FAS 109 and FIN 48: Dealing with Uncertainty in Implementation and Beyond

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1 FAS 109 and FIN 48: Dealing with Uncertainty in Implementation and Beyond Rita Benassi, Deloitte Tax LLP Randolph Green, Deloitte & Touche LLP Kathleen McEligot, Deloitte Tax LLP December 4, 2006

2 Caveats The views expressed do not necessarily represent Deloitte & Touche LLP or Deloitte Tax LLP policy The outcome of any specific matter depends upon the specific facts and circumstances in which the matter arises The views expressed cannot be relied upon as accounting or tax advice

3 Agenda Overview Implementation Challenges Beyond Adoption News and Updates Questions

4 Overview

5 Overview Prior to recognizing the benefit of a tax position for financial reporting purposes, the tax position must be more-likely-than-not (MLTN) of being sustained based solely on its technical merits Tax positions to be recognized are reported at the largest amount that is MLTN to be realized Tax positions not eligible for benefit recognition are generally recorded as a liability for financial reporting purposes 1

6 2

7 Implementation Challenges

8 Implementation challenges Have you found all of your Uncertain Tax Positions (UTPs)? Historic FAS 5 reserve items Temporary Differences Tax Controversy Matters Attributes Purchase accounting transactions APIC OCI International Operations Nexus/Permanent Establishment (PE) 3

9 Implementation challenges (cont d) Do not forget uncertain tax ASSETS Claims for refund Amended returns Pro-taxpayer audit assertions FIN 48 changes the contingent gain recognition standard from virtual certainty to MLTN 4

10 Implementation challenges (cont d) Difficult judgment areas in recognition and measurement Nexus/PE Administrative Practices Transfer pricing Tax accounting methods M&A activity Valuations 5

11 Implementation challenges (cont d) Reverberations Federal temporary difference UTP may impact the domestic manufacturing deduction Changes to deferred tax items may require a valuation allowance reassessment Transfer pricing UTP may generate a competent authority asset A foreign jurisdiction UTP may result in additional US FTC DTA Subsidiary UTP has parent tax basis implications State & Local UTP will result in a Federal DTA 6

12 Implementation challenges (cont d) Other sticky issues ETR/interest Ratable accruals vs ETR item 7

13 Implementation challenges (cont d) Gross vs. Net Issue Facts: $1,000 gross issue 40% Federal rate 10% State rate Unrecognized Benefit Federal State Tax (400) (100) 21(a) Interest (100) (25) 21(c) 8

14 Implementation challenges (cont d) Gross vs. Net Issue (cont d) State FIN 48 Federal Interest State Interest Total Deduct Temp Tax Rate DTA Income Temp Tax Rate DTL Federal DTL % (5) Federal DTA (100) (100) (25) (225) 40% 90 State DTA (100) (25) (125) 10%

15 Implementation challenges (cont d) Multiple disclosures for same item: NOLs As filed $1 Billion MLTN $800 Million Unrecognized tax benefit $200 Million 10

16 Beyond Adoption

17 Beyond adoption An enterprise shall subsequently recognize a tax position at the reporting date if one of these conditions are met ( 10): The more-likely-than-not threshold is met The tax matter is ultimately settled The statute of limitations expires An enterprise shall derecognize a position if the MLTN recognition threshold is no longer met ( 11) Subsequent changes are based on management s evaluation of new information and not a new evaluation of previously available information ( 12) 11

18 Beyond adoption (cont d) Question: Is information obtained through interactions with the taxing authority considered new information sufficient to support a subsequent change in judgment for recognition and measurement? Answer: It depends. Information leading to a settlement of a position taken in one year could provide evidence of the likely settlement of tax positions of subsequent years for measurement purposes However, if a tax position was not questioned by the taxing authority in one year it would not likely provide evidence on its own to support a subsequent change in judgment 12

19 Interim financial statements Changes in judgment (recognition, derecognition, measurement): A tax position taken in a prior annual period Recorded as a discrete item i.e., entirely in the interim period in which the judgment changes (similar to taxes on an unusual, infrequently occurring, or extraordinary item) A tax position taken in an interim period in the same fiscal year Adjust estimated effective tax rate per APB 28 and FIN 18 Partially recognized in the quarter the judgment changes with the remainder being recognized over the remaining interim periods 13

20 Subsequent events Changes in judgment shall be based on management s best estimate given the facts, circumstances, and information available at the reporting date ( 12) As such, events that occur after the reporting date should be reflected in the period subsequent to the balance sheet date Guidance only applies to FIN 48 and should not be analogized to other situations covered by AU 560 Subsequent Events 14

21 Example: Subsequent events Company A concludes a tax position meets the MLTN recognition threshold as of 12/31/2007 Company A has considered all available information as of 12/31/2007: All relevant tax law A court case in which the taxing authority has fully disallowed a similar tax position with an unrelated company, Company B Company B was in the process of aggressively litigating the matter After 12/31/2007, but before the financial statements are issued, the taxing authority prevails in its litigation with Company B, which changes Company A judgment over recognition of this tax position The change in judgment is recorded in fiscal

22 News and Updates

23 Year-end 2006 disclosures SAB 74 rules: year-end disclosures expected to be more than Q3 disclosures Given timing of Form 10K filing, range of cumulative effect should be known If balance sheet movement is expected to be material, disclosure should be considered 16

24 Interim periods in 2007 SEC has approved AICPA Regs Committee recommendation for interim period disclosures Tabular rollforward is not required for interim periods in BUT disclosure IS required for material changes in the required items in the rollforward (e.g. gross increases in prior year items, etc.) 17

25 Interest and penalties Question: May an enterprise change its existing accounting policy relating to the classification of interest, penalties or both upon the adoption of FIN 48 without justifying preferability? Answer: Yes. SEC indicated that preferability letter will not be required for change in classification upon adoption Changes of classification of interest, penalties or both after adoption will require a preferability letter 18

26 Contact Info Rita Benassi Randy Green Kathleen McEligot

27 The information contained in this publication is for general purposes only and is not intended, and should not be construed, as legal, accounting, or tax advice or opinion provided by Deloitte & Touche to the reader. This material may not be applicable or suitable for, the reader s specific circumstances of needs. Therefore, the information should not be used as a substitute for consultation with professional accounting, tax, or other competent advisors. Please contact a local Deloitte & Touche professional before taking any action based upon this information.

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