Current Developments in Tax Accounting: Preparing for the year end provision. Greg Boone October 23, 2014

Transcription

1 Current Developments in Tax Accounting: Preparing for the year end provision Greg Boone October 23, 2014

2 Agenda Select issues from an auditor s perspective Recognition of deferred tax assets Foreign investments Legal entity accounting Provision recommendations Appendix A Legislative Updates

3 Select Issues from an auditor s perspective

4 Select Issues from an auditor s perspective Recognition of deferred tax assets Foreign investments Legal entity accounting

5 Recognition of Deferred Tax Assets

6 Recognition of DTAs A DTA is recognized for all deductible temporary differences, tax losses and credits to the extent it is probable (means more likely than not ) that the amount will be realized No concept of a valuation allowance under IFRS How evidence was weighted positive/negative Cumulative losses Consideration of the four sources of taxable income, including the prominence of each source and the material uncertainties, assumptions or limitations associated with each source Timing and reason for changes in valuation allowance Consistency of assumptions Consistency of accounting with MD&A disclosures

7 Recognition of DTAs (cont.) Future realization ultimately depends on the existence of sufficient taxable income of the appropriate character in either the carryback or carryforward period under the tax law Have all four sources of taxable income been considered? Taxable income in carryback years - Objective Future reversals of existing taxable temporary differences - Objective Future taxable income from other sources - Subjective Prudent and feasible tax planning strategies - Subjective

8 Recognition of DTAs (cont.) Taxable income in prior carryback years Consider character: capital losses may only be available to offset capital gains Consider limits: the number of years and amount of losses that may be carried back may be limited by jurisdiction Consider unique foreign legislation UK allows for extended carryback of losses arising from capital allowances on decommissioning expenditures Norway companies subject to offshore tax regime are guaranteed the full tax value of all costs incurred Do you know if a carryback is limited?

9 Recognition of DTAs (cont.) Future reversals of existing taxable temporary differences Evaluate DTAs on a gross basis Consider the timing of reversal of existing taxable temporary differences Common pitfall: DTAs evaluated on a net basis Common pitfall: Naked credits are used as a source of taxable income Common pitfall: Incorrectly considering future losses when determining whether existing DTLs are a source of future taxable income Will the deferred tax liabilities result in taxable income in the appropriate period? Are there deferred tax liabilities associated with book balances that do not have a known period when they may affect the income statement?

10 Recognition of DTAs (cont.) What is a tax planning strategy? A strategy that is prudent and feasible A strategy that a company ordinarily might not take, but would take to prevent an operating loss or tax credit carryforward from expiring unused A strategy that would result in the realization of deferred tax assets Common pitfalls Substituting or refreshing one DTA with another without evaluating the new DTA for realizability Considering a projection of future taxable income a tax planning strategy

11 Recognition of DTAs (cont.) SEC Comments: Please disclose the amount of pre-tax income you need to generate to realize these deferred tax assets. Include an explanation of the anticipated future trends included in your projections of future taxable income. Confirm to us that the anticipated future trends included in your assessment of the realizability of your deferred tax assets are the same anticipated future trends used in estimating the fair value of your reporting units for purposes of testing goodwill for impairment and any other assessment of your tangible and intangible assets for impairment. If you are also relying on tax-planning strategies, please disclose the nature of your tax planning strategies, how each strategy supports the realization of deferred tax assets, the amount of the shortfall that each strategy covers, and any uncertainties, risks, or assumptions related to these tax-planning strategies. Please show us in your supplemental response what your revisions to future filings will look like.

12 Recognition of DTAs (cont.) SEC comments (con t) Please substantially revise your disclosure in future filings to provide investors with quantitative and qualitative information of the material positive and negative factors that you considered when arriving at your conclusion that it is more likely than not that the deferred tax assets will be realized. Please discuss the significant estimates and assumptions used in your analysis, including the specific factors that changed during fiscal 2012 and led you to determine the reversal was appropriate at this time.

13 DTA/DTL netting Example: X Co., a Canadian corporation has a DTA of $300 Y Co., 100% owned Canadian sub of X has a DTL of $400 X Co., has a tax planning strategy to amalgamate with Y Co., in order to utilize X Co. DTA Questions: 1. Can XCo. Rely on tax planning strategies to record DTA? Yes, depending on the nature of the reversal 2. Can we net the DTA and DTL for presentation purposes on the consolidated financial statements? No, no legal right of offset prior to amalgamation

14 Foreign Investments

15 Foreign Investments Both IFRS and US GAAP require that deferred tax be considered with respect to the undistributed profits of a companies investments Temporary differences can arise from: Change in carrying value of investment due to unremitted earnings Carrying value of investment impaired below tax cost Foreign exchange Considerable regulator focus on assertions related to the indefinite reinvestment criteria SEC comments: We see that $[X] million of your $[X] million in cash on hand at June 30, 2012 is held by your foreign subsidiaries. Please reconcile the statement that you do not intend to repatriate these funds with the subsequent statement that the funds are available for general company use during the remainder of Please clarify in your response how you intend to finance your operations without access to the funds held by foreign operations.

16 Foreign Investments (cont.) Indefinite reinvestment Not an all or nothing assertion Positive assertion requires specific documentation and evidence of plans each reporting period Consider financial reporting implications of tax planning SEC comments: Please explain to us how you evaluated the criteria for the exception to recognition of a deferred tax liability in accordance with ASC and 18 for undistributed earnings that are intended to be indefinitely reinvested. Describe the type of evidence and your specific plans for reinvestment for these undistributed earnings that sufficiently demonstrates that remittance of earnings will be postponed indefinitely.

17 Foreign Investments (cont.) IAS 12 requires deferred tax liability to be recognized for all taxable temporary differences associated with investments (both domestic & foreign) in subsidiaries, branches and associates or interests in JVs unless: The parent or investor is able to control the timing of the reversal of the temporary difference; and It is probable that the temporary difference will not reverse in the foreseeable future Recovery of the deferred tax must follow the expected manner of recovery i.e. sale, wind-down and distribution of the profits, etc Assertions need to be supported

18 Foreign Investments (cont.) 100% owned Subsidiary Parent controls subsidiary and can determine dividend policy If parent maintains that it does not intend to distribute profits no DTL is required. Evidence to support Formal resolutions by management Specific reinvestment plans or cash flow projections

19 Foreign Investments (cont.) Taxable temporary differences Issues to look out for: Associates where investor may not be able to control the reversal Partnerships reversal cannot be controlled because profits are allocated Expected manner of recovery how will the temporary difference reverse Distributions Dividends Sale of investment If deferred tax is not booked related to a taxable temporary difference in a subsidiary due to the exception, the gross amount of taxable temporary difference must be disclosed in the notes to the financial statements

20 Legal Entity Accounting

21 Legal entity accounting why is it important Legal entity reporting/forecasting is a critical component in the tax lifecycle Forecasting Cash taxes for the year Effective tax rate Valuation of deferred tax assets Provision Calculation of interim and annual provisions Uncertain tax provisions Unremitted earnings disclosure Compliance Efficiency of compliance process Unnecessary complexity during audit Additional reporting BEPS considerations

22 Legal entity accounting Questions to ask 1. Is someone in the finance department responsible for signing off on legal entity results? 2. Do we understand all of the material intercompany transactions that flow each period? Are there controls around intercompany processes? 3. Does your company prepare statutory financials through excel? Do they require significant manual override? 4. Does your company have a large number of top-side entries and is their a defined process for push-down to the legal entities? Tax Departments need to drive the importance of legal entity reporting by highlighting the significant risks. Use country by country reporting as a reason to have the discussion.

23 Internal control over financial reporting (ICFR)

24 Tax ICFR Precision and evidence of review controls Thinking about precision (the nature or level at which the review control operates) consider the following: Is the control capable of identifying errors? Would the control identify errors or fraud that could be material to the financial statements? Does the control address the relevant risks? Does the control identify errors? Nature of the errors? Examples? If not, why? Nature of the questions identified: follow-up; outcome? Is there contradictory evidence indicating the control is not suitably designed? What evidence of the control exists? Is evidence sufficient to support the assessment? A signature is not sufficient

25 Attributes of a review control Who Who performs the control? Do they possess competence and authority? When What When or how often is the control performed (timeliness)? What procedures are performed? What info or data (EAE) is used? What does the reviewer evaluate? What precision is encompassed? What types of errors are identified? What actions are taken or result?

26 Tax ICFR Design example Poor example Appropriate personnel review the return to provision true-up calculation. Better example On an annual basis, in the period in which the federal income tax return is filed (when), the Chief Accounting Officer (who) reviews the return to provision calculation ensuring all positions taken on the income tax return were appropriately considered in the prior year income tax provision (what, why). All return to provision items $250k or greater (net of tax) are evaluated for the effect on the current year or prior year income tax provision (what). Considerations are documented within the return to provision workpaper file and supported with supplemental evidence, if necessary (how).

27 Tax provision recommendations

28 Tax provision recommendations Refresh internal controls for income taxes (consider 2013 framework to be adopted) Develop work plan for enhancements and remediation items and assign tasks Review workplan and timeline with auditor Assign technical tax accounting white papers for issues and judgments Accelerate work during quarters and interim to avoid surprises: Evaluate and record return-to-provision adjustments Prove out deferred tax assets/liabilities, current taxes payable/receivable Leverage tax provision-to-return process for completed tax returns Document outside basis differences, including indefinite reinvestment assertions and prepare outside basis difference calculations Document DTA realization considerations (four sources of taxable income) and prepare position paper Document uncertain tax positions Consider tool to improve efficiency and accuracy of computations

29 Tax provision recommendations (cont.) Analyze and document unique transactions and events and effects on tax provision, unremitted earnings assertions, uncertain tax positions and valuation allowances (e.g., acquisitions, dispositions, financing, internal restructuring, cash flow forecasts, etc.) Evaluate intercompany transactions and tax provision effects Ensure tax accounting judgments align with business results and disclosures and update disclosures of factors that influenced judgments Review for consistency with tax and non-tax disclosures Liquidity (foreign reinvestment and parent or domestic cash requirements) Commitments and contingencies Acquisitions/dispositions Cash flow Equity movements MD&A

30 Tax provision recommendations (cont.) Institute regular meetings with external auditors regarding contemporaneous issues (significant transactions, changes in business, etc.) Challenge annually prior-year processes to identify areas for improvement Simplify and standardize existing Excel templates Address technical issues early and prepare white papers for consideration by management and external audit Implement standardized global procedures Consider the tax provision process a year-round area of continued focus Identify a third-party to assist with preparation or review the provision (preaudit review) or co-source/out-source to free-up internal time for review Obtain assistance researching and documenting issues or preparing white papers on tax accounting positions

31 Tax provision action items Focus Areas Tax provision calculations Insufficient resources to compute provision during close cycle Inefficient consolidation of data Foreign subsidiary provisions Tax technical support for local finance directors Statutory to IFRS adjustments Lack of understanding of IFRS/US GAAP Forecast of Estimated Annual ETR Determination of treatment of special items as discrete vs. part of EAETR Legal entity forecasts Tax return true-ups Canada and international Timely recording of journal entries Tax law or rate changes Tracking changes to record impact in appropriate period Global monitoring of changes Action items

32 Tax provision action items (cont.) Focus Areas Deferred tax asset valuation Scheduling of temporary differences Tax planning strategies Forecast of future income - consistency Investments in foreign subsidiaries Outside basis differences Support for amounts indefinitely reinvested Unrecognized tax benefits Review of cumulative balances Support for interest calculations Translation adjustments Tax account validations Support for cumulative current and deferred tax balances Tax basis balance sheets Other items Action items

33 Appendix A Legislative and Other Developments

34 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: Albania 20 May enacted transfer pricing rules that define controlled transactions, related parties and comparability. The rules also describe accepted transfer pricing methods which align with the Organization for Economic Cooperation and Development (OECD), allow advance pricing agreements and implement mutual agreement procedures for tax treaties (effective 4 June 2014) Austria legislation disallowing deductions for interest and royalty payments made to affiliated companies subject to an income tax rate below 10% in the affiliated company s jurisdictions, abolishing tax goodwill amortization for acquisitions after 28 February 2014, excluding foreign group members that are resident in countries outside the EU from Austrian tax groups, limiting domestic group s ability to offset its income with losses of foreign group members to 75% of the domestic group income, starting in 2015 Bolivia 21 July enacted new transfer pricing laws with varying effective dates

35 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: Chile 29 September enacted legislation that gradually increases the corporate tax rate to as high as 27% from 20%, in certain cases, by Other changes include taxing shareholders on annual corporate profits when earned, rather than distributed; limiting the deductibility of related-party interest; eliminating goodwill amortization; and subjecting passive income from a Chilean company s controlled foreign corporations to current taxation (effective dates vary). In addition, on 31 January Chile increased the current FTC limits to be used in Chile (both in the presence and absence of a tax treaty), expanded the foreign taxes that can be credited (beyond a foreign two tier structure) and expanded the possible carryover of FTC (effective 1 January 2014) El Salvador 9 August imposed alternative minimum tax on the value of net assets with any incremental tax based on income. Other changes include adopting the OECD transfer pricing guidelines, which would allow taxpayers and tax authorities to use those guidelines when determining transfer prices (effective 9 August 2014)

36 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: France 9 August extended the expiration date of the 10.7% temporary surtax for large companies by one year, to fiscal years ending on or before 30 December 2016 Hong Kong 27 March reduced the applicable profits tax rate imposed on captive insurers to 8.25% from 16.5% (effective 1 April 2013) Iceland 1 January enacted new transfer pricing rules (effective 1 January 2014) Italy 21 August allowed certain companies to convert their notional interest deductions into tax credits and a new tax credit for investments in certain plant and equipment (effective 25 June 2014) Japan 31 March repealed the special reconstruction surtax and will allow for deductibility of 50% of meals and entertainment expenses (effective for taxable years beginning on or after 1 April 2014)

37 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: Korea 1 January eliminated deductibility of reserves used as future R&D and decreased the R&D investment tax credit for medium and large companies (effective 1 January 2014) Macedonia 23 July enacted legislation to tax profits when they are earned, rather than distributed (effective 2014 tax year) Mexico 11 August passed energy reform legislation with income tax changes affecting the oil & gas industry, including allowing companies to: Use different depreciation percentages than those in the income tax law Carry losses from certain deep-water contracts forward 15 years instead of the standard 10 years Expand the definition of a permanent establishment (PE) so that nonresidents performing activities under Mexico s Hydrocarbons Law for more than 30 days in a year will create a PE in Mexico The changes are effective prospectively for new contracts entered into on or after 11 August 2014

38 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: Panama 10 January repealed on a retroactive basis the worldwide income tax system enacted at the end of 2013 and reinstated its territorial income tax system (effective 31 December 2013) Peru 12 July suspended the application of its general antiavoidance rules for transactions occurring before 19 July 2012 Poland 16 September introduced a controlled foreign corporation (CFC) regime to tax foreign companies income at the direct and indirect shareholder level. Other changes include limiting the deductibility of interest on loans among related parties and lowering the debt-to-equity ratio under the thin capitalization rules. Changes are generally effective 1 January For calendar-year CFCs, the CFC changes are effective 1 January 2016

39 Legislative and other developments Changes in tax laws and rates Legislative developments continue to occur in 2014 and include: Spain 8 March enacted new rules under which certain cancellation of indebtedness income is nontaxable for Spanish corporate income tax purposes (effective 1 January 2014) U.S. Reminder Extenders such as CFC look-through rule, Subpart F active financing exception and research credit expired 31 December 2013 Deferred taxes should also be measured consistent with enacted tax law

40 Legislative and other developments Brazil Law 12,973 Conversion to IFRS-Based Tax Basis Broadest/deepest reform to Brazil s corporate income tax system since 1977 Revokes Transitory Tax Regime tax neutrality for statutory IFRS to Old Brazil GAAP differences effective January 1, 2015 (early adoption as of 1/1/2014) Mandatory conversion to IFRS-based tax basis on January 1, 2015 Conversion gains and losses for tax purposes Taxation of gains can be deferred ONLY IF accounted for/tracked in individual subaccounts Conversion losses are not deductible until realized and must be tracked New electronic 2014 tax return (ECF) requires cumulative IFRS-to- Old GAAP based tax basis differences as of January 1, 2014

41 Legislative and other developments Brazil Law 12,973 Conversion to IFRS Transition Profits and dividends accrued or paid during , can use the Old BR GAAP or BR IFRS Profits and dividends accrued in 2014 must be paid using the Old GAAP 2014 early adopters to use BR IFRS Interest on Net Equity deductions and equity pick-ups between 2008 and 2014 can use either the Old GAAP or BR IFRS

42 Legislative and other developments Brazil Law 12,973 CFC Rules Taxation now based on change in annual revaluation of investment in CFC for pretax profits excluding FX variations, FTC available Temporary provision for deferral of payment for up to 8 years Deferral for affiliates (e.g., minority interests) profits, no FTC Exemption for CFC/affiliate profits related to oil and gas operations in Brazil Double tax treaty s business profits art 7 override not addressed in new law Option to consolidate certain foreign subsidiaries and branches through 2022 Excludes tax havens, privileged/low tax regimes, and entities that fail 80% active income test Early adoption available as of January 2014

43 Base Erosion and Profit Shifting (BEPS) Developments On 16 September the Organization for Economic Co-operation and Development (OECD) released reports on 7 of 15 focus areas in the BEPS Action Plan: Action 1: Digital economy Action 2: Hybrid mismatch arrangements Action 5: Harmful tax practices of countries Action 6: Addressing treaty abuse Action 8: Transfer pricing for intangibles Action 13: CbC reporting and transfer pricing documentation Action 15: Multilateral instrument Releases endorsed at the September G20 Finance Ministers meeting, with countries committing to action in these areas Additional work on these 7 Actions will continue into 2015 on implementation guidance, technical details, and specific industry issues The OECD will issue output with respect to the remaining Actions in 2015 Increased country legislative/administrative activity in these areas is expected

44 Proposals we have our eye on International Australia proposed reducing the corporate tax rate to 28.5% from 30% for income tax years beginning after 1 July Other proposed changes include: Changing the thin capitalization rules and the exemption for certain foreign dividends Broadening the exemption from the nonresident capital gains tax Repealing the minerals resource rent tax, loss carrybacks for businesses and the deduction for geothermal energy exploration Limiting research and development incentives. In addition, the Government released a 3rd Exposure Draft released of the law to implement the final stage of the Australian Investment Manager Regime (IMR) for foreign widely held funds. The purpose is to exempt from Australian income tax gains or losses of an IMR foreign fund in relation to portfolio interests in equities and interests in other financial interests. Austria proposed narrowing the definition of interest under the corporate income tax code

45 Proposals we have our eye on International Costa Rica proposed eliminating income tax exemptions and preferential income tax rates for certain investment funds France proposed a two-step reduction in the standard corporate income tax rate to 28% from 33⅓% by 2020, with the first reduction in 2017 and the second one in 2020.

46 Proposals we have our eye on International India proposed changes to the Direct Taxes Code 2013 to permit taxation of indirect transfers of Indian assets. Other changes include adding a general anti-avoidance rule, expanding the sourcing rules for royalties and fees for technical services and applying a 15% dividend distribution tax to companies grossed-up net profits. It also proposed: Reinstating and making permanent the 15% reduced tax rate on foreign dividends Treating income from the transfer of securities held by certain investors as capital and other changes to the capital gain regime Changing the rules for determining whether a transfer price is reasonable Ireland invited the public to comment on how Ireland s domestic tax system should respond to international tax law changes, such as the OECD s Base Erosion and Profit Shifting project. Italy proposed increasing the withholding tax rate on certain dividends, interest and capital gains to 26% from 20%. The proposed increase would finance a reduction in the Italian regional tax on production activities.

47 Proposals we have our eye on International Kenya proposed amending the current definition of permanent establishment (PE) so it aligns with international standards. It also proposed, among other things, aligning the rules on relations between a PE and its head office with transfer pricing rules. For the oil and gas industry, it proposed replacing the current withholding tax system with an income tax based on assignment of rights. Peru as part of a larger package intended to promote investment in Peru, the Government proposed increasing the annual depreciation rate to 20% from 5% for taxpayers meeting certain requirements Philippines proposed reducing the 30% corporate income tax rate to 25% over three years, beginning on or after 1 January 2015.

48 Proposals we have our eye on International Russia proposed taxing the profits of certain controlled foreign corporations at either a 13% or 20% rate, depending on who controls them (i.e., a physical person or an organization). In addition, the Government proposed taxing foreign companies if they are tax resident in Russia and taxing income from the sale of certain indirect interests in immoveable property in Russia South Africa proposed easing restrictions on interest deductions for leveraged acquisitions. South Korea the Government proposed a new tax on accumulated earnings by certain large corporations, the tax rate would depend on which of the two methods a corporation uses to calculate the tax. Other proposals include lowering the debt-to-equity ratio for determining the deductibility of certain interest to 2:1 from 3:1.

49 Many thanks for your attention

50 Presenter Greg Boone Partner - Business Tax Services Direct Tel: Cell: greg.boone@ca.ey.com Greg is a tax partner in our Calgary office specializing in the area of accounting for income taxes. Greg has more than 14 years of combined industry and public accounting. Prior to joining EY, Greg held various financial reporting roles including managing the global tax accounting function of an SEC registered $10B multinational company. As a tax partner Greg advises clients on technical tax accounting matters under both IFRS and US GAAP, in addition to managing the tax provision audits of some of EY s largest clients in the energy market.

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