Workshop on Deferred Taxation

1. Workshop on Deferred Taxation Tahmeen Ahmad (ACA)

2. Understanding Deferred Tax An entity shall, with certain limited exceptions, recognize a deferred tax liability (asset) whenever recovery or settlement of the carrying amount of the asset or liability will make the future tax payments larger (smaller) than they would be if such recovery or settlement were to have no tax consequences.

3. Understanding Deferred Tax (contd.) • Accounting profit versus taxable profit • The temporary difference • Why calculate deferred tax assets or liabilities? • The balance sheet liability method

4. Identifying temporary differences • The carrying amount • The tax base of: • An asset-future tax deductible amounts • A liability- carrying amount less future tax deductible amounts • Revenue received in advance- carrying amount less any future non taxable amount • Two kinds of temporary differences : taxable and deductible

5. Identifying temporary differences (contd.)

6. Identifying temporary differences (contd.) Examples • Group A to identify tax base and carrying amount • Group B to identify taxable temporary differences • Group C to identify deductible temporary differences

7. Recognition criteria DTL • “Deferred tax liability shall be recognized on all taxable temporary differences except to the extent that it arises from • Initial recognition of Goodwill • Initial recognition of an asset or liability in a transaction that : • Is not a Business combination; and • At the time of the transaction, affects neither accounting nor taxable profit (tax loss) However, for taxable temporary differences associated with investment in subsidiaries, branches, associates and interests in joint ventures, a deferred tax liability shall be recognized with exceptions.”

8. Recognition criteria DTA • “a deferred tax asset shall be recognized for all deductible temporary differences to the extent that it is probable that taxable profit will be available against which the deductible temporary difference can be utilized, unless the deferred tax asset arises from the initial recognition of an asset or liability in a transaction that: • Is not a business combination • At the time of the transaction affects neither accounting profit not taxable profit (tax loss) • However for deductible temporary differences associated with investment in subsidiaries, associates, branches and interests in joint ventures, a deferred tax asset shall be recognized subject to conditions

9. Specific guidance on Deferred tax Recognition • Goodwill • business combinations • Assets at fair value • Initial recognition of assets and liabilities • Share based payments

10. I. Goodwill • Initial recognition –deferred tax not recognized as goodwill is a residual • Subsequent reductions in unrecognized DTL that arose from the initial recognition of goodwill- deferred tax liability not recognized • Subsequent tax allowable differences – deferred tax liability recognized

11. II. Business combinations • Identifiable assets and liabilities are valued at fair value at acquisition date • Tax base may be different • Temporary differences arise • Deferred tax calculated and corresponding effect adjusted in goodwill or negative goodwill* • Case : Acquirer’s own deferred tax asset not recognized in a business combination due to unavailable taxable profits • Case: Acquiree’s deferred tax asset not recognized due to non satisfaction of separate recognition criteria

12. III. Assets at fair value • Revaluations as per IASs • Different tax base and carrying amount • Temporary difference arises and a deferred tax asset/ liability is calculated

13. IV. Initial recognition of assets/ liabilities • where tax base is different carrying amount at initial recognition, temporary differences arise • Deferred tax asset/ liability recognized with: • Adjustment in goodwill (Part of a business combination) • Recognition of deferred tax expense/ income( where the transaction affects profits) • Adjustment to equity (for transactions that affect equity) • Deferred tax asset/liability not recognized if the transaction is not a business combination or does not affect accounting or tax profits.

14. V. Investment in subsidiaries etc • When carrying amount of investment in subsidiaries, branches and associates or interests in joint ventures differs from tax base • Reason for difference include: • Undistributed profits • Change in forex rates • Impairment • The DTL recognized for taxable temporary differences except • where the parent can control the timing of reversal and • the differences are not probable to reverse in the foreseeable future • The DTA recognized for all deductible temporary differences where: • The differences are probable to reverse in the foreseeable future • Taxable profit will be available against which the temporary difference can be utilized.

15. VI. Share based payments • Timing of expense allowed in case of share based payments may differ • Employee remuneration in share options • Tax authorities normally may allow deduction at a different date eg of actual exercise of share rights • Deductible temporary difference arises on which deferred tax is recognized

16. Applicable rates and measurement • Rate applicable in the period the differences are expected to reverse • Average rate applied in case of slab rates • Rate depends on intended manner of recovery or settlement of the asset or liability • Tax rate may depend on dividend payout. (higher for non distribution) deferred tax computed at ‘undistributed profit’ rate • DTL and DTA not discounted • DTA reviewed at each B/s date*

17. Items credited or charged directly to equity • Deferred tax will be charged or credited directly to equity if the tax relates to items that are credited or charged, in the same or different period, directly to equity. • Examples are on: • Revaluation surplus • Adjustment to the opening balance of retained earnings • Forex differences on translation of foreign operation’f f/s

18. Unrecognized deferred tax assets • Reassessed at each b/s date • Recognized to the extent it is probable that future taxable profits will be available

19. Presentation and disclosure • Offsetting of deferred tax assets and liabilities allowed under certain conditions • Tax expense in income statement • Disclosures of: • Components of tax expense • Aggregate deferred tax on items charged to equity • Reconciliation of tax expense (income) with accounting profit • Unrecognized deferred tax assets- amount of deductible differences • Changes in tax rates from previous period explained • Amt and expiry date of deductible temporary differences, unused tax losses and tax credits for which no deferred tax asset has been recognized • Aggregate amount of temp diff related to inv in subs etc for which no deferred tax liabilities have been recognized

20. Presentation and disclosure (contd.) • For each type of temporary difference (and unused tax loss and tax credit): • DTL & DTA in b/s • DTI and DTE in income statement • For DTA, supporting evidence for recognition when: • The utilization of the DTA will exceed the available taxable temporary differences in the period of reversal • Losses suffered in the current or prior period to DTA • Potential income tax consequences of payment of dividends to shareholders

21. Illustrations • Group C to work out deferred tax assets and liabilities • Group B to present the f/s portions as relevant • Group A to prepare the reconciliations