May 2014 Category Course title Author Accounting Income tax under FRS 102 Paul Gee. Disclaimer and Copyright

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1 May 2014 Category Course title Author Accounting Income tax under FRS 102 Paul Gee Disclaimer and Copyright Whilst every care has been taken in the preparation of this learning material we do not accept any liability resulting from reliance thereon. The material is intended to provide an understanding of a particular subject matter, not as specific advice directly applicable to your own or client's circumstances. This material may be printed out and used by the individual(s) with a subscription to the CCH e-cpd product, for the purpose of education and training. It may not otherwise be distributed, copied sold or used without the express written permission of Wolters Kluwer (UK) Ltd. Content Table 1. Introduction What is different? Deferred tax Timing differences and permanent differences Examples of timing differences and permanent differences Special requirements Recognition of deferred tax General considerations Tax losses Business combinations Measurement of deferred tax General requirement Revalued assets Tax rates Discounting Jurisdictions outside the UK Presentation Introduction Allocation in comprehensive income and equity Presentation in the statement of financial position Offsetting of deferred tax assets and deferred tax liabilities Disclosure requirements Accounting policy illustration deferred tax policy extract Transition issues section CCH Professional Development May 2014 Page 1/8

2 Income tax under FRS Introduction Section 29 deals with current tax (presently in UK Generally Accepted Accounting Principles (GAAP) Financial Reporting Standard (FRS) 16) and deferred tax (presently dealt with in FRS 19) Revised section 29 dealing with deferred tax adopts a Timing differences plus approach. One of the main differences compared with UK GAAP FRS 19 is that deferred tax will have to be recognised on fixed asset revaluations. Much of the original section 29 in the International Financial Reporting Standard (IFRS) for Small & Medium sized Entities (SMEs) has been completely re-written to keep it closer to existing UK GAAP. The section is much shorter and now contains only 3.5 pages, but it is a tricky section and contains some disclosure requirements which may require a lot of thought for some companies and groups. The comments below refer mainly to the deferred tax aspects of section What is different? Section 29 adopts a timing difference plus approach. One of the main differences compared with UK GAAP FRS 19 is that deferred tax will have to be recognised on fixed asset revaluations including: revaluation of investment properties under section 16 these are reflected in profit or loss; and revaluation of property, plant and equipment under section 17- these are reflected in other comprehensive income. There are also differences in respect of business combinations, for example those involving the acquisition of a number of assets where fair value adjustments are made. These could include freehold property or acquired intangibles not previously recognised in the financial statements of the acquiree. Deferred tax will need to be provided on these adjustments, together with a corresponding adjustment to the amount of goodwill Deferred tax Deferred tax is defined in the Glossary as income tax payable (recoverable) in respect of the taxable profit (tax loss) for future periods as a result of past transactions or events. Deferred tax assets are defined as income tax recoverable in future reporting periods in respect of: future tax consequences of transactions and events recognised in the financial statements of the current and previous periods; the carry forward of unused tax losses; and the carry forward of unused tax credits. CCH Professional Development May 2014 Page 2/8

3 Deferred tax liabilities are defined as income tax payable in future reporting periods in respect of future tax consequences of transactions and events recognised in the financial statements of the current and previous periods Timing differences and permanent differences Timing differences (a cornerstone of present UK GAAP requirements on deferred tax) are differences between: taxable profits; and the income and expense as stated in the financial statements (whether in profit or loss or in other comprehensive income) that arise from the inclusion of gains and losses in tax assessments in periods different from those in which they are recognised in financial statements. Permanent differences are defined in the Glossary as differences between an entity s taxable profits and its total comprehensive income as stated in the financial statements other than timing differences. Paragraph refers to permanent differences and states that deferred tax should not be recognised on permanent differences except for the circumstances in paragraph relating to business combinations Examples of timing differences and permanent differences Examples of timing differences include: Income accrued in the current period but taxed in the following period on a receipts basis; Provisions recognised in the financial statements in the current period, but allowed for tax when the expenditure is actually incurred; Depreciation charged in the current period but tax allowances are received in a different period; Unrelieved tax losses expected to be recoverable against future profits (see 29.7 relating to conditions to be satisfied); and Deferred tax differences that arise from the elimination of profits and losses resulting from intragroup transactions (see paragraph 9.15 FRS 102). Examples of permanent differences include: Fines for illegal acts; Customer entertaining; and General bad debt provision Special requirements Acquisitions of fixed assets Deferred tax shall be recognised when the tax allowances for the cost of a fixed asset are received before or after the deprecation of the fixed asset is recognised in profit or loss. CCH Professional Development May 2014 Page 3/8

4 If and when all conditions for retaining the tax allowances have been met, the deferred tax shall be reversed. Income or expenses from a subsidiary, associate, branch or interest in a joint venture Deferred tax shall be recognised when income or expenses from a subsidiary, associate, branch, or interest in a joint venture have been recognised in the financial statements and will be assessed to or allowed for a future period, subject to the following exception. The exception is where the reporting entity is able to control the reversal of the timing difference and it is probable that the timing difference will not reverse in the foreseeable future. An example might be where there are undistributed profits in a subsidiary, associate, branch or interest in a joint venture. 2. Recognition of deferred tax 2.1. General considerations Deferred tax is required to be recognised in respect of all timing differences at the reporting date, subject to provisos in respect of: tax losses where recovery is not probable see below (29.7); special situations where conditions are met which allow tax allowances to be retained see above (29.8); special situations relating to recognition of income or expenses from a subsidiary, associate, branch or interest in a joint venture see above (29.9); and business combinations (29.11) Tax losses These should be recognised only to the extent that it is probable that they will be recovered against the reversal of deferred tax liabilities or other future taxable profits. The existence of unrelieved tax losses is strong evidence that there may not be other future taxable profits against which the losses will be relieved. All available evidence should be considered including: historical information about financial performance and position; persuasive and reliable evidence to suggest that suitable taxable profits will be generated in future; and evidence that the tax losses result from an identifiable and non-recurring cause and the entity has otherwise been profitable over a long period. CCH Professional Development May 2014 Page 4/8

5 2.3. Business combinations This deals with the situations where the amount that can be deducted for tax for an asset (other than goodwill) that is recognised in a business combination is less (more) than the value at which it is recognised. In such situations, a deferred tax liability (asset) shall be recognised for the additional tax that will be paid (avoided) in respect of that difference. A deferred tax asset (liability) shall be recognised for the additional tax that will be avoided (paid) because of a difference between the value at which a liability is recognised and the amount that will be assessed for tax. The amount attributable to goodwill shall be adjusted by the amount of deferred tax recognised. 3. Measurement of deferred tax 3.1. General requirement Deferred tax should be measured using tax rates and laws that have been enacted or substantially enacted by the reporting date that are expected to apply to the reversal of the timing differences, apart from specific cases relating to revalued fixed assets Revalued assets For a revalued non-depreciable asset, tax rates applicable to the sale of the asset should be used. For an investment property measured at fair value, tax rates applicable to the sale of the asset should be used, except for an investment property with a limited useful life and held within a business model whose objective is to consume substantially all of the economic benefits embodied in the property over time Tax rates When different tax rates apply to different levels of taxable profit, deferred tax should be measured using the average enacted or substantially enacted rates expected to be applicable Discounting Discounting of current or deferred tax assets or liabilities is not permitted Jurisdictions outside the UK Paragraph refers to special considerations which may apply these are not further referred to in these notes. CCH Professional Development May 2014 Page 5/8

6 4. Presentation 4.1. Introduction FRS 102 deals with the following presentation issues: allocation in comprehensive income and equity; presentation in the statement of financial position; and offsetting of deferred tax assets and deferred tax liabilities Allocation in comprehensive income and equity Changes in a current tax liability (asset) and changes in a deferred tax liability (asset) are to be treated as tax expense (income) with one exception relating to the initial recognition of a business combination. The tax expense should be presented in the same component of comprehensive income (i.e. continuing or discontinued operations) or equity as the transaction or other event that resulted in the tax expense (income) Presentation in the statement of financial position Deferred tax liabilities should be presented within provisions for liabilities. Deferred tax assets should be presented within debtors 4.4. Offsetting of deferred tax assets and deferred tax liabilities Offset between deferred tax assets and deferred tax liabilities is only permitted if: The entity has a legally enforceable right to set off the current tax asset against current tax liabilities; and The deferred tax assets and the differed tax liabilities relate to income taxes levied by the same taxation authority on either: o o the same taxable entity; or different taxable entities which intend either to settle current tax liabilities and assets on a net basis, or to realise the assets and settle the liabilities simultaneously, in each future period in which significant amounts of deferred tax liabilities or assets are expected to be settled or recovered. 5. Disclosure requirements The main disclosure requirements are: Separate disclosure of the major components of tax expense (paragraph 29.26); The aggregate current and deferred tax relating to items that are recognised as items of other comprehensive income or equity; A reconciliation between the tax expense (income) included in profit or loss; and the profit or loss on ordinary activities before tax multiplied by the applicable tax rate; CCH Professional Development May 2014 Page 6/8

7 Note this is not the same as FRS 19 paragraph 64 which requires a reconciliation to the current tax charge (or credit) on ordinary activities for the period reported in the profit and loss account. FRS 19 refers to current tax, whereas FRS 102 refers to the tax expense (i.e. total of current tax and deferred tax). The amount of the net reversal of deferred tax assets and deferred tax liabilities expected to occur during the year beginning after the reporting period together with a brief explanation for the expected reversal; An explanation of changes in the applicable tax rate(s) compared with the previous reporting period; The amount of deferred tax liabilities and deferred tax assets at the end of the reporting period for each type of timing difference and the amount of unused tax losses and tax credits; and The expiry date, if any, of timing differences, unused tax losses and unused tax credits. 6. Accounting policy illustration deferred tax policy extract Taxes Income taxes include all taxes based upon the taxable profits of the company. Other taxes not based on income, such as property and capital taxes, are included within operating expenses or financial expenses according to their nature. Deferred tax is recognised in respect of all timing differences that have originated but not reversed at the reporting date and which will result in an obligation to pay more, or a right to receive less, tax. Provision is made for deferred tax on gains arising from revaluation and similar fair value adjustments of fixed assets. Deferred tax assets are recognised only to the extent that the directors consider that it is more likely than not that there will be suitable taxable profits from which the future reversal of the underlying timing differences can be deducted. Deferred tax is measured on an undiscounted basis at the tax rates that are expected to apply in the periods in which the timing differences reverse, based on tax rates and laws that have been enacted, or substantially enacted, by the reporting date. 7. Transition issues section 35 Paragraph 35.7(a) FRS 102 requires an entity to recognise in its opening statement of financial position as at transition date all assets and liabilities whose recognition is required by FRS 102: this would include deferred tax relating to assets included at fair value and deemed cost at transition date. CCH Professional Development May 2014 Page 7/8

8 Any adjustment required should be recognised directly in retained earnings in accordance with paragraph 35.8 FRS 102. Changes in accounting policy on transition to FRS 102 may have deferred tax implications, requiring separate presentation in the reconciliations required by para of FRS 102: Adjustment to equity at transition date; Adjustment to equity at previous reporting date; and Adjustment to income for the previous reporting period CCH Professional Development May 2014 Page 8/8

December 2013 Category Course title Author Accounting Transition to the new UK GAAP, FRS 102 Paul Gee. Disclaimer and Copyright

December 2013 Category Course title Author Accounting Transition to the new UK GAAP, FRS 102 Paul Gee Disclaimer and Copyright Whilst every care has been taken in the preparation of this learning material