IAS 12


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IAS 12

  1. 1. IAS 12: Income Taxes Roshankumar Pimpalkarroshankumar.2007@rediffmail.com
  2. 2. Objective:The objective of this standard is to prescribe accounting treatment for income taxes.Scope:IAS 12 should be applied in accounting for income taxes.Income taxes include: All domestic and foreign taxes the based on taxable profits Taxes, such as withholding taxes, payable by a subsidiary, associate or joint venture on distributions to reporting companyIAS 12 does not address: Investment tax credit Methods of accounting for government grantHowever it does address the accounting for temporary differences arising due to above.Key DefinitionsAccounting Profit is profit or loss for a period before deducting tax expense.Taxable Profit (or tax loss) is profit (or loss) for a period, determined in accordance with therules established by the taxation authorities, upon which it will be determined whetherincome taxes are payable (or recoverable).Tax Expense (or tax income) is the aggregate amount included in the determination of profitor loss for the period in respect of current and deferred tax. i.e. tax expense (tax income) = current tax + deferred taxCurrent tax is the amount of income taxes payable (or recoverable) in respect of taxableprofit (or tax loss) for a period. i.e. current tax = taxable profit (or tax loss) * tax rateTax Base of an asset or liability is the amount attributed to the asset or liability for taxpurposes. For e.g. Cost of an asset is 100 and depreciation is 20 but tax depreciation is 25then carrying value of that asset is 80 and tax base is 75. Tax base of an asset is equal to the amount that will be deductible for tax purposes against any taxable economic benefits that will flow to the entity when the carrying value of such asset will be recovered. If those economic benefits are not taxable then the tax base is equal to the carrying amount of asset. Tax base of a liability is its carrying amount less any amount that will be deductible for tax purposes in respect that liability in future periods. In simple words in respect of assets we need to determine the amount which is deductible/not taxable when it is recovered in future and in respect of liabilities we need to determine the amount which will not be deductible when the liability is actually paid off.roshankumar.2007@rediffmail.com
  3. 3. Exception: Some items have tax base but are not recognised as asset or liability in the statement of financial position. Tax base is not immediately apparent. In such case just remember that when there is difference in treatment between accounting policy and tax laws affecting tax payments made, a deferred tax asset or liability is likely to exists. Consolidated financial statements. In this case tax base is determined by either: o Reference to consolidated tax return in those jurisdiction in which such a return is filed; or o By reference to tax return of each entity of the group (in all other jurisdiction)Temporary differences are the differences between carrying amounts of assets or liabilitiesin the statement of financial position and its tax base. It may be taxable or deductible. Taxable temporary difference are the differences that will result in deferred tax liability Deductible temporary difference are the difference that will result in deferred tax asset Asset in statement of financial Liability in statement of position financial position Carrying amount < Deductible temporary difference Taxable temporary difference tax base Carrying amount > Taxable temporary difference Deductible temporary tax base differenceTemporary differences also arises when an income or expense item is included inaccounting profit in one period but is included in taxable profit in different period.Temporary difference also arises: When the cost of business combination is allocated to the identifiable assets and liabilities acquired by reference to their fair values but no equivalent adjustment is made for tax purposes. When there is revaluation of assets and no equivalent adjustment is made for tax purposes.Deferred tax liabilities are the amounts of income taxes payable in future periods in respectof taxable temporary differences i.e. deferred tax liabilities = taxable temporary difference * tax rateDeferred tax assets are the amounts of income taxes recoverable in future periods in respectof: Deductible temporary difference The carryforward of unused tax losses, androshankumar.2007@rediffmail.com
  4. 4. Carryforward of unused tax credits i.e. deferred tax Assets = deductible temporary difference * tax rate + unused tax losses * tax rate and tax creditsDeferred Tax:Sometimes carrying amounts of assets and liabilities may be recovered or settled at anamount or at a time different than that considered for tax purposes. In such case IAS 12requires an entity to recognise deferred tax liability or deferred tax asset so as to recognisethe deferred tax effects in the current financial statements as if those differences did notexists.This standard also deals with: The recognition of deferred tax assets arising from unused tax losses and unused tax credits The presentation of income taxes in financial statements, and Disclosure of information relating to income taxesSpecial Points:When any transaction gives rise to any asset or liability, but does not affect either accountingprofit or taxable profit at the time of transaction then IAS 12 does not permit an entity torecognise deferred tax asset or deferred tax liability.A deferred tax liability should not be recognised when it arises fromThe initial recognition of Goodwill orInitial recognition of asset or liability in transaction which: Is not a business combination, and at the time of transaction, affects neither accounting nor taxable profit (or tax loss)Financial instrument:The issuer of compound financial instruments are classified in two parts- The liability component as a liability, and The equity component as equity.In some jurisdictions, the tax base of the liability component on initial recognition is equal tothe initial carrying amount of the sum of liability and equity components.The resulting taxable temporary difference from initial recognition of equity componentseparately from liability (and not the initial recognition of asset or liability) hence any resultingdeferred tax liability should be recognised.The deferred tax is charged directly to carrying amount of equity component. Subsequentchanges in deferred tax liability are recognised in statement of comprehensive income asdeferred tax expense (or income)roshankumar.2007@rediffmail.com
  5. 5. Recognition of Deferred Tax Asset:A deferred tax asset should be recognised (from the initial recognition and not difference thatarise from subsequent difference) for all deductible temporary differences arising fromchange in carrying amount of an asset to fair value.The reversal of deductible temporary difference means that there will be deductions indetermining taxable profits of future periods.A deferred tax asset should be recognised for all deductible temporary differences to theextent that it is probable that taxable profit will be available against which the deductibletemporary can be utilised when there are sufficient taxable temporary differences relating tosame taxation authority and the same taxable entity which are expected to reverse: In the same period as the expected reversal of deductible temporary difference. Or In the periods in which tax loss arising from deferred tax asset can be carried back or forward.When there are insufficient taxable temporary differences relating to same taxation authorityand the same taxable entity, the entity should recognise the deferred tax assets to the extentthat: It is probable that the entity will have sufficient taxable profit relating to same taxation authority and the same taxable entity in the same period as the expected reversal of deductible temporary difference or in the periods in which tax loss arising from deferred tax asset can be carried back or forward and Tax planning opportunities are available to the entity that will create taxable profits in appropriate period.Unused Tax losses and Unused Tax creditsThe criteria for recognising the deferred tax asset from carry forward of unused tax losses orunused tax credits is same as above. However the existence of unused tax losses is astrong evidence that future taxable profit may not be available, so entity recognises deferredtax assets arising from unused tax losses and unused tax credits only to the extent theentity has sufficient taxable temporary differences, or there is convincing other evidencethat the sufficient taxable temporary differences will be available against which the unusedtax losses or tax credit can be utilised. Disclosure of amount of deferred tax asset and thenature of evidence is required.Subsidiary, Branches and Associates and Joint VentureTemporary differences arises when the carrying amount of investment in Subsidiary,Branches and Associates or interest in Joint Venture (i.e. in consolidated accounts, the netassets including the carrying amount of goodwill) becomes different from the tax base(which is often cost).Recognise the deferred tax liability associated with of investment in Subsidiary, Branchesand Associates and interest in Joint Venture except to the extent that both the followingconditions are satisfiedroshankumar.2007@rediffmail.com
  6. 6. The parent, investor or venturer is able to control the timing of reversal of temporary difference It is probable that the temporary difference will not reverse in foreseeable future. A parent controls the timing of reversal of temporary difference by controlling the dividend policy of Subsidiary (and Branch operations). An investor in an associate: 1. Does not control that entity, and 2. Is usually not in a position to determine its dividend policy Therefore, in the absence of an agreement requiring that the profits of the associate will not be distributed for the foreseeable future, investor recognises the deferred tax liability arising from taxable temporary differences associated with its investment in Associate. An arrangement between the joint venture parties usually deals with the receipt of the profits. A deferred tax liability is not recognised when: The venture can control the sharing of profits, and It is probable that the profits will not be distributed in the foreseeable future.Deferred tax liability/Asset should also be recognised when the tax base of non-monetaryassets in a foreign entity is calculated in a foreign currency that is different from the entity’sfunctional currency. Deductible/taxable temporary differences arise from exchange ratesaffecting those non-monetary assets.Measurement:Tax rates which have been enacted for the purpose of calculation of deferred taxasset/liability. When different tax rates apply to different levels of taxable income or lossdeferred tax assets/liabilities are measured using average rates (weighted average) that areexpected to apply to taxable profit of the periods in which the temporary differences areexpected.The measurement of deferred tax asset/liability should reflect the manner in which the entityexpects to recover (or settle) the asset (or liability) at the end of reporting period.For e.g. If the entity intends to recover the asset through use, then the tax rate used is therate at which taxable profit is taxed. If however the entity intends to recover the assetthrough sale and different tax rate is applicable on sale of asset then that rate should beused.Dividend to the shareholder may have following tax effects if part or all of net profit orretained earnings is paid out: Income tax is payable at higher or lower rate; or Income tax may be payable or refundableroshankumar.2007@rediffmail.com
  7. 7. In these circumstances, current and deferred tax assets and liabilities are measured at thetax rates applicable to undistributed profits. The income tax consequences of dividendsshould be recognised in statement of comprehensive income for the period exceptwhere: Taxes arise from a transaction/event that is recognised directly in equity, or Temporary differences arise from business combinationAccounting for Current and Deferred Tax EffectsAccounting for current and deferred tax effects should be same as the accounting for thetransaction or event itself. i.e. if the accounting of transaction affects the statement ofcomprehensive income, so will the tax transaction.Current and deferred tax should be recognised as income or an expense and included in theprofit and loss for the period, expect to the extent that tax arises from: A transaction or an event which is recognised in the same or the different period outside profit or loss either in other comprehensive income; or Directly in equity; or Business combination.The carrying amount of deferred tax may change even though there is no change in relativetemporary differences. For example when there is a: Change in tax rates or tax laws Re-assessment of recoverability of deferred tax asset, or Change in expected manner of recovery of assetThe resulting deferred tax is recognised in the statement of comprehensive income,except to the extent that it relates to items previously charged or credited to equity.PresentationCurrent tax assets and liabilities can be offset only if there is: A legally enforceable right to set off the recognised amounts i.e. when the current taxes relate to income taxes levied by same taxation authority and taxation authority permits the entity to make or receive single payment, and An intention either to settle on a net basis, or to realise the asset and settle the liability simultaneously.For presentation of deferred tax asset same criteria as above should be followed.However Current and Deferred tax assets/liabilities can never be offset against each other.The opposite debit/credit of the deferred tax journal for following items should be recognisedin Profit or Loss: Held for trading Trade and other receivables Retirement benefit costroshankumar.2007@rediffmail.com
  8. 8. The opposite debit/credit of the deferred tax journal for following items should be recognisedin Other Comprehensive income: Available for sale MachineryThe opposite debit/credit of the deferred tax journal for following items should be recognisedin Goodwill: Business CombinationExample:Land with a cost of 100 and a carrying amount of 90 is revalued to 150. For tax purposes,deprecation of 20 has been deducted in the current and prior periods and the remainingcosts will be deductible in future periods through depreciation. Revenue generated from useof land is taxable.The tax base of lease hold land is: 80 i.e. 100 - 20roshankumar.2007@rediffmail.com