IAS 12 Income Taxes (Part A)

Objective

To describe the rules for recognition and measurement of taxation

Scope

IAS 12 must be applied in accounting for all income taxes.

Income taxes include

• Domestic taxes on taxable profits;
• Foreign taxes on taxable profits, and
• Withholding taxes payable on distribution

Definitions

• Accounting profit is a net profit or loss for the period before deducting tax expenses.
• Tax profit is the profit (loss) for a period on which income taxes are payable( recoverable)
• Current Tax is the amount of income tax payable (recoverable) in respect of taxable profit (tax loss) for a period.
• Deferred tax liabilities are the amounts of income taxes payable in future periods in respect of taxable temporary difference.
• Deferred tax assets are the amounts of income taxes recoverable in future periods in respect of:
• Deductible temporary difference;
• The carry forward of unused tax losses and
• The carry forward of unused tax credit.

• The tax base of an asset or liability is the amount attributed tot hat asset or liability for tax purpose.
• Temporary differences are difference between the carrying amount of an asset or liability in the balance sheet and its tax base.

Current Tax

1. The tax payable to (or receivable from) the tax authorities in the jurisdiction in which an entity operates is accounted for according to the basic principle of accounting for liabilities and assets.

2. Current tax (for current and prior period) should, to the extent unpaid, be recognized as a liability.

3. If the amount already paid in respect of current and prior periods exceeds the amount due for those periods, the excess should be recognized as an asset.

4. The benefits relating to a tax loss that can be carried back to recover current tax of a previous period should be recognized as an assets.

Deferred taxation –an introduction

The underlying problem

· In most jurisdiction accounting profit and taxable profit differ, meaning that the tax change may bear little relation to profit in a period.

· Difference arises due to the fact that tax authorities follow rules that differ from IAS rules in arriving at taxable profit.

· Transactions, which are recognized in the accounts in a particular period, may have their tax effect deferred until a later period.

· It is convenient to envisage two desperate sets of accounts:

o One set constructed following IAS rules; and

o A second set following the tax rules of the jurisdiction in which the entity operates (the “tax computation”).

· The difference between the two sets of rules will result in different numbers in the financial statements and in the tax computations. These difference may be viewed from:

o A balance sheet perspective; or

o An income statement perspective.

· The current tax charge for the period will be based on the tax authorities view of the profits, not the accounting view. This will mean that the relationship between the accounting “profit before tax” and the tax charge will be the tax rate applied to the accounting profit figure but the tax rate applied to a tax composition figure.

· At each balance sheet date the deferred tax liability might be identified from a balance sheet or an income statement view.

· The balance sheet view identifies the deferred taxation balance that is required in the balance sheet whereas the income statement approach is identifies the deferred tax that arises during the period.

· IAS 12 takes the first approach called “valuation Adjustment approach” to full provisioning.

· The balance sheet approach calculates the liability (or more rarely the asset) that a company would need to set up on the face of its balance sheet.

· Application of the tax rate to the balance sheet difference will give the deferred tax balance sheet should be recognized in the balance sheet.

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• Accounting for the tax on the difference through the income statement restores the relationship that should exist between the accounting profit and the tax charge. It does this by taking a debit of a credit to the income statement. This then interacts with the current tax expense to give an over all figures that is the accounting profit multiplied by the tax rate.
• Accruals and provisions for taxation will impact on earning per share, net assets per share and gearing.

Tax bases

The tax base of an asset or liability is deferred as the amount attributed to that asset liability for tax purposes.
(continued in Part B)