asset.8 The implicit argument is that all these items were

  initially (and very briefly) recognised as assets before being immediately written off in full.

  Local tax legislation sometimes gives rise to liabilities that have a tax base but no carrying

  amount. For example, a subsidiary of the reporting entity may receive a tax deduction for

  a provision that has been recognised in the individual financial statements of that

  subsidiary prepared under local accounting principles. For the purposes of the entity’s

  consolidated financial statements, however, the provision does not satisfy the recognition

  requirements of IAS 37. In such situations we consider it appropriate to regard the tax

  deduction received as giving rise to a deferred tax liability in the consolidated financial

  2370 Chapter 29

  statements (by virtue of there being a provision with a tax base but no carrying amount)

  in addition to the current tax income recorded for the subsidiary.

  Similar situations may arise where local tax legislation permits deductions for certain

  expenditure determined according to tax legislation without reference to any financial

  statements. Again, in those cases where an equivalent amount of expenditure is likely

  to be recognised in the financial statements at a later date, we would regard it as

  appropriate to regard the tax deduction received as giving rise to a deferred tax liability

  in the consolidated financial statements.

  6.1.5

  Equity items with a tax base

  The definition of ‘tax base’ refers to the tax base of an ‘asset or liability’. This begs the

  question of whether IAS 12 regards equity items as having a tax base and therefore

  whether deferred tax can be recognised in respect of equity instruments (since deferred

  tax is the tax relating to temporary differences which, by definition, can only arise on

  items with a tax base – see above).

  In February 2003 the Interpretations Committee considered this issue. It drew attention

  to the IASB’s proposal at that time to amend the definition of ‘tax base’ so as to refer not

  only to assets and liabilities but also equity instruments as supporting the view that

  deferred tax should be recognised where appropriate on equity instruments. This was

  effectively the approach proposed in the exposure draft ED/2009/2 (see 1.3 above).9

  An alternative analysis might be that equity items do not have a tax base, but that any

  tax effects of them are to be treated as items that are not recognised as assets or

  liabilities but nevertheless have a tax base (see 6.1.4 above).

  Given the lack of explicit guidance in the current version of IAS 12 either analysis may

  be acceptable, provided that it is applied consistently. This is reflected in a number of

  the examples in the remainder of this Chapter.

  6.1.6

  Items with more than one tax base

  Some assets and liabilities have more than one tax base, depending on the manner in

  which they are realised or settled. These are discussed further at 8.4 below.

  6.1.7

  Tax bases disclaimed or with no economic value

  In some situations an entity may choose not to claim an available deduction for an item

  as part of an overall tax planning strategy. In other cases, a deduction available as a

  matter of tax law may have no real economic effect – for example because the

  deduction will increase a pool of brought forward tax losses which the entity does not

  expect to recover in the foreseeable future.

  In our vie
w, the fact that the entity chooses not to take advantage of a potential tax

  deduction, or that such a deduction would have no real economic effect in the

  foreseeable future, does not mean that the asset to which the deduction relates has no

  tax base. While such considerations will be relevant to determining whether a

  deductible temporary difference gives rise to a recoverable deferred tax asset (see 7.4

  below), the tax base of an asset is determined by reference to the amount attributed to

  the item by tax law. [IAS 12.5].

  Income

  taxes

  2371

  6.2

  Examples of temporary differences

  The following are examples of taxable temporary differences, deductible temporary

  differences and items where the tax base and carrying value are the same so that there

  is no temporary difference. They are mostly based on those given in IAS 12,

  [IAS 12.17-20, 26, IE.A-C], but include several others that are encountered in practice. It will

  be seen that a number of categories of assets and liabilities may give rise to either

  taxable or deductible temporary differences.

  A temporary difference will not always result in a deferred tax asset or liability being

  recorded under IAS 12, since the difference may be subject to other provisions of the

  standard restricting the recognition of deferred tax assets and liabilities, which are

  discussed at 7 below. Moreover, even where deferred tax is recognised, it does not

  necessarily create tax income or expense, but may instead give rise to additional goodwill

  or bargain purchase gain in a business combination, or to a movement in equity.

  6.2.1

  Taxable temporary differences

  6.2.1.A

  Transactions that affect profit or loss

  • Interest received in arrears

  An entity with a financial year ending on 31 December 2019 holds a medium-term

  cash deposit on which interest of €10,000 is received annually on 31 March. The

  interest is taxed in the year of receipt. At 31 December 2019, the entity recognises

  a receivable of €7,000 in respect of interest accrued but not yet received. The

  receivable has a tax base of nil, since its recovery has tax consequences and no tax

  deductions are available in respect of it. The temporary difference associated with

  the receivable is €7,000 (€7,000 carrying amount less nil tax base).

  • Sale of goods taxed on a cash basis

  An entity has recorded revenue from the sale of goods of €40,000, together with

  a cost of the goods sold of €35,000, since the goods have been delivered. However,

  the transaction is taxed in the following financial year when the cash from the sale

  is collected.

  The entity will have recognised a receivable of €40,000 for the sale. The

  receivable has a tax base of nil, since its recovery has tax consequences and no tax

  deductions are available in respect of it. The temporary difference associated with

  the receivable is €40,000 (€40,000 carrying amount less nil tax base).

  There is also a deductible temporary difference of €35,000 associated with the

  (now derecognised) inventory, which has a carrying amount of zero but a tax base

  of €35,000 (since it will attract a tax deduction of €35,000 when the sale is taxed)

  – see 6.2.2.A below.

  • Depreciation of an asset accelerated for tax purposes

  An entity has an item of PP&E whose cost is fully tax deductible, but with

  deductions being given over a period shorter than the period over which the asset

  is being depreciated under IAS 16 – Property, Plant and Equipment. At the

  reporting date, the asset has been depreciated to £500,000 for financial reporting

  purposes but to £300,000 for tax purposes.

  2372 Chapter 29

  Recovery of the PP&E has tax consequences since, although there is no deduction

  for accounting depreciation in the tax return, the PP&E is recovered through

  future taxable profits. There is a taxable temporary difference of £200,000

  between the carrying value of the asset (£500,000) and its tax base (£300,000).

  • Capitalised development costs already deducted for tax

  An entity incurred development costs of $1 million during the year ended

  31 December 2019. The costs were fully deductible for tax purposes in the tax return

  for that period, but were recognised as an intangible asset under IAS 38 in the

  financial statements. The amount carried forward at 31 December 2019 is $800,000.

  Recovery of the intangible asset through use has tax consequences since, although

  there is no deduction for accounting amortisation in the tax return, the asset is

  recovered through future profits which will be taxed. There is a taxable temporary

  difference of $800,000 between the carrying value of the asset ($800,000) and its

  tax base (nil). Although the expenditure to create the asset is tax-deductible in the

  current period, its tax base is the amount deductible in future periods, which is nil,

  since all deductions were made in the tax return for 2019.

  A similar analysis would apply to prepaid expenses that have already been deducted

  on a cash basis in determining the taxable profit of the current or previous periods.

  6.2.1.B

  Transactions that affect the statement of financial position

  • Non-deductible and partially deductible assets

  An entity acquires a building for €1 million. Any accounting depreciation of the

  building is not deductible for tax purposes, and no deduction will be available for

  tax purposes when the asset is sold or scrapped.

  Recovery of the building, whether in use or on sale, nevertheless has tax

  consequences since the building is recovered through future taxable profits of

  €1 million. There is a taxable temporary difference of €1 million between the

  carrying value of the asset (€1 million) and its tax base of zero.

  A similar analysis applies to an asset which, when acquired, is deductible for tax

  purposes, but for an amount lower than its cost. The difference between the cost

  and the amount deductible for tax purposes is a taxable temporary difference.

  • Deductible loan transaction costs

  A borrowing entity records a loan at £9.5 million, being the proceeds received of

  £10 million (which equal the amount due at maturity), less transaction costs of

  £500,000, which are deducted for tax purposes in the period when the loan was

  first recognised. For loans carried at amortised cost, IFRS 9 requires the costs,

  together with interest and similar payments, to be accrued over the period to

  maturity using the effective interest method.

  Inception of the loan gives rise to a taxable temporary difference of £500,000, being

  the difference between the carrying amount of the loan (£9.5 million) and its tax base

  (£10 million). This tax base does not conform to the general definition of the tax base

  of a liability – i.e. the carrying amount, less any amount that will be deductible for

  tax purposes in respect of that liability in future periods (see 6.1.2 above).

  Income

  taxes

  2373

  The easiest way to derive the correct tax base is to construct a notional statement of

  financial position prepared by the tax authorities according to tax law. This would show

  a liabil
ity for the full £10 million (since the amortisation of the issue costs that has yet

  to occur in the financial statements has already occurred in the notional tax authority

  financial statements). This indicates that the tax base of the loan is £10 million.

  A far simpler analysis for the purposes of IAS 12 might have been that the

  £9.5 million carrying amount comprises a loan of £10 million (with a tax base of

  £10 million, giving rise to temporary difference of zero) offset by prepaid

  transaction costs of £500,000 (with a tax base of zero, giving rise to a taxable

  temporary difference of £500,000). However, this is inconsistent with the analysis

  in IFRS 9 that the issue costs are an integral part of the carrying value of the loan.

  The consequence of recognising a deferred tax liability in this case is that the tax

  deduction for the transaction costs is recognised in profit or loss, not on inception

  of the loan, but as the costs are recognised through the effective interest method

  in future periods.

  • Non-deductible loan transaction costs

  As in the immediately preceding example, a borrowing entity records a loan at

  £9.5 million, being the proceeds received of £10 million (which equal the amount

  due at maturity), less transaction costs of £500,000. In this case, however, the

  transaction costs are not deductible in determining the taxable profit of future,

  current or prior periods. For loans carried at amortised cost, IFRS 9 requires the

  costs to be accrued over the period to maturity using the effective interest method.

  Just as in the preceding example (and perhaps rather counter-intuitively, given that

  the costs are non-deductible) inception of the loan gives rise to a taxable

  temporary difference of £500,000, being the difference between the carrying

  amount of the loan (£9.5 million) and its tax base (£10 million). This is because a

  notional statement of financial position prepared by the tax authorities according

  to tax law would show a liability for the full £10 million, since the transaction costs

  would never have been recorded (as they never occurred for tax purposes).

  • Liability component of compound financial instrument

  An entity issues a convertible bond for €5 million which, in accordance with the

  requirements of IAS 32 – Financial Instruments: Presentation, is analysed as

  comprising a liability component of €4.6 million and a residual equity component of

 

‹ Prev