Prepared by John Andrews aka Paddingtonbear IAS 12 Taxation Current & Deferred Tax IAS 12 covers current tax in general terms : general principles : CT is recognised in SoCI... unless tax relates to items accounted for in equity Tax rates used are those enacted by reporting date CT is tax payable on gains/losses in year + adjustments to tax payable in previous year CT and Dividends : Outgoing & incoming dividends & interest should NOT include tax credit but SHOULD include tax credits with parent tax Tax credit is notional credit given to UK company when it pays dividends So.. Dividends from UK companies.. Are reported as the CASH amount receivable / payable WITHHOLDING TAX is tax on dividends... deducted by the payer & paid direct to HMRC on behalf of the dividend recipient. E.g. UK companies will deduct tax when paying dividends to overseas shareholders. Illustration : Paddingtonbear ltd has operating profit of 2m The company pays debenture interest of 400,000 cash to debenture holders after deduction at source of 100,000 income tax. The company receives cash dividend of 300,000 from shares it owns in another UK company The interest cost included in SoCI of Paddingtonbear is the gross amount of 500,000. Income tax deducted at source is paid over to HMRC quarterly. Investment income is the 300,000 received OCI
Under / over provisions : the figure for income tax on profits : Estimate of the amount that will be eventually paid Goes to C.L. in SoFP Dealt with in the followings year s tax charge : Under provision increases the charge Over provision decreases the charge Illustration : U / O Provision for Tax Income tax provision for (31/05/2005) 316,000 Income tax paid (28/02/2006) 263,000 Income tax charge at 30% for y/e (31/05/2006) 383,500 Show entries in income tax account and SoCI for year to 31/05/2006 Dr Income Tax Cr 28/02/2006 263,000 01/06/2005 316,000 31/05/2006 53,000 316,000 316,000 Bal 31/05/2006 53,000 As a t 31/05/2006 before accounting for the current year tax provision, there is already a credit balance on the income tax a/c due to an over provision of 53,000 from previous year. This is adjusted for by Cr SoCI for y/e (31/05/2006) with the over provision form last year of 53,000 and Dr SoCI with current year tax provision of 383,500. Dr Income Tax Cr 31/05/2006 SoCI 53,000 31/05/2006 bal c/f 53,000 31/05/2006 bal c/f 383,500 31/05/2006 SoCI 383,500 436,500 436,500 01/06/2006 Bal b/f 383,500 Extract ; SoCI for y/e 31/05/2006 Profit x Tax (330,500) PAT x Note to Financial Statements Income Tax at 30% dr 383,500 Over provision in previous year cr (53,000) bal 330,500
Deferred Tax (DT) Deferred tax : the estimated future tax consequences of transactions and events recognised in financial statements of current & previous periods Transactions already recognised in accounts have future tax consequences because of differences arising between reported PBT and taxable profits DT is a basis of allocating tax charges to accounting periods : Key to DT is in 2 concepts of profit: Accounting Profit Taxable Profit PBT reported to shareholders in accounts....accruals concept profit figure on which HMRC base tax calculations.... Tax principles, rules, legislation Why bother with DT? Matching of tax expense with economic income earned..... When an event is recognised the tax consequence of that event should also be recognised i.e. match tax to the same financial period Illustration : Computation of Tax Expense with & without DT With DT Tax comp Without DT Year 1 Year 2 Year 1 Year 2 200 300 Pre tax book income 200 300 0 0 +/- permanent differences 0 0 + 100-100 +/- temporary differences + 100-100 300 200 = taxable income 300 200 35% 35% * tax rate 35% 35% 105 70 = current tax expense 105 70-35 +35 + DT expense or benefit 0 0 70 105 = TATAL TAX EXPENSE 105 70 35% 35% ETR expected tax rate (105/200) 52.5% Deferring tax & matching to when income is earned (70/300) 23.3%
Key terms & concepts : The difference between accounting profit and tax profit is caused by : Permanent & Temporary difference Permanent Differences : One off differences between accounting & tax profits caused by certain items not being taxable Only impact tax comp of one period No DT consequences Client entertainment expenses Temporary / Timing Differences : Difference between tax basis of asset/liability and it s reported amount resulting in taxable or deductible amounts in future years when the reported amount is recovered/settled Revenues or gains that are taxable before or after they are recognised in accounts.. Expenses or losses that are deductible before or after they are recognised in accounts Patent royalties Difference between depreciation charged on NCA that qualifies for tax allowance and the actual allowances given IAS 12 states all timing differences must be provided for in full.. [DT -/+ (timing diff * tax rate)= DT For each period calculate DT.. increases or decreases are dealt with in SoCI (see examples 2 & 3) Illustration : At 30/09 Paddingtonbear has NCA with a CV of 1,100,000 but a tax WDV of 700,000 The b/f balance on the DT account is 300,000. Assume tax rate 30% Compute effect of DT on the financial statements for y/e 30/09? (CV - WDV = WDA * 30%)= Future DT... (1,100,000-700,000 = 400,000 * 30%)= 120,000 Future DT liability DT Account : Open bal 300,000 Decrease (BALANCING FIGURE) (180,000) Close bal 120,000 Double entry : DR DT 180,000 Cr SoCI tax expense 180,000
IAS 12 requires a DT Liability : To be recognised for all taxable temporary differences Taxable temporary difference arises where CV of asset exceeds tax base Calculate liability using full provision No discounting of liability IAS 12 requires a DT Asset : DT assets to be recognised for all deductible temporary difference A deductible temporary difference arise where tax base of asset exceeds CV...... To the extent that it is probable taxable profit is available against which deductible temp diff can be utilised No discounting of asset Tax Losses If an entity doesn t expect to have tax profits in future it can not recognise the asset in it s own accounts unless... entity is part of a group... it may surrender tax losses to other group companies.. then DT assets may be recognised in group accounts Asset is equal to tax losses expected to be utilised multiplied by tax rate Disclosure Tax expense recognised in SoCI Major components of tax expense disclosed in notes to accounts CT and DT charged directly to equity Amount of tax relating to each component of Other Comprehensive Income Explanation relationship between tax expense and accounting profit... Tax rate
Examples 1: DT Prepare accounts for y/e (31/12/2005) DT at (31/12/2004) was 63,000 and an increase of 15,000 is needed for 2005. CT charge for 2005 is 84,000 Required : Prepare SoFP and SoCI extracts for y/e (31/12/2005) SoFP (31/12/2005) extract (63 + 15) = 78,000 SoCI (31/12/2005) extract (84 + 15) = 99,000 Example 2 : DT Prepare accounts for y/e (31/12/2005) DT provision was 78,000 and past cumulative timing difference of 180,000 has accumulated at y/e CT at 30% is estimated at 254,000 Required : Prepare SoFP and SoCI extracts for y/e (31/12/2005) SoFP (31/12/2005) extract [(78 - (180*30%)= (24)] 54,000 SoCI (31/12/2005) extract [(254 - (180*30%)= (24)] = decrease in provision 230,000 Example 3 : DT and Over provision Paddingtonbear has a marmalade factory. The following is a TB extract as at (31/12/2005) : DR CR Sales 100,000 Operating Costs 55,000 Dividends Rec d 8,000 DT 19,000 Corporation Tax (over provision from previous year) 4,000 A timing difference of 25,000 has accumulated at y/e. Corporation tax is estimated at 30,000 at 20% Required : a) prepare SoCI and a note to the accounts b) prepare the DT SoCI note SoCI (31/12/2005) extract Sales 100,000 Operating Costs (55,000) Operating Profit 45,000 Other Comprehensive Income 8,000 PBT 53,000 CorpTax (note 1) (32,000) PAT 21,000 1). Note to SoCI :
CT for year 30,000 Less CT previous year over provision (4,000) DT difference (19,000-25,000)= DT increase 6,000 32,000 SoFP (31/12/2005) extract Open balance DT 19,000 Increase in DT timing difference 6,000 Closing balance DT 25,000