IAS 12
ACCOUNTING FOR INCOME TAX
1
Learning Objectives
At the completion of studying this chapter, you will
be able to:
Define tax base and carrying amount
Explain the difference between taxable income and
accounting income
Determine the temporary taxable and deductible difference
Calculate the deferred taxes
Identify the presentation and disclosure requirements
related to income taxes
2
ACCOUNTING FOR INCOME TAXES
Corporations must file income tax returns following the
guidelines developed by the appropriate tax authority.
Because IFRS and tax regulations differ in a number of ways,
frequently the amounts reported for the following will differ:
Income tax expense (IFRS)
Income taxes payable (Tax Authority)
LO 1
ACCOUNTING FOR INCOME TAXES
Financial Statements Tax Return
vs.
Pretax Financial Income Taxable Income
IFRS Tax Code
Income Tax Expense Income Taxes Payable
LO 1
ACCOUNTING FOR INCOME TAXES
Illustration: Chelsea, Inc. reported revenues of $130,000 and
expenses of $60,000 in each of its first three years of
operations. For tax purposes, Chelsea reported the same
expenses to the IRS in each of the years. Chelsea reported
taxable revenues of $100,000 in 2015, $150,000 in 2016, and
$140,000 in 2017. What is the effect on the accounts of
reporting different amounts of revenue for IFRS versus tax?
LO 1
Book vs. Tax Differences ILLUSTRATION 19-2
Financial Reporting
Income
IFRS Reporting 2015 2016 2017 Total
Revenues $130,000 $130,000 $130,000 $390,000
Expenses 60,000 60,000 60,000 180,000
Pretax financial income $70,000 $70,000 $70,000 $210,000
Income tax expense (40%) $28,000 $28,000 $28,000 $84,000
ILLUSTRATION 19-3
Tax Reporting 2015 2016 2017 Total
Revenues $100,000 $150,000 $140,000 $390,000
Expenses 60,000 60,000 60,000 180,000
Taxable income $40,000 $90,000 $80,000 $210,000
Income taxes payable (40%) $16,000 $36,000 $32,000 $84,000
LO 1
Book vs. Tax Differences
Comparison 2015 2016 2017 Total
Income tax expense (IFRS) $28,000 $28,000 $28,000 $84,000
Income tax payable (TA) 16,000 36,000 32,000 84,000
Difference $12,000 $(8,000) $(4,000) $0
Income tax expense (40%) $28,000 $28,000 $28,000 $84,000
Are the differences accounted for in the financial statements? Yes
Year Reporting Requirement
2015 Deferred tax liability account increased to $12,000
2016 Deferred tax liability account reduced by $8,000
2017 Deferred tax liability account reduced by $4,000
LO 1
Financial Reporting for 2015
Statement of Financial Position Income Statement
2015 2015
Assets:
Revenues:
Expenses:
Liabilities:
Deferred taxes 12,000
Income taxes payable 16,000
Income tax expense 28,000
Equity:
Net income (loss)
Where does the “deferred tax liability” get reported in the financial
statements?
LO 1
Future Taxable and Deductible Amounts
A temporary difference is the difference between the tax basis of an
asset or liability and its reported (carrying or book) amount in the
financial statements that will result in taxable amounts or deductible
amounts in future years.
Future Taxable Amounts Future Deductible Amounts
Deferred Tax Liability represents Deferred Tax Asset represents the
the increase in taxes payable in increase in taxes refundable (or
future years as a result of taxable saved) in future years as a result of
temporary differences existing at deductible temporary differences
the end of the current year. existing at the end of the current
year.
Illustration 19-22 provides Examples of Temporary Differences
LO 2
ACCOUNTING FOR INCOME TAXES
Specific Differences
Temporary Differences
Taxable temporary differences - Deferred tax liability
Deductible temporary differences - Deferred tax
Asset
LO 6
Temporary Differences ILLUSTRATION 19-22
Examples of Temporary
Differences
Revenues or gains are taxable after they are recognized in financial income.
An asset (e.g., accounts receivable or investment) may be recognized for revenues or
gains that will result in taxable amounts in future years when the asset is recovered.
Examples:
1. Sales accounted for on the accrual basis for financial reporting purposes and on the
installment (cash) basis for tax purposes.
2. Contracts accounted for under the percentage-of-completion method for financial
reporting purposes and the cost-recovery method (zero-profit method) for tax
purposes.
3. Investments accounted for under the equity method for financial reporting purposes
and under the cost method for tax purposes.
4. Gain on involuntary conversion of non-monetary asset which is recognized for
financial reporting purposes but deferred for tax purposes.
5. Unrealized holding gains for financial reporting purposes (including use of the fair
value option) but deferred for tax purposes.
LO 6
Temporary Differences ILLUSTRATION 19-22
Examples of Temporary
Differences
Expenses or losses are deductible after they are recognized in financial income.
A liability (or contra asset) may be recognized for expenses or losses that will result in
deductible amounts in future years when the liability is settled. Examples:
1. Product warranty liabilities.
2. Estimated liabilities related to discontinued operations or restructurings.
3. Litigation accruals.
4. Bad debt expense recognized using the allowance method for financial reporting
purposes; direct write-off method used for tax purposes.
5. Share-based compensation expense.
6. Unrealized holding losses for financial reporting purposes (including use of the fair
value option), but deferred for tax purposes.
LO 6
Temporary Differences ILLUSTRATION 19-22
Examples of Temporary
Differences
Revenues or gains are taxable before they are recognized in financial income.
A liability may be recognized for an advance payment for goods or services to be
provided in future years. For tax purposes, the advance payment is included in taxable
income upon the receipt of cash. Future sacrifices to provide goods or services (or
future refunds to those who cancel their orders) that settle the liability will result in
deductible amounts in future years. Examples:
1. Subscriptions received in advance.
2. Advance rental receipts.
3. Sales and leasebacks for financial reporting purposes (income deferral) but reported
as sales for tax purposes.
4. Prepaid contracts and royalties received in advance.
LO 6
Temporary Differences ILLUSTRATION 19-22
Examples of Temporary
Differences
Expenses or losses are deductible before they are recognized in financial income.
The cost of an asset may have been deducted for tax purposes faster than it was
expensed for financial reporting purposes. Amounts received upon future recovery of
the amount of the asset for financial reporting (through use or sale) will exceed the
remaining tax basis of the asset and thereby result in taxable amounts in future
years. Examples:
1. Depreciable property, depletable resources, and intangibles.
2. Deductible pension funding exceeding expense.
3. Prepaid expenses that are deducted on the tax return in the period paid.
4. Development costs that are deducted on the tax return in the period paid.
LO 6
Specific Differences
Permanent differences result from items that (1) enter into
pretax financial income but never into taxable income or (2)
enter into taxable income but never into pretax financial income.
Permanent differences affect only the period in which they occur.
They do not give rise to future taxable or deductible amounts.
There are no deferred tax consequences to be recognized.
LO 6
Permanent Differences ILLUSTRATION 19-24
Examples of Permanent
Differences
Items are recognized for financial reporting purposes but not for tax purposes.
Examples:
1. Interest received on certain types of government obligations.
2. Expenses incurred in obtaining tax-exempt income.
3. Fines and expenses resulting from a violation of law.
4. Charitable donations recognized as expense but sometimes not deductible for tax
purposes.
Items are recognized for tax purposes but not for financial reporting purposes.
Examples:
1. “Percentage depletion” of natural resources in excess of their cost.
2. The deduction for dividends received from other corporations, sometimes considered
tax-exempt.
LO 6
Specific Differences
Illustration
Do the following generate:
• Future Deductible Amount = Deferred Tax Asset
• Future Taxable Amount = Deferred Tax Liability
• Permanent Difference
1. An accelerated depreciation system is used for tax Future Taxable
purposes, and the straight-line depreciation method Amount
is used for financial reporting purposes. Liability
2. A landlord collects some rents in advance. Rents Future Deductible
received are taxable in the period when they are Amount
Asset
received.
3. Expenses are incurred in obtaining tax-exempt Permanent
Difference
income.
LO 6
Specific Differences
Illustration
Do the following generate:
• Future Deductible Amount = Deferred Tax Asset
• Future Taxable Amount = Deferred Tax Liability
• Permanent Difference
Future Deductible
4. Costs of guarantees and warranties are estimated Amount
and accrued for financial reporting purposes. Asset
5. Installment sales of investments are accounted for
Future Taxable
by the accrual method for financial reporting Amount
purposes and the installment method for tax Liability
purposes.
6. Interest is received on an investment in tax-exempt Permanent
governmental obligations. Difference
LO 6
FINANCIAL STATEMENT PRESENTATION
Statement of Financial Position
Deferred tax assets and deferred tax liabilities are also separately
recognized and measured but may be offset in the statement of
financial position.
The net deferred tax asset or net deferred tax liability is reported in
the non-current section of the statement of financial position.
LO 9
Statement of Financial Position
ILLUSTRATION 19-38
Classification of Temporary
Differences
LO 9
FINANCIAL STATEMENT PRESENTATION
Income Statement
Companies allocate income tax expense (or benefit) to
continuing operations,
discontinued operations,
other comprehensive income, and
prior period adjustments.
LO 9
Income Statement
Components of income tax expense (benefit) may include:
1. Current tax expense (benefit).
2. Any adjustments recognized in the period for current tax of prior
periods.
3. Amount of deferred tax expense (benefit) relating to the
origination and reversal of temporary differences.
4. Amount of deferred tax expense (benefit) relating to changes in
tax rates or the imposition of new taxes.
5. Amount of the benefit arising from a previously unrecognized
tax loss, tax credit, or temporary difference of a prior period that
is used to reduce current and deferred tax expense.
LO
LO99
Loss carry-forward
A deferred tax asset shall be recognized for the
carry forward of unused tax losses if it is
probable (“more likely than not”) that future
taxable profit will be available against which the
unused tax losses can be utilized.
23
Example 4
An entity has a tax loss of Br 8 million which can be
carried forward for 5 years. The estimated cumulative
taxable profits for the next five years are Br 6 million. It
is estimated that Br 2 million of the tax loss will expire
unused. The tax rate is 30%.
1. What is the deferred tax asset?
2. What is the journal entry?
24
Example 4 Solution
The entity recognizes a deferred tax asset of Br
1.8 million (Br 6 million x 30%)
Deferred Tax Asset…………… 1,800,000
Deferred Tax Income…………………1,800,000
25
Example 1
An asset that costs Br 600,000 has a carrying amount of
Br 430,000. Cumulative depreciation for tax purposes is
Br 200,000 and the tax rate is 30%.
1. What is the tax base of the asset?
2. What is the temporary difference?
3. Is it taxable or deductible temporary difference?
4. What is the deferred tax?
5. Is it a deferred tax asset or liability?
26
Example 1 Solution
1. TB= Br 600,000- Br 200,000=400,000
2. TD= Br 430,000- Br 400,000= 30,000
3. Taxable temporary difference
4. DT= Br 30,000 x 30%= 9,000
5. Deferred tax liability
27
T
h
a
n
k
Y
o
u
!
!
