ACCA SBR UK Syllabus C. Reporting The Financial Performance Of A Range Of Entities - Income tax - Notes 15 / 24
Income tax
Section 29 of FRS 102 recognises deferred tax on the basis of timing differences, whereas IAS 12 uses temporary differences.
However, the FRS 102 approach is known as the 'timing differences plus' approach; it has additional recognition approaches for certain other differences.
Timing differences are differences between taxable profit and accounting profit that originate in one period and reverse in one or more subsequent periods.
Timing differences arise because certain items are included in the accounts of a period which is different from that in which they are dealt with for taxation purposes.
Under FRS 102 deferred taxation is the tax attributable to timing differences.
Deferred tax should be recognised in respect of all timing differences at the reporting date, subject to certain exceptions and for differences arising in a business combination.
Deferred taxation under FRS 102 is therefore a means of ironing out the tax inequalities arising from timing differences:
In years when corporation taxis saved by timing differences such as accelerated capital allowances, a charge for deferred taxation is made in the profit and loss account and a provision set up in the balance sheet.
In years when timing differences reverse, because the depreciation charge exceeds the capital allowances available, a deferred tax credit is made in the profit and loss account and the balance sheet provision is reduced.
Under IAS 12 a 'balance sheet' approach is taken, based on temporary differences. Temporary differences are differences between the tax base of an asset or liability and its carrying amount in the statement of financial position.
Tax allowances and depreciation of fixed assets
Deferred tax is recognised on timing differences between tax allowances and depreciation of fixed assets.
If and when all conditions for retaining the tax allowances have been met, the deferred tax is reversed.
Illustration: Deferred tax
(a) On 30 November 20X1 there is an excess of capital allowances over depreciation of $90 million. It is anticipated that the timing differences will reverse according to the following schedule.
| 30 Nov 20X2 | 30 Nov 20X3 | 30 Nov 20X4 | |
|---|---|---|---|
| $m | $m | $m | |
| Depreciation | 550 | 550 | 550 |
| Capital allowances | 530 | 520 | 510 |
| --- | --- | --- | |
| 20 | 30 | 40 | |
| --- | --- | --- |
(b) The statement of financial position as at 30 November 20X1 includes deferred development expenditure of $40 million.
This relates to a new product which has just been launched and the directors believe it has a commercial life of only two years.
Corporation tax is 30% and the company wishes to discount any deferred tax liabilities at a rate of 4%.
Required:
Explain the deferred tax implications of the above and calculate the deferred tax provision as at 30 November 20X1 in accordance with FRS 102.
Note. Present Value Table (extract)
Present value of $1 ie (1 + r) – n where r = interest rate, n = number of periods until payment or receipt.
| Periods | 4% |
|---|---|
| n | |
| 1 | 0.962 |
| 2 | 0.925 |
| 3 | 0.889 |
| 4 | 0.855 |
| 5 | 0.822 |
Solution
(a) Accelerated capital allowances: Full provision should be made for the excess capital allowances.
(b) Deferred development expenditure: The amount capitalised (which will have been allowable for tax as incurred) is a timing difference. Full provision is again required.
| Deferred tax liability: | |||
| $m | |||
| Accelerated capital allowances (W1) | 27 | ||
| Deferred development expenditure (W2) | 12 | ||
| --- | |||
| Discounted provision for deferred tax | 39 | ||
| --- | |||
| Workings | |||
| 1 | Capital allowances | ||
| Timing differences $90m | |||
| Deferred tax liability $90m x 30% = $27m | |||
| Years to come | Reversal of timing difference | Deferred tax liability (x30%) | |
| $m | $m | ||
| 2 | 20 | 6 | |
| 3 | 30 | 9 | |
| 4 | 40 | 12 | |
| --- | --- | ||
| 90 | 27 | ||
| --- | --- | ||
| 2 | Deferred development expenditure | ||
| Timing difference $40m | |||
| Liability $40m x 30% = $12m | |||
| Years to come | Reversal of timing difference | Deferred tax liability (x30%) | |
| $m | $m | ||
| 2 | 20 | 6 | |
| 3 | 20 | 6 | |
| --- | --- | ||
| 40 | 12 | ||
| --- | --- | ||
| 3 | Total deferred tax liability (27 + 12) = $39m |
Deferred tax assets
Unrelieved tax losses and other deferred tax assets may be recognised only to the extent that it is probable that they will be recovered against the reversal of deferred tax liabilities or other future taxable profits.
Business combinations
Deferred tax is not recognised on income and expenses from a subsidiary, associate, branch or joint venture when:
(a) The reporting entity is able to control the reversal of the timing difference.
(b) It is probable that the timing difference will not reverse in the foreseeable future.
An example of this would be undistributed profits held in the other entity.
Deferred tax may arise when assets and liabilities in a business combination are recognised at fair value, which may be an amount different from the value at which they are assessed for tax.
Other points
(a) Withholding tax is included in the measurement of dividends paid and received; any withholding tax suffered is included in the tax charge.
(b) Tax is recognised in the same component of total comprehensive income, or equity, as its related transaction.
(c) Deferred tax liabilities are presented within provisions; deferred tax assets are presented within debtors.
(d) VAT and similar sales taxes are excluded from the presentation of turnover and expenses.
Irrecoverable amounts are disclosed separately.