Managing the Indirect Tax Balance Sheet

Transcription

1 Managing the Indirect Tax Balance Sheet Colleen Freeburg General Motors Detroit Bruce Goudy Bruce Goudy Professional Corporation Toronto Sinead Hughes PwC Chicago

2 OVERVIEW Indirect Tax Liabilities Loss Contingencies Recognition & Disclosure Gain Contingencies Indirect Taxes Management Dashboards Basic Diagnostics 2

3 ASC 450 CONTINGENCIES 3

4 What is ASC 450 (FAS 5)? Requires a corporation to record a liability in anticipation of a judgment against it or a settlement when certain conditions are met Requires corporations to disclose the existence of a specific contingency in their financial statements Previously in Statement of Financial Accounting Standards (SFAS) No. 5 4

5 What is a Contingency? An existing condition, situation or set of circumstances involving uncertainty regarding potential loss or impairment of an asset or gain that will ultimately be resolved when one or more future events occur or fail to occur. e.g., awaiting a court decision regarding an indirect tax appeal 5

6 Loss Contingency vs Estimated Accrual Obligation to pay an amount is certain Not dependent on the occurrence of a future event to confirm the liability No plans to dispute the obligation e.g., the amount of tax short-paid as a result of a clerical error on a prior importation Uncertainty about the amount of an estimated accrual does not make it a loss contingency 6

7 Likelihoods of Loss Three likelihood categories that a loss or impairment of asset has occurred at the date of financial statements (which will be resolved once a future event occurs) PROBABLE Loss is likely to be confirmed by future event Higher threshold than IFRS more likely than not (more than a 50%) REASONABLY POSSIBLE Risk of loss or impairment is between Probable and Remote REMOTE Risk of loss is slight 7

8 Recognition and Disclosure Accrual for a loss contingency is required if both conditions met: Probable It is probable that a liability has been incurred or that an asset has been impaired at the date of the financial statements Reasonably estimated The amount of indirect tax contingent loss can almost always be reasonably estimated 8

9 Assessing Likelihood Qualitative and quantitative factors to consider: 1. Nature of the lawsuit, claim or assessment, 2. Progress of the case (including developments after the date of the financial statements but before those statements are issued), 3. Opinions or views of internal tax counsel and other advisers, 4. Experience of the entity in similar cases within that jurisdiction, 5. Experience of other companies in similar cases, and 6. Any decision by management as to how the entity intends to respond to the lawsuit, claim or assessment (for example, whether the Corporation plans to defend vigorously or seek settlement). 7. Detection risk? 9

10 ASC 450 Decision Tree Start No Accrual Probable? NO Reasonably Possible? NO --- No Disclosure YES YES Reasonably Estimable? NO Disclosure Required YES Accrual Required 10

11 Releasing Tax Reserves Reserves should be released when the liability or contingency has been cleared Payment of liability Audit finalized Statute closed New relevant information 11

12 Example 1 Recognition & Disclosure Company A is a defendant in an indirect tax lawsuit and concludes that an adverse judgment would be approximately $1 million. However, you estimate that the chance of losing is 40%. In such case, the accrual should be: A. $400,000 B. $0 C. $1 million D. None of the above Suggested Answer: B) $0 The estimated probability of an adverse outcome is only 40%, so likelihood of loss is not Probable (it is Reasonably Possible) and no accrual is required (although consideration should be given as to whether disclosure is required). However, if settlement negotiations are anticipated and settlement becomes Probable, Company A should accrue an amount for the settlement **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 12

13 Example 2 Recognition & Disclosure Company A is a defendant in an indirect tax lawsuit. You conclude that an adverse judgment would be approximately $1 million. You also conclude the likelihood of loss is 80%. In such case, the accrual should be: A. $800,000 B. $0 C. $1 million D. None of the above Suggested Answer: C) $1 million Whether a risk ultimately falls into the Probable range is dependent upon the circumstances of the case. There must be a substantial basis to believe Company A will lose the case to conclude that likelihood of loss is Probable. **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 13

14 Example 3 Differing Expert Opinions Company A is planning to hire an attorney to handle its VAT case. Company A has obtained the following opinions from these attorneys: - Attorney % chance of success - Attorney % chance of success - Attorney % chance of success Company A should: A. Book a reserve B. Disclose the fact that there is a potential liability C. Hire Attorney 3 and not reserve Suggested Answer: B) Company A should disclose the fact that there is a potential liability **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 14

15 Example 4 Audit Risk Company A is a financial services company established in the UK. Further to seeking a formal opinion from a professional services firm, and based on known industry practice, Company A has taken the position that its new financial services product should qualify as a VAT exempt service, based on its interpretation of UK VAT legislation and as such should not be subject to VAT. HMRC has recently published guidance notes which clarifies its view that, based on the interpretation of UK VAT legislation, it is of the view that the specific financial services products being sold by Company A do not meet the conditions for VAT exemption as per the relevant section in the UK VAT legislation. Company A has not been audited in the last 4 years. If audited, an assessment and negative outcome is probable (although the company is currently unable to estimate the potential amount of any assessment). Company A should: A. Not book a reserve or disclose B. Book a reserve C. Disclose the fact that there is a potential liability Suggested Answer: C) Company A should disclose the fact that there is a potential liability **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 15

16 Example 5 Recognition & Disclosure HMRC conducts an audit of Company A and raises a VAT assessment of USD 5m in respect of underpaid VAT. HMRC is of the view that Company incorrectly applied a reduced rate of VAT on the sale of its products in the UK. Company A is of the view that its products qualify under the reduced rate of VAT. Company A intends to appeal the assessment to HMRC. Company A concludes that it has a 60% chance of success in its appeal. Should company A be required to: A. Disclose its position in a note to the financial statements B. Accrue for the potential underpaid VAT C. Not disclose the issue as a contingent liability in the financial statements Suggested Answer: A) Company A should likely be required to disclose the issue as a contingent liability in the financial statements **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 16

17 Example 6 Settlement Offers Company A is litigating a USD 5m assessment issued by HMRC. Company A has not booked a reserve or disclosed this liability. To obtain closure Company A has proposed a USD 1m settlement. HMRC has countered with a USD 3m offer. Both offers have been rejected. Company A should: A. Book a USD 1m tax reserve B. Not book a reserve but disclose the offers C. Not book a reserve or disclose Suggested Answer: A) Company A should book a USD 1m reserve in its accounts **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 17

18 Example 7 Customer Indemnifications Company A is protesting an audit assessment. Counsel has opined that it is probable that Company A will lose its appeal. Company A has a tax indemnification provision in its customer contracts that it plans to invoke. Company A should: A. Book a tax reserve B. Not book a reserve but disclose the facts C. Not book a reserve or disclose Suggested Answer: C) Company A should not be required to book a reserve or disclose the facts assuming: A. It is probable that collection will occur B. The amount of the liability is not considered material, otherwise disclosure (but not accrual) appropriate **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 18

19 Example 8 Calculating Accrual Amount Company A is protesting an audit assessment. Counsel has opined that it is probable that Company A will lose its appeal. Company A has estimated a VAT liability of USD 1m, interest of USD 300k and a penalty ranging from USD 50k USD 100k (to be negotiated with the tax authorities although probable penalty will be imposed). What amount should Company A disclose as a contingent liability? A. USD 1m B. USD 1.35m C. USD1.4m Suggested Answer: B) Accrued interest should be included in the reserve and penalties should also be included if probable they will arise. Where the estimate falls within a range it is permissible to disclose the lower amount. **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 19

20 Gain Contingency Recognition Recognize as revenue only upon settlement of underlying event virtual certainty (e.g., funds received) Disclosure re nature of gain is allowable No misleading statements re likelihood of success 20

21 Example 1 Gain Contingency Company A is engaged in both VAT taxable and exempt supplies of services. Company A has not, up to now, deducted any VAT on its expenses as it did not have the data required to calculate a VAT recovery apportionment. Company A sourced the relevant data to calculate its VAT recovery rate in previous years. It submits a VAT reclaim to the local tax authority for USD 1m, based on apportionment guidelines issued by the local tax authority Should Company A disclose a contingent gain in its financial statements? Suggested Answer: Yes, as Company A is legally entitled to a VAT refund which is prepared based on guidelines issues by the local tax authority Is Company A entitled to record a tax asset at the time the claim is submitted? Suggested Answer: No, Company A should not record a tax asset until it receives confirmation from the local tax authority that the VAT amount will be refunded **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 21

22 Example 2 Asset Recognition Company A has filed a foreign VAT reclaim with the UK tax authorities for USD 1m. As at year end, the claim is still being processed and Company A has not received any correspondence from the UK tax authorities. When should company A book an asset of USD 1m in its financial statements: A. At the time the claim is filed B. At the time notification of approval of the claim is received from the tax authorities C. At the time the funds are received into Company A s bank account Suggested Answer: C) **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 22

23 Example 3 Asset Impairment Company A has recorded ICMS credits as an asset on its balance sheet based on an ICMS incentive granted by a certain State in Brazil. However the incentive is not in accordance with Federal tax legislation. More recently, the Brazilian president rejected a plea to regularize such tax incentives. The Federal government is due to release a statement regarding their formal position on the ICMS incentive. Company A has received a legal opinion from a Brazilian law firm which states that it is probable that the ICMS credits will be rejected. Should Company A be required to impair its tax asset? Suggested Answer: Company A should impair once it can reasonably estimate the FV of the revised credits **Note these are suggested answers and are dependent on the exact circumstances of the case and the organization s policy with regard to FAS 5 disclosures, etc. 23

24 Netting Assets & Liabilities Optional for US GAAP even if all conditions are met company accounting policy required Assets and liabilities cannot be netted unless business has ability and intent to offset those amounts against each other upon settlement Examples where netting not appropriate Separate VAT registrations ITC not available until VAT paid to suppliers Discrete refund claims (8 th & 13 th directives) Amounts in dispute with tax authorities 24

25 Indirect Tax Incentives Incentives administered through indirect taxes e.g., reduced rates, interest free or low interest loans, deferred submission of tax collected for building a manufacturing facility Have all conditions of the grant been considered when accounting for it? (i.e., recognize benefit, any liability for claw-back provisions) Reasonable assurance that all conditions will be met is sufficient for recognition 25

26 Indirect Tax Indemnities Contingent liability of Company A to compensate another party if taxes become payable by the other party Contingent liability of another party to compensate Company A if taxes become payable by Company B Generally applicable to purchase or disposition of assets/business 26

27 Roles and Responsibilities Depends upon the Company roles & responsibilities Tax Accounting may be split between the Accounting and Tax Teams Responsibilities extend to import duties, property taxes, etc. that may not be responsibility of tax staff Global, regional & central roles 27

28 Establishing Reserves Identify what is important to the company (accuracy, budgeting, timing) Identify risk areas Systems limitations, frequency of law changes, changes in supply chains/business operations Business acquisitions Mitigate risk areas VDA s, ruling requests, remediation of known issues Document positions 28

29 INDIRECT TAX DASHBOARDS & DIAGNOSTICS 29

30 Indirect Tax Dashboards Present big picture Highlight key risks / opportunities Limit distractions Ability to expand / drill down to details Leverage relevance to other users Global vs regional, tax types, etc. Easily refreshed month over month in a timely manner 30

31 Key Elements To Consider User s needs for Balances Cash Flows Costs Throughput Tax Types 31

32 Indirect Tax Assets Key Asset Categories Refunds Submitted, Pending Refund Accrued Refunds, Not Yet Submitted Net unused input credit carryforwards Prepayments Deposits 32

33 Indirect Tax Asset Dashboard Age and Forecast Current/ Noncurrent Tax Type Refunds filed pending refund / not yet filed Prepayments Deposits Contingent gains Forecast receipt / offset date 33

34 Indirect Tax Assets Dashboard 34

35 Example Ageing Overview 35

36 Ageing of Indirect Tax Assets Periods should be relevant 0-90, , >180 Factor to assessing risk of non-collection & potential impairment of asset Direct effect on cash flow burden 36

37 37

38 Indirect Tax Liability Dashboard Need ability to capture information globally re Tax payable charged to others self-assessed / owing by business Input credits Adjustments (P&L) & Transfers (B/S) Payments Contingent Losses Payment due date / forecast 38

39 Basic Indirect Tax Diagnostics Reasonability / Trends Payment = prior month liability Debit entries using tax collected accounts Credit entries using input credit and payment accounts/codes Debit balances in liability accounts Credit balances in asset accounts Netting Reconciliations 39

40 Example Liability Balances 40

41 QUESTIONS? 41