Re: Short-Term Income Tax Convergence Project--Intraperiod Tax Allocation

Transcription

1 Deutsche Bank Sir David Tweedy Internatinal Accunting Standards Bard 30 Cannn Street Lndn EC4M 6XH United Kingdm Mr. Rbert Hertz Financial Accunting Standards Bard 401 Merrit 7 P.O. Bx 5116, Nrwalk, Cnnecticut USA Letter f Cmment N: L1 File Reference: 1202ITU June 20, 2005 Re: ShrtTerm Incme Tax Cnvergence PrjectIntraperid Tax Allcatin Dear Sirs: Deutsche Bank (DB) is writing this letter t express ur cncern regarding the recent jint decisin f the IASB and the FASB nt t change the intraperid tax allcatin requirements f FAS 109 and t amend las 12 t cnfrm t the requirements f FAS 109. DB is the largest bank in Germany and ne f the largest financial institutins in Eurpe and the wrld with ttal assets f 840 billin as f December 31, We supprt the Bards' effrts t achieve cnvergence in the accunting fr incme taxes n a shrtterm basis and nte that significant prgress has been made in this area. Hwever, it seems that the decisin t cnfrm certain aspects f the intraperid tax allcatin by retaining the requirements f FAS 109 and amending las 12 was dne purely t facilitate cnvergence and nt based n a full cnsideratin f the merits f the apprach. We understand that bth Bards find cnceptual merit t the las 12 apprach, described in paragraphs 60 t 63, but reached their decisin t achieve a timely cnvergence. las 12, paragraph 60, requires that adjustments t deferred taxes due t changes in tax laws and rates ("tax changes") are recgnized in equity t the extent that they relate t items previusly charged r credited t equity. T the cntrary, under the current FAS 109 requirement, all adjustments t deferred taxes fr subsequent tax changes are recrded in the incme statement, including adjustments t deferred taxes that were riginally recrded in OCI. We urge the Bards t retain the las 12 requirements fr intraperid tax allcatin as they relate t the accunting fr changes in tax laws and rates, and cnfrm FAS 109 requirements instead t achieve cnvergence at this time. As discussed further belw, the applicatin f the FAS 109 requirement prduces misleading and illgical results in the financial statements, especially as it relates t securities available fr sale and cash flw hedges fr which unrealized gain r lss and the crrespnding tax effect are recrded in Other Cmprehensive Incme (OCI). Pstanschrift: Frankfurt Geschiiftsraume: Taunusanlage 12, Frankfurt Te (069)91QQ{l Telex: _ Telefax: (069) ' STX: 60000# Deutsche Bundesbank, FrankJurt am Main KntNr (=BLZ)

2 2 The FAS 109 treatment prduces results that are illgical and misleading because it: (1) "Adjusts" in the perid f the tax change the incme tax expense reprted in the incme statement fr changes in eci deferred taxes n gains and lsses that were never recgnized in net incme, which prduces an illgical result in bth net incme fr the perid f the tax change and retained earnings; (2) Leaves the tranche f eci deferred taxes accrued immediately preceding the tax change fixed until the securities are sld, at which pint the underlying gains r lsses mayr may nt exist any mre; (3) Results in a misstatement f eci frm the date f the tax change; (4) Requires additinal recrdkeeping in a separate tranche fr eci deferred taxes n the unrealized gains and lsses subsequent t the tax change; (5) Misstates incme statements fr the subsequent perids when the gain r lss n the underlying transactin is realized by including incme tax expense different frm the actual tax expense n the gain r lss recgnized in net incme fr the perid; in sme cases, recrding incme tax expense when there is nne in reality. Implementatin f the FAS 109 apprach als presents prblems with bth cnsistent applicatin and additinal recrd keeping which las 12 des nt create. Due t the lack f specific guidance under FAS 109, diversity in practice has develped: eci deferred taxes are released using either the "specific identificatin" r the "prtfli" apprach, resulting in incnsistent applicatin that makes it difficult t cmpare results f different cmpanies. Under the frmer methd, eci deferred taxes are released t the incme statement in the perid each prtin f the underlying gain r lss is realized. In the case f a prtfli f AFS securities, this ccurs when each security is sld. The latter apprach defers the release until the whle prtfli is sld. Furthermre, the "specific identificatin" apprach requires additinal cmplex recrd keeping t track and release eci deferred taxes fixed based n tax laws and rates in effect immediately preceding the tax changes. This burden cntinues n an individual security basis ver the remaining hlding perid f all the securities, and is aggravated in case f multiple tax changes during the hlding perid. Under las 12, the accunting fr the change in tax laws r rates is simplified because it fllws the riginal recrding f the deferred taxes: fr example, if the riginal incme taxes were recrded in eci, the change in thse deferred taxes in respect f unrealized eci gains and lsses is recrded as an adjustment f the riginal eci deferred taxes. The effect f the tax changes is nt reflected in the incme statement until the underlying items are realized in the incme statement. When the underlying items affected by the change in tax law r rates are realized, the gain r lss is tax effected in the incme statement at the then current tax rate. Please refer t Appendix 1 fr an illustratin f these effects under bth current FAS 109 and las 12 rules. ene cncern raised particularly by US Bard members and the staff is the difficulty f implementing the las 12 treatment f changes in tax laws and rates, specifically the need fr "backward tracing" f the effect f the tax change. As we understand the implementatin cncerns with "backward tracing", they are fcused n the allcatin f the change in deferred taxes amng lines f the incme statement, particularly between items accunted fr net f taxes (e.g., the cumulative effect f a change in accunting) and thse nt shwn net f taxes. The las 12 apprach with regard t deferred tax items riginally recgnized in equity des nt create this cmplicatin.

3 3 Instead, it simplifies the implementatin f tax law changes because the adjustments t deferred taxes wuld be reflected in the same statement as the riginal deferred taxes: the incme statement, if that is where the riginal deferred taxes were reprted, r the statement f ther cmprehensive incme, if that is where the riginal deferred taxes were reprted. likewise, las 12 des nt require the burdensme recrd keeping t track all deferred taxes by tranche as explained abve. We believe that the pints discussed herein are a critical issue fr many Eurpean cnstituents and if the Bards can nt achieve cnvergence by adpting the las 12 apprach related t tax changes, we recmmend that the difference between FAS 109 and las 12 be retained at this time. The Bards can then allcate mre time t fully explre the ramificatins f each accunting apprach befre cming t a final decisin. We believe that this is preferable t achieving cnvergence nw and recnsidering the guidance again in Segment B f the Reprting Financial Perfrmance prject. The stated bjective f the incme tax shrtterm cnvergence prject is t imprve the accunting fr incme taxes while reducing the existing differences between FAS 109 and las 12. We d nt believe that changing the las 12 prvisins related t intraperid tax allcatin specifically fr the paragraphs related t tax changes imprves the accunting fr incme taxes. The fllwing appendices are attached which assist in illustrating ur pints in mre detail: Appendix 1 Example calculatin under FAS 109 and las 12 Appendix 2 Change in German and Eurpean Tax Laws and Rates Appendix 3 Deutsche Bank 2004 Frm 20F Disclsure Deutsche Bank appreciates the pprtunity t cmment n this imprtant issue and the Bards' effrt t achieve harmnizatin f US GAAP and internatinal standards. We hpe that these cmments are useful fr yur deliberatins. If yu have any questins regarding this leuer, please call Anthny Dilri ( ) r Martin Edelmann ( ) r send an electrnic message t: accunting.plicygrup@db.cm. Very truly yurs, Anthny Dilri (Grup Cntrller) delmann d f Grup Accunting)

4 dix 1 pie fr FAS 109 Entries mpany with n activities ther than an AFS prtfli pita/ gains tax rate reduced frm 40% t 15% Balance Sheet Accunts Prfit & Lss Accunts Cash AFS Securities Deferred Tax Liability PaidIn Capital Retained Earnings OCI unreal. OCt deferred Gains taxes Revenues Tax Expense Net Incme Grup Tax Rate unded cmpany purchases shares classified as AFS s fr 1,000; funded by shares issued alue f shares increases t 1,400; capital gains tax ear Balance 0 1. N.M. (0/0) gains tax is reduced frm 40% t 15% as f Jan Neg. Infinity (100/0) Value f shares drps t 1, NM (0/0) are sld fr 1,1 00; Tax is paid in cash % (115/100) ents the sale net incme, retained earnings and EPS are inflated under FAS 109 rules because the tax rate related adjustment in 2000 is nt reflected in OCI. me tax expense recrded in P&L related t the gain n sale in 2002 is higher than the pretax gain. Such an understatement effect was reprted in DB's financial statements because f a decline in equity markets. ax Rate: Accrding t FAS 109 the adjustment entry is reflected in P&L. At the date f adjustment as well as at the date f a later sale this leads t distrting netime effects n the Grup Tax Rate. Tax Example FAS 109 (15% tax)

5 dix 1 (Cntinued) pte fr tas 12 Entries mpany with n activities ther than an AFS prtfli apitat gains tax rate reduced frm 40% t 15% Balance Sheet Accunts Prfit & Lss Accunts Cash AFS Securities Deferred Tax Liability PaidIn Capital Retained Earnings OCI unreal. OCI deferred Gains taxes Revenues Tax Expense Net Incme Grup Tax Rate unded cmpany purchases shares classified as AFS es fr 1,000; funded by shares issued, Value f shares increases t 1,400; capital gains tax 1. N.M. (010) gains tax is reduced frm 40% t 15% as f Jan N.M. (010) Value f shares drps t 1, N.M. (010) are sld fr 1,1 OQ, Tax is paid in cash Vear Balance % (15/100) ents ate adjustments in 2000 are reflected where the riginal entry was reflected, i.e. ecl. rne tax expense recrded in P&L related t the gain n sale in 2002 reflects the thencurrent tax rate. Tax Rate: The Grup Tax Rate under las always equals the legal tax rate. Tax Example las 12 (15% tax)

6 1 Appendix 2 Change in German and Eurpean Tax Laws and Rates The accunting fr the effects f changes in tax laws and rates has a material impact n cmpanies subject t Eurpean taxes because f the frequency and vlatility f these changes. In the U.S., the accunting under FAS 109 may nt have had such a dramatic impact as the tax laws and rates have nt changed as frequently and in large magnitudes. In Germany, tw imprtant tax law changes ccurred in 1999 and In 1999, the German gvernment reduced the crprate incme tax rate n retained prfits frm 45% t 40%. In Octber 2000, the German gvernment enacted cmprehensive tax refrm legislatin which cntained tw majr changes relevant t ur crprate taxatin: The crprate incme tax rate declined, beginning n January 1, 2001, t 25% fr all crprate prfits. Until the end f 2000, the rates were 40% fr retained prfits and 30% fr distributed prfits. The tax rate applicable t capital gains n the sale f equity securities eligible under the legislatin (including AFS securities) was, beginning n January 1, 2002, reduced t zer. Until that date, the tax rate that applied t capital gains n these sales was the same as the tax rate applicable t rdinary incme. In additin, discussins are underway in several Eurpean cuntries t further reduce tax rates r change the taxatin system. Fr example, in Germany a reductin f the crprate incme tax rate frm currently 25% t 19% is under discussin, and enactment is t be expected in 2006 at the latest.

7 1 Appendix 3 Deutsche Sank 2004 Frm 20 F Disclsure Effects f 1999/2000 German Tax Refrm Legislatin and Accunting fr Incme Taxes Yu shuld nte in reviewing ur results f peratins that the financial accunting treatment under U.S. GAAP fr incme tax rate changes resulted in a negative impact n ur results f peratins in 2004, 2003, 2002 and These impacts ttaled an expense f 120 millin in 2004, 215 millin in 2003, 2.8 billin in 2002 and 995 millin in We therefre recmmend that yu als cnsider ur net incme fr 2004, 2003, 2002 and 2001 excluding the effect f the impact f changes in incme tax rates when yu cmpare 2004, 2003, 2002 and 2001 t ne anther and t earlier and future perids. Tw imprtant tax law changes ccurred in 1999 and 2000 that affected and will cntinue t affect ur net incme. In 1999, the German gvernment reduced the crprate incme tax rate n retained prfits frm 45% t 40%. In Octber 2000, the German gvernment enacted cmprehensive tax refrm legislatin. The cmprehensive tax refrm legislatin in 2000 cntained tw majr changes relevant t ur crprate taxatin: The crprate incme tax rate declined, beginning n January 1, 2001, t 25% fr all crprate prfits. Until the end f 2000, the rates were 40% fr retained prfits and 30% fr distributed prfits. The tax rate applicable t capital gains n the sale f equity securities eligible under the legislatin was, beginning n January 1, 2002, reduced t zer. Until that date, the tax rate that applied t capital gains n these sales was the same as the tax rate applicable t rdinary incme. The fllwing is a descriptin f the accunting treatment fr the 1999/2000 incme tax rate changes and their effects n ur results f peratins. U.S. GAAP requires us t recrd all unrealized gains n available fr sale securities, net f the related deferred tax prvisins, in ther cmprehensive incme. The deferred tax prvisins are based n the excess f the fair value f these securities ver ur tax basis in them. At the end f each reprting perid, we recrd deferred tax prvisins and related deferred taxes payable based n the change in the unrealized gain fr that perid using the effective incme tax rate we expect will apply in the perid we expect t realize the gain. Since bth the unrealized gains and the related deferred tax prvisin are recrded in ther cmprehensive incme, neither the unrealized gains nr the deferred tax prvisin affects net incme in that perid. U.S. GAAP als requires that, in a perid that includes the date n which new tax rates are enacted, cmpanies must adjust all f the deferred tax assets and liabilities they have recrded. These adjustments t deferred tax assets and liabilities reflect the new effective tax rates that will apply in the perids in which the temprary differences that led t the creatin f the deferred items are expected t be reversed. The changes in tax law we describe abve required us t make these types f adjustments in 1999 and Because ur available fr sale securities included an extensive prtfli f eligible equity securities that had appreciated substantially in value, we had a significant amunt f related deferred tax liabilities. These deferred tax liabilities were substantially reduced as a result f this 2000 legislatin. The eliminatin f the German tax n the capital gains n sales f eligible equity

8 2 securities is respnsible fr the majrity f the 9.3 billin incme tax benefit we recgnized in Our industrial hldings represent mst f the eligible equity securities. We acquired many f these industrial hldings, mst f which we classify as available fr sale securities under U.S. GAAP, many years ag, and mst f them have appreciated in value cnsiderably ver that time. Since we intend t sell these industrial hldings in the mst taxefficient and cmmercially prudent manner pssible, the estimated effective tax rate we applied t these unrealized gains when the new tax rate changes were enacted was essentially zer. As a result, mst f the reductins in deferred tax liabilities assciated with unrealized gains n ur eligible equity securities related t ur industrial hldings. Althugh we recrded the deferred tax prvisins directly t ther cmprehensive incme fr unrealized gains n available fr sale securities, U.S. GAAP nevertheless required that this adjustment t the related deferred tax liabilities fr a change in expected effective incme tax rates be recrded as an adjustment f incme tax expense in the perid the tax rate change is enacted. The adjustments t deferred tax liabilities related t eligible equity securities, hwever, did nt result in an adjustment t the deferred tax prvisins that had accumulated in ther cmprehensive incme. These accumulated prvisins remain in ther cmprehensive incme until the related securities are SOld, and they are then recgnized as tax expense in the perid f the sale. As such, certain pssible effects f ur accunting fr incme tax rate changes related t ur eligible equity securities n ur results f peratins are as fllws: When we sell each eligible equity security, we recgnize tax expense in the perid f its sale equal t that investment security's share f the deferred tax prvisins that had accumulated in ther cmprehensive incme n the tax rate change dates. The amunt we had accumulated in ther cmprehensive incme related t ur eligible equity securities was apprximately 2.7 billin n December 31, 2004 and 2.8 billin n December 31, This means that, regardless f the size f the realized gains, if any, n subsequent sales f these eligible equity securities, there will be significant incme tax expense in the perids f the sales. This expense will ffset part r all f that gain r add t any lss when calculating net incme. Althugh we have recgnized in 2000 a significant deferred tax benefit as a result f the tax rate changes related t eligible equity securities and will recrd significant deferred tax expense in the years these securities are sld, realized gains n sales f these securities in 2001, 2002, 2003 and 2004 have nt resulted in any taxes actually payable in cash. In ther wrds, all f the deferred tax benefit and expense amunts were nncash items. In additin, when we reverse the related deferred tax prvisins thrugh the incme tax expense line item, there will be n effect n ur ttal sharehlders' equity. This is because the deferred tax prvisins, which we accumulate in ther cmprehensive incme, and retained earnings, where the incme tax expense will have its effect, are bth cmpnents f sharehlders' equity. The fllwing table presents the level as f yearend f unrealized gains and related effects in available fr sale equity securities f DB Investr, which held mst f ur prtfli f industrial hldings and which reflects bth the significant reductins in market prices since the effective date f the tax rate change and dispsitins f industrial hldings. Since the deferred tax amunt relating t the securities nt sld has been frzen based n the level f market prices in 1999 and 2000, the deferred tax amunt relating t the tax rate changes in Germany currently exceeds the amunt f related unrealized gains f the available fr sale equity securities f DB Investr.

9 3 in bn ~ i Market value _..._ I Cst 'Y" 5.6!. : Unrealized gains in ther r', ~~mpreh".nsive incme " i' _._ I Less: deferred tax relating t 1999 and i 2000 tax rate changes in Germany I! 01her cmprehensive incme (lss), net (1.3) (1.1 ) (2.6) """",.....,,'_ """",,,,_."",. "" _ 0 _ As a cnsequence, the accunting fr incme tax rate changes related t eligible equity securities may result in significant impacts n ur results f peratins in perids in which we sell these securities. This effect is illustrated in 2004, 2003, 2002 and 2001 when we sld prtins f ur eligible equity securities. The gains resulting frm mst f these sales were nt subject t tax. We reversed the deferred taxes which had accumulated in ther cmprehensive incme, thrugh December 31, 2000, in respect f these securities. We recgnized these reversals as tax expense f 120 millin in 2004, 215 millin in 2003, 2.8 billin in 2002 and 995 millin in Neither the release f the deferred tax liability with an impact n the incme statement nr the reversal f the ffset amunt in ther cmprehensive incme with an impact n the incme statement has an ecnmic effect. They d nt affect the bank's tax psitin visavis the tax authrities. The initial release did nt lead t a tax refund frm the tax authrities and likewise, the sale and the reversal f the ffset amunt will nt create a tax liability t the tax authrities. The nly tax payable is n 5% f any gain as a result f the 2004 Tax Refrm Act which was enacted in December Under the Act, effective starting in 2004, crpratins will effectively becme subject t tax n 5% f capital gains frm the dispsal f freign and dmestic sharehldings irrespective f hlding percentage and hlding perid; lsses frm a sharehlding dispsal cntinue t be nntax deductible. Neither the initial release f the deferred tax liability nr the unrealized gains and lsses frm securities available fr sale is included in regulatry cre capital r in the calculatin f ur adjusted return n equity. The entire prcedure is a U.S. GAAP specific accunting requirement. We believe that the ecnmic effects f the tax rate changes are nt apprpriately reflected in the individual perids up t and including the perid f the sale.