Financial Reporting Alert

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1 2014 Issue No. 4 March 2014 Financial Reporting Alert For publicly accountable entities Key points from the February 2014 IFRS Discussion Group IFRIC 21, Levies Our Financial Reporting Alerts cover significant news, regulatory developments and changes that affect Canadian publicly accountable entities. They act as technical summaries to keep you on top of the latest issues. For more information, please contact your EY advisor. If you are dealing with issues described in the following pages, please consult your professional advisor for current advice on the application of IFRS. The following is a summary of the issues discussed at the IFRS Discussion Group s (IDG s) 26 February 2014 meeting. This IDG meeting was devoted to a discussion on the potential accounting implications of IFRIC 21, Levies. IFRIC 21, Levies: general application IFRS Interpretations Committee (IFRIC) 21, Levies, provides guidance on accounting for a liability to pay levies in accordance with the requirements of IAS 37, Provisions, Contingent Liabilities and Contingent Assets. This Interpretation is effective for annual periods commencing on or after 1 January 2014 and is to be applied retrospectively in accordance with IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors. The IDG members discussed the scope of IFRIC 21, highlighting that the term levy is not commonly used in a Canadian context and, as such, many have incorrectly assumed IFRIC 21 has a very narrow scope. Instead, the scope of IFRIC 21 is potentially very broad and may include a wide range of payments that are made to governments. The IDG members described a potential framework to follow in order to assess whether a payment made to a government is within the scope of IFRIC 21. A payment made to a government that meets the following criteria is within the scope of the interpretation:

2 The payment must be imposed by a government (government is defined as government, government agencies and similar bodies whether local, national or international) The payment must be pursuant to legislation The payment must be non-reciprocal (i.e., a payment made for the acquisition of an asset, or for the rendering of services under a contractual agreement with a government, does not meet the definition of a levy as noted in paragraph 5 of IFRIC 21) The payment cannot be in the scope of another standard (e.g., a payment in scope of IAS 12, Income Taxes, or IAS 19, Employee Benefits, is not in scope of IFRIC 21) Payments for fines or penalties imposed for breach of legislation are not in scope of IFRIC 21 When assessing whether payments are nonreciprocal, members noted that judgment may be required to determine if the payment of a levy results in the acquisition of an asset, depending on the nature of the levy and the activity that gives rise to the obligation. For payments determined to be within the scope of IFRIC 21, the IDG then discussed the timing of recognition of the liability to pay the levy. IFRIC 21 specifies that the activity that triggers payment in the legislation is the obligating event, which determines the point at which the liability for payment of the levy is recognized. The IDG discussed two examples to help illustrate the obligating event: Progressive levy: an entity may be obligated under the legislation to pay a levy calculated as a percentage of revenues in the current year. Under IFRIC 21, the obligation to pay the levy would generally be recognized progressively as the revenues are earned. Point in time levy: an entity may be obligated under the legislation to pay a levy in full on a particular date. For example, an entity may be required to pay a levy as a result of operating in a specified industry at the end of the annual reporting period and the levy is calculated based on the assets in the statement of financial position on that date. In this example, under IFRIC 21, the obligation to pay the levy would generally be recognized in full on the last day of the annual reporting period. The IDG discussed the following questions, which must be applied when determining the timing of recognition of a liability to pay a levy: Does economic compulsion to continue to operate in a future period create a constructive obligation to pay a levy that will be triggered by operating in that future period? Members noted IFRIC 21 paragraph 9 establishes an entity does not have a constructive obligation to pay a levy that will be triggered by operating in a future period as a result of the entity being economically compelled to continue to operate in that future period. Does the going concern assumption imply that an entity has a present obligation to pay a levy that will be triggered by operating in a future period? Members noted IFRIC 21 paragraph 10 establishes the preparation of financial statements under the going concern assumption does not imply that an entity has a present obligation to pay a levy that will be triggered by operating in a future period. IDG members noted that it is necessary to reassess the timing of recognition of a levy in both annual and interim financial statements to determine whether the guidance in IFRIC 21 would alter the timing of recognition employed prior to adoption of IFRIC 21. Key points from the February 2014 IFRS Discussion Group 2

3 Finally, IDG members highlighted certain industries that may be disproportionately impacted by IFRIC 21: Mining/oil and gas/resources These industries make a variety of payments to governments (e.g., royalties and taxes not otherwise in the scope of IAS 12) that may be in scope of IFRIC 21 and for which the timing of recognition may be impacted by IFRIC 21. Telecom/media and entertainment/ broadcasting There are a number of fees required by the Canadian Radio-television Telecommunication Commission (CRTC). Because the CRTC is a government agency, such fees will need to be analyzed to determine whether they are within the scope of IFRIC 21 and whether their timing of recognition is impacted. Financial institutions Financial institutions pay a number of fees to governments and government agencies (e.g., capital tax, Canadian Deposit Insurance Corporation fees and other amounts). Again, each of these fees must be analyzed to determine whether they are in scope of IFRIC 21 and whether their timing of recognition is impacted. The IDG members noted that this list is not exhaustive and, given the number of payments Canadian organizations make to governments, all entities following IFRS will need to perform a thorough analysis. Group members noted the complexity of applying the requirements in IFRIC 21. Members reiterated the term levy in IFRIC 21 is causing some confusion because there are numerous items within scope that are not called a levy (e.g., royalties, taxes, etc.). Members observed that this confusion may have resulted in some preparers inappropriately concluding that IFRIC 21 does not apply to their circumstances. Group members emphasized the importance of reviewing all clauses in the applicable legislation in the context of applying IFRIC 21 to avoid missing vital pieces of information that could affect the analysis and assessment of the requirements in IFRIC 21. The considerations and steps described in the summary above provide a good roadmap to follow for applying IFRIC 21. Group members observed that it is important for preparers and auditors to stay up to date on this topic, as additional interpretive guidance and clarifications may become available as global adoption of IFRIC 21 progresses. Action: IDG members discussed this issue in order to raise awareness in Canada. No further action was deemed necessary. IFRIC 21, Levies: property taxes As noted in the first issue discussed by the IDG above, IFRIC 21, Levies, provides guidance on accounting for levies in accordance with the requirements of IAS 37, Provisions, Contingent Liabilities and Contingent Assets. This Interpretation is effective for annual periods commencing on or after 1 January 2014 and is to be applied retrospectively in accordance with IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors. IDG members were asked to comment on the application of IFRIC 21 to municipal property taxes in Canada. Municipalities in Canada have the power through legislation to levy property taxes. Property taxes are generally levied on a property situated within the boundaries of a municipality and are determined with reference to the underlying property s value. Given that property taxes are non-reciprocal charges imposed by a government, in accordance with legislation and are based on property value (and as such are not within the scope of IAS 12 or any other standard), property taxes are within the scope of IFRIC 21. Key points from the February 2014 IFRS Discussion Group 3

4 IDG members were asked to consider when a liability to pay property taxes should be recognized in accordance with IFRIC 21 in Canada based on some of the requirements that may be found in Canadian municipal tax legislation. IDG members were also asked to consider the accounting for the debit side of the entry when accounting for property taxes. Some of the typical features of Canadian property tax legislation presented to the IDG members for purposes of the discussion were as follows: Deemed imposition: taxes imposed for a year are deemed to have been imposed and to be due on 1 January of the year unless the bylaw imposing the tax provides otherwise. Taxes may be recovered with costs as a debt due to the municipality from the taxpayer originally assessed for them and from any subsequent owner of the assessed land or any part of it. [emphasis added] Property owners may apply for a reduction in property taxes for a change in class of a property, land becoming vacant, demolition or destruction of a building and several other circumstances. Any adjustment to the property taxes assessed as a result of a change in use of the property is retrospective to the day in the year that the change in use occurred. It is important to note that the above typical features were those presented to the IDG members for purposes of the discussion. However, before concluding on the impact of IFRIC 21, it is necessary that preparers and auditors determine the actual features of the specific Canadian municipal property tax legislation relevant to the property in question. Issue 1: Timing of recognition of a liability to pay property taxes The IDG members discussed two alternatives with regard to the appropriate timing of recognition of a liability for property taxes under IFRIC 21 in Canada. The two alternatives are a result of the fact that the relevant Canadian municipal legislation is often somewhat ambiguous as to what the triggering event is for property taxes and at what point they become unavoidable. The legislation also varies across the country. The two alternatives discussed were as follows: View 1A The liability to pay property taxes should generally be recognized at a point in time. Canadian municipal tax legislation may have clauses that impose property taxes on the owner of a property on, or as of, a specific date (or dates) in the year. As noted in the typical Canadian property tax legislation clauses above, property taxes are deemed to be imposed on 1 January of each year. Additionally, the municipality can recover those taxes from either the current owner or the original owner who was assessed the property taxes. Under this view, when a property is owned throughout the year, a liability for annual property taxes should be recognized on the later of 1 January and the date of the assessment. In this scenario, one would need to determine what is meant by assessed and further determine the timing of the assessment in order to determine the specific date on which the liability to pay the property tax levy should be recognized. Once recognized, the liability would be based on the property owner s estimate of the property tax for the year, and would be adjusted prospectively once the amount of the levy is finalized. View 1B The liability to pay property taxes should generally be recognized ratably throughout the year. Under this view, the obligating event occurs ratably throughout the year. Canadian property tax legislation does not clearly define a single obligating event that gives rise to a liability to pay the annual levy on a specific date. More specifically, after considering all pieces and aspects of municipal tax legislation (including the Key points from the February 2014 IFRS Discussion Group 4

5 municipal act and municipal bylaws as well as the rules and practices governing the assessment, billing and payment processes, including available instalment elections), it may not be possible to identify a single specific date at which one is obligated for an entire year s property taxes and, as such, at any date within the year, the only amount of property taxes that an owner can reasonably estimate they are liable for is a pro-rata estimate of annual property taxes based on the number of days of ownership. Also, as noted in one of the typical features described above, the relevant legislation may incorporate property classifications by type of use, supplementary assessments for changes in use or condition from the change in use or condition date, and mechanisms to refund taxpayers on a timely basis if the property s specified use or condition is not met continuously over the annual assessment period. This further indicates the activity that gives rise to the obligation to pay property taxes starts on 1 January and includes being the owner of the property in a specific condition and use over the year. The Group s discussion Group members noted that it is difficult to apply IFRIC 21 to property tax legislation. However, group members generally supported View 1B based on the specific facts and circumstances described above. Members emphasized that the two views described above are not an accounting policy choice but instead one must determine the appropriate view based on an analysis and interpretation of the specific Canadian property tax legislation relevant to the property in question. However, group members noted that based on their understanding of the typical features of Canadian municipal property tax legislation and the ambiguity that is likely to exist around a single obligating event date when all pieces and aspects of the relevant legislation are considered, it may be difficult to clearly justify one view as more appropriate than the other. However, group members further commented that despite this ambiguity, diversity in practice is unlikely to occur for Canadian property taxes, as many preparers and auditors seem to support View 1B based on their understanding of the context in which property taxes are levied in Canada. Group members also noted foreign jurisdictions may have different legislation, which could lead to a different result than that described above for Canadian municipal property taxes. Entities will have to identify and perform an analysis of the applicable legislation in the relevant foreign jurisdictions to fully assess the impact of IFRIC 21. Group members also observed it is important for preparers and auditors to stay up to date on this topic, as additional interpretive guidance and clarifications may become available as global adoption of IFRIC 21 progresses. Issue 2: Accounting for the debit side of the entry The second issue the IDG members discussed related to the accounting for the debit side of the entry when recognizing a liability to pay property taxes. IFRIC 21 does not address the accounting for the debit side of the entry when recording a levy. IFRIC 21 only addresses when to recognize a liability to pay a levy. However, paragraph 14 of IFRIC 21 requires that an entity recognize an asset if it has prepaid a levy but does not yet have a present obligation to pay that levy. As such, under View 1B above, one would record a prepaid asset when property taxes have been paid to the municipality in excess of the amount of the obligation based on the pro-rated number of days of ownership during the year. Under View 1A above, when a liability for a full annual property tax levy arises on a specific date, the issue arises as to where the debit side of the entry would be recorded when the liability to pay the levy is recognized. Key points from the February 2014 IFRS Discussion Group 5

6 The IDG discussed two potential views: View 2A Property taxes should generally be expensed (unless recognized as an asset in accordance with another standard, such as property, plant and equipment under construction). Under this view, property taxes should be expensed because there is no clear future economic benefit to be received by an owner as a result of paying the property taxes. Any services received as a result of paying municipal property taxes (such as sewage, garbage removal, policing, etc.) are generally indirectly received, and therefore recognition of an asset in consideration of the services to be received throughout the year would not be appropriate. The indirect services to be received in exchange for the property taxes are equally available to those who may have property taxes in arrears. Given that there is no clear direct future economic benefit to be received by an owner that has paid property taxes, the recognition of an asset would be inappropriate. View 2B Recognize a right to use asset. Under this view, one would record a liability for property tax on a specific date but also record an asset in relation to the right to use the property for the remainder of the year. Under this view, the payment of property taxes is considered to provide the owner with the continuing right to use the property over the year. Where property taxes go unpaid, the municipality has the right to put a lien on the property and ultimately sell the property to cover the unpaid property taxes. As such, an intangible asset representing the right to use the property would be recorded when the liability to pay property taxes is recognized and this asset would be amortized over the remainder of the property tax year. The Group s discussion The majority of group members supported View 2A. Members concluded that it is difficult to support the view that the payment of property taxes generates an asset because it is a non-reciprocal transaction. Action: Group members considered whether a formal recommendation should be made to the Canadian Accounting Standards Board to refer these issues to the International Accounting Standards Board or the IFRS Interpretations Committee. Although the Group s discussion demonstrated the practical difficulties in applying IFRIC 21 to property taxes, members could not identify what part of IFRIC 21 could be clarified. Therefore, the Group decided that no formal action should be taken at this time. About the IDG The Canadian Accounting Standards Board (AcSB) formed the IFRS Discussion Group (IDG) to help Canadian Organizations apply IFRS. The IDG discusses IFRS issues raised by constituents and recommends to the AcSB which issues should be brought to the attention of the International Accounting Standards Board (IASB) or the IFRS Interpretations Committee (IFRS IC) for further guidance. The IDG also discusses issues raised by constituents with the sole intent of raising awareness of emerging issues in the Canadian accounting landscape. Members of the public are encouraged to submit issues in writing to the IDG six weeks in advance of each meeting. The meetings are open to the public and are recorded. Official summaries of the public meetings and the recordings of discussions are posted on the AcSB s website at frascanada.ca and can be found through the use of the recently updated IDG issues searchable database. IDG discussions are non-authoritative interpretations of IFRS and do not comprise consensus positions of the IDG. Participants comments represent their personal views. The matters discussed may be subject to further deliberation by the IFRS IC, the IASB or other parties. Therefore, the views described in this document may not remain current or relevant. Key points from the February 2014 IFRS Discussion Group 6

7 IDG members The IDG was established in 2009 by the AcSB and consists of auditors, preparers and regulators. Current members Chair: Karen Higgins, Deloitte & Touche LLP, Toronto Vice Chair: Jim Saloman, PricewaterhouseCoopers LLP, Toronto Murad Bhimani, MNP LLP, Toronto Joanne Boyes, PotashCorp, Saskatoon Sophie Bureau Richard Burton, McCain Foods Limited, Toronto Armand Capisciolto, BDO Canada LLP, Sault Ste. Marie Benoît Caron, Canada Post Corporation, Ottawa Clair Grindley, Deloitte & Touche LLP, Toronto Guy Jones, EY, Toronto Arvind Kamath, Scotiabank, Toronto Sylvie Meloche, Ivanhoe Cambridge Inc., Montreal Orest Pyshniak, The Brick Ltd., Edmonton Marilyn Stitt, KPMG LLP, Toronto Patricia Walters, Texas Christian University, Fort Worth Representatives of the Canadian Securities Administrators Lara Gaede, Alberta Securities Commission, Calgary Cameron McInnis, Ontario Securities Commission, Toronto Canadians serving on IASB committees Paul Cherry, Chair, IFRS Advisory Council Reinhard Dotzlaw, Member, IFRS Interpretations Committee Jean Pare, Member, IFRS Interpretations Committee AcSB representatives Linda Mezon, AcSB Chair, Toronto Kathryn Ingram, AcSB Staff, Toronto Learn more For more information on these and other financial reporting developments, please contact your EY advisor or one of the following professionals: Tom Kornya Canadian Assurance Leader Eastern Canada Sonya Fraser Quebec Luc Bédard Caroline Phisel Ontario Laney Doyle Guy Jones Blaine Hertzberger Blake Langill Elizabeth Maccabe Deanna Monaghan Boris Pavlin George Prieksaitis Eric Spiekman Winnipeg Mark Single Saskatoon Sam Whittaker Calgary Matt Bootle Elena Bowes Tammy Thompson Kerry Clark Key points from the February 2014 IFRS Discussion Group 7

8 Edmonton Ross Haffie Vancouver Allan Russell EY Assurance Tax Transactions Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization and may refer to one or more of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. About EY s IFRS group The move to International Financial Reporting Standards (IFRS) is the single most important initiative in the financial reporting world, the impact of which stretches far beyond accounting to affect every key decision you make, not just how you report it. We have developed the global resources people and knowledge to support our client teams. And we work to give you the benefit of our broad sector experience, our deep subject matter knowledge and the latest insights from our work worldwide. It s how Ernst & Young makes a difference. For more information, visit ey.com/ca/tax Ernst & Young LLP. All Rights Reserved. A member firm of Ernst & Young Global Limited. This publication contains information in summary form, current as of the date of publication, and is intended for general guidance only. It should not be regarded as comprehensive or a substitute for professional advice. Before taking any particular course of action, contact Ernst & Young or another professional advisor to discuss these matters in the context of your particular circumstances. We accept no responsibility for any loss or damage occasioned by your reliance on information contained in this publication. ey.com Key points from the February 2014 IFRS Discussion Group 8