Guidance comes in many different forms… FAS 109 issued February 1992 FAS 115 FAS 123R FAS 141, 141R Numerous EITFs FASB Q&A ASB guidance Other forms of guidance
FAS 109 Overview Excerpt from FAS 109: This Statement establishes standards of financial accounting and reporting for income taxes that are currently payable and for the tax consequences of: Revenue, expenses, gains or losses that are included in taxable income of an earlier or later year than the year in which they are recognized in financial income Other events that create differences between the tax bases of assets and liabilities and their amounts for financial reporting Operating loss or tax credit carrybacks for refunds of taxes paid in prior year and carryforwards to reduce taxes payable in future years.
FAS 109 Overview Applies to : Federal, foreign, state and local taxes based on income – this includes franchise taxes based on income All entities included in the reporting entity’s financial statements – this generally includes foreign entities Exception for partnerships and S corporations – beware of FIN48
FAS 109 Overview FAS 109 is a balance sheet, liability-based approach: Deferred tax liability represents an increase in future taxes payable and a decrease in current taxes payable Deferred tax asset represents a decrease in future taxes payable and an increase in current taxes payable
FAS 109 Overview Temporary versus Permanent Differences Temporary differences defined as book-tax basis differences that will result in taxable or deductible amounts in future years. Permanent differences not defined in FAS 109, but definition of temporary differences states: some events recognized in financial statements do not have consequences. Certain revenues are exempt from taxation and certain expenses are not deductible. Events that do not have tax consequences do not give rise to temporary differences.
FAS 109 Overview The formula… Ending Deferred Taxes less Beginning Deferred Taxes equals Deferred Tax Expense/Benefit plus Current Taxes Payable equals Book Tax Expense/Benefit
FAS 109 Overview Example 1 X Co formed in 2008 Purchased asset for $100; depreciable over 4 years for financial reporting, 3 years for income taxes Received payment of $150 in 2008 for service to be performed in 2011 X Co accrued legal fees of $50 in 2009, paid in 2011 Book income of $100 in 2008 - 2011
FAS 109 Overview 2008200920102011 Book Income100100100100 Deferred Revenue150 0 0 Professional Fees 0 50 0 Depreciation 25 Total 242 142 91 Statutory Rate 40% 40% 40% 40% Current Tax Expense/ 96.8 56.8 36.4
FAS 109 Overview 2008200920102011 Ending DTA/ 056.8 73.6 70 less Beginning DTA/ 56.8 73.6 70 0 equals Deferred Tax Expense/ 3.6 70 plus Current Tax Expense/96.8 56.8 36.4 equals Book Tax Expense/ 40 40 40 40
FAS 109 Overview 2008200920102011 Ending DTA/ 056.8 73.6 70 less Beginning DTA/ 56.8 73.6 70 0 equals Deferred Tax Expense/ 3.6 70 plus Current Tax Expense/96.8 56.8 36.4 equals Book Tax Expense/ 40 40 40 40 Hint: Book Income plus Permanent Differences multiplied by Effective Tax Rate equals Book Tax Expense
Tax Rate Determination DTAs/DTLs measured using enacted rates expected to apply to taxable income in the periods in which they will be realized. – Graduated rates? – Loss companies? – Multi-state filers? – Impact of tax planning?
Goodwill Goodwill can be ‘created’ as a result of business combination – Tax deductibility depends on type of transaction and prior ownership of goodwill – Goodwill is not amortized for financial purposes
Goodwill Nondeductible goodwill – no deferred tax assets/liabilities recognized; impairments treated as permanent differences Deductible goodwill – deferred tax assets/liabilities will be recognized – Reported amount of goodwill and tax deductible goodwill each need to be segregate into two components: First component is the lesser of book goodwill and tax deductible goodwill Second component is remaining balance – Deferred taxes recognized on difference between first components
Valuation Allowances Companies must evaluate the likelihood that they will realize deferred tax assets If it is ‘more likely than not’ that the Company will not realize their deferred tax assets, they are required to record a valuation allowance against the deferred tax assets. – Recording the valuation allowance will affect the book tax expense
Valuation Allowances When evaluating the need for a valuation allowance, all available evidence (both positive & negative) must be considered. Four future sources of taxable income that can be considered: – Future reversal of existing taxable differences – Future taxable income (exclusive of reversing temporary differences and carryforwards) – Taxable income in prior carryback years (if allowable) – Tax planning strategies
Financial Statement Presentation
Balance Sheet Current and non-current deferred tax balances should be reported separately Valuation allowance should be allocated proportionately to current and non-current deferred tax assets Deferred tax assets and liabilities may be offset and presented as a single amount where they relate to the same taxing jurisdiction and taxpayer within the company
Financial Statement Presentation Footnote disclosures Total of deferred tax assets, deferred tax liabilities and valuation allowance Net change in valuation allowance Non-public entities disclose types of significant temporary differences and carryforwards Public entities disclose tax effects of each type Significant components of income tax expense by taxing jurisdiction Allocation of income tax expense to continuing operations and other discrete events Public entities disclose rate reconciliation
Sample The (provision) benefit for income taxes is comprised of: 200820092010 Current federal100150200 Current state 8 24 32 Deferred federal 150 200 Deferred state 7 16 Provision for income tax expense (benefit) 265 390 200 The provision for income taxes differs from the amount computed by applying the statutory federal income tax rate to income before provision for income taxes.
Sample The Company has the following deferred tax assets and liabilities: 200820092010 Deferred tax assets$150$200$175 Deferred tax liabilities Net deferred tax assets/ $100$125$100 The Company’s deferred tax assets consist of deferred revenue and accounts receivable basis differences. The Company’s deferred tax liabilities consist of basis differences in fixed assets.
FAS 141R Effective for periods beginning after December 15, 2008 Changes accounting applicable to valuation allowances established as part of the business combination Under FAS 141 – adjustment to goodwill Under FAS141R – results in income tax expense/benefit
FIN 48 Generally effective for private companies for years beginning after December 15, 2007 Clarifies accounting for income taxes by prescribing minimum thresholds that must be met before a tax position can be recognized for financial reporting purposes. Tune in to the next session for further details!