Business Taxes

Chapter 12Supporting the Financial Accounting and Audit Teams in Reporting Tax Charges and Provisions in the Reporting Cycle

LEARNING OUTCOMES

This chapter illustrates how to prepare the tax disclosure notes for the Financial Statements and distinguishes the difference between the tax reporting requirements for IFRS and FRS.

12.1 Set out the requirements of the accounting standards (under FRS 102 and IFRS) relevant to the reporting of deferred tax 317
12.2 Reconcile the current expected tax charge with the current tax expense or income 321
12.3 Set out the main differences between Financial Statements prepared under FRS 102 and under IFRS, and identify what entities are most likely to report under FRS 102 and which under IFRS 330
12.4 Outline the tax issues that arise when Financial Statements are subsequently amended (IFRS and FRS102) 332

RELEVANT PAST EXAM QUESTIONS

2015, Summer, Question 4(c)

2015, Autumn, Question 5(b)

2017, Summer, Question 3(c)

2017, Autumn, Question 2(b)

12.1.Set out the requirements of the accounting standards (under FRS 102 and IFRS) relevant to the reporting of deferred tax

12.1.1.IFRS Accounting Requirements

Current Tax

As you know, IAS 12 – Income Tax is the International Accounting Standard which sets out how the current and deferred corporation tax charge is to be disclosed in the Statement of Comprehensive Income and how the company’s corporation tax liability at year end should be disclosed in the Statement of Financial Position.

Under IAS 12 (paragraph 79 and 80) the three following components of the tax expense (or tax income) must be disclosed separately:

the current tax expense (or income);

any prior year under- or over-provision for current tax; and

the amount of deferred tax expense (or income).

IAS 12 (paragraph 81) also requires a reconciliation between the current tax charge and the expected tax charge. The standard states that the Financial Statements should disclose:

“an explanation of the relationship between tax expense (income) and accounting profit in either or both of the following forms:

(i) a numerical reconciliation between tax expense (income) and the product of accounting profit multiplied by the applicable tax rate(s), disclosing also the basis on which the applicable tax rate(s) is (are) computed; or

(ii) a numerical reconciliation between the average effective tax rate and the applicable tax rate, disclosing also the basis on which the applicable tax rate is computed;”

Of the two methods given above, (i) is the most commonly used. The examples given in the next section use this method.

Deferred Tax

Under IAS 12 (paragraph 81(g)), a company should disclose the amount of deferred tax assets and liabilities recognised in the Statement of Financial Position for each type of temporary difference.

Task 12.1

State whether the following should result in a deferred tax asset or a deferred tax liability:

1. Interest revenue is received in arrears. It is included in the accounting profit on a time apportionment basis but is subject to corporation tax on a received basis (or cash basis) under s. 261(c) TCA 1997.

2. The carrying amount of a piece of plant in the Financial Statements is greater than the tax written down value of the same asset as at the Statement of Financial Position date.

3. An asset is depreciated for accounting purposes at 5% per annum but is subject to capital allowances at 12.5% per annum under s. 284(2) TCA 1997.

4. A government grant which is included in the Statement of Financial Position as deferred income is tax exempt (under s. 224 TCA 1997) and will not be taxed in future periods.

5. A company’s prepaid contributions to an occupational pension scheme have already been deducted on a cash basis (per s. 774(6) TCA 1997).

12.1.2.FRS 102 Accounting Requirements

Financial Statements not being prepared under IFRS in the UK and Ireland are prepared under UK/Irish GAAP as FRS 102, which are issued by the FRC (Financial reporting Council). FRS 102 has been in use for accounting periods beginning on or after 1 January 2015.

Current Tax

FRS 102 Section 29 Income Tax is the section in the Financial Reporting Standard which sets out how the current corporation tax charge is to be disclosed in the Statement of Comprehensive Income/Profit & Loss account. The requirements of FRS 102 are equivalent to the provisions of IAS 12 from a current tax perspective.

Current tax is defined as:

“Current tax is tax payable (refundable) in respect of the taxable profit (tax loss) for the current period or past reporting periods. The tax charge should be inclusive of withholding taxes, therefore the charge should be before an allowance for items such as DIRT, as it is not a final tax.

As well as setting out the Statement of Comprehensive Income notes, FRS 102 section 29 also sets out how the corporation tax liability of a company is to be disclosed in the Statement of Financial Position/Balance Sheet.

The Standard states that the amount to be shown as the liability is:

“An entity shall recognise a current tax liability for tax payable on taxable profit for the current and past periods.”

A tax rate has been substantively enacted according to the FRS:

“if it is included in a Bill that has been passed by the Dail”

The corporation tax liability in the Statement of Financial Position is shown under short term liabilities as a creditor. The total amount for creditors is normally analysed in a note to the Statement of Financial Position and the taxation liability will be included in these amounts on a separate line.

Deferred Tax

FRS 102 section 29 income Tax is the section within the Financial Reporting Standard which sets out how the deferred tax charge is to be disclosed in the Statement of Comprehensive Income and Statement of Financial Position. While FRS 102 requires fewer disclosure than the full IAS 12 Standard, the principles are the same.

Deferred tax assets/liabilities arise under FRS 102 due to ‘Timing Differences’. (IAS 12 talks about “temporary differences”.) The Standard (s. 29.6) defines timing differences as differences between taxable profits and total comprehensive income as stated in the Financial Statements that arise from the inclusion of income and expenses in tax assessments in periods different from those in which they are recognised in Financial Statements. For example, FRS 102 section 29 requires a company to calculate the tax difference between depreciation and capital allowances on the same asset and if the difference is material to provide a liability or asset in the accounts. If the asset is being depreciated at a rate higher than the capital allowance, then this will lead to the creation of a deferred tax asset and if vice versa a liability.

One of the principle components of the standard is that only items involving timing differences should be recognised in the Financial Statements.

A loss occurring in a year usually gives rise to a deferred tax asset as the loss can be carried forward to shelter future income from the same trade.

The deferred corporation tax asset in the Statement of Financial Position is shown under current assets with debtors. The total amount for debtors is normally analysed in a note to the Statement of Financial Position and the deferred asset shown separately. Deferred tax liabilities are shown under provisions in the Statement of Financial Position and included under provisions as a note to the Statement of Financial Position.

The opening balance, movement for the period and closing balance are shown for deferred tax assets and liabilities as a separate note in the Statement of Financial Position. Assets and liabilities are normally offset against each other where they relate to the same taxing authority.

The Standard only allows recognition of a deferred tax asset when there is a reasonable likelihood of it being reversed.

Therefore a company generating trading losses for a number of years with no expectation of a turnaround sufficient to enable utilisation of the losses would generally not create a deferred tax asset. If the situation changes and trading improves, then the deferred tax asset can be introduced at that stage. Until then, the company should insert a note into their accounts stating the potential value of the deferred tax and the fact that it is not included in the accounts. This note is entered as a subnote to the deferred tax note under “factors that may affect future tax”.

As noted above deferred tax should only be calculated on items which are subject to timing differences.

Permanent differences as defined as follows are not included in the calculation:

“differences between an entity’s taxable profits and its results as stated in the Financial Statements that arise because certain types of income and expenditure are non-taxable or disallowable, or because certain tax charges or allowances have no corresponding amount in the Financial Statements.”

An example of a permanent tax difference is franked investment income (FII). FII is not taxable under Irish legislation and therefore any tax saved in one period will not reverse in a later period.

FRS 102 also requires that the tax charge per the accounts (which is the actual tax liability, taking into account any adjustments for prior periods together with the movement on deferred tax) is reconciled to a notional tax charge based on the accounts profit before tax.

The standard requires:

An entity shall disclose the following separately:

(a) the aggregate current and deferred tax relating to items that are recognised as items of other comprehensive income or equity;

(b) a reconciliation between:

(i) the tax expense (income) included in profit or loss; and

(ii) the profit or loss on ordinary activities before tax multiplied by the applicable tax rate;

See example of the operation of FRS 102 section 29 in 12.2.2.

FRS 102 section 29 and IAS 12 are similar in their treatment of deferred tax

12.2.Reconcile the current expected tax charge with the current tax expense or income

12.2.1.IFRS methodology – IAS 12

Step plan for reconciliation:

Step 1: Calculate the expected tax expense (or income) by applying the current tax rate to the accounting profit (loss).

Step 2: Calculate the current tax expense (or income) for the accounting period. This is identical to the corporation tax charge for the period.

Step 3: Calculate the deferred tax expense (or income) for the accounting period.

Step 4: Calculate the tax expense (or income) to be included in the Statement of Comprehensive Income by adding the current and deferred tax expense (or income) for the period.

Step 5: Identify any non-taxable income and non-tax deductible expenses which are included in the Statement of Comprehensive Income and calculate the tax effect.

Step 6: Prepare the disclosures required under IAS 12.

Example 12.1

J Ltd purchases a machine for €20,000 in May 2018. It has a depreciation policy of 20% per annum straight line. It has a December year end.

The company had a profit before tax of €100,000, including parking fines of €2,000 for the accounting period to 31 December 2018.

Step 1: To the typical accounts reader, the taxation liability of J Ltd for the accounting period to 31 December 2018 should be €12,500. This equals the accounting profits of €100,000 multiplied by the standard corporation tax rate of 12.5%.

Step 2: Calculate J Ltd’s current tax expense (or income) for the year ending 31 December 2018

J Ltd’s corporation tax computation for the 2018 period would be as follows:

Profit before Tax 100,000
Addback:
Depreciation 4,000
Parking fines 2,000
Deduct:
Capital allowances (2,500)
Taxable Case I 103,500
Corporation tax @ 12.50% 12,938

Step 3: Calculate the deferred tax expense (or income) for the accounting period

Firstly, identify any temporary differences between the carrying amounts in the Statement of Financial Position and their tax bases

Machine:

Book value per accounts (€20,000 minus depreciation €4,000) €16,000
Tax written down value (€20,000 minus capital allowances €2,500) €17,500
Deductible temporary difference €1,500

Deductible temporary difference × tax rate = Deferred Tax Asset

€1,500 × 12.5% = €187.50

Next, the deferred tax entry in the Statement of Comprehensive Income for the period equals the deferred tax provision at the end of the accounting period (€188) minus the deferred tax provision at the beginning of the accounting period (zero), i.e. €188.

This is deferred tax income because the underlying deferred tax asset has increased over the course of the accounting period.

Step 4: Calculate the tax expense (or income) to be included in the Statement of Comprehensive Income by adding the current and deferred tax expense (or income) for the period.

Current Tax €12,938
Deferred tax income (€188)
Tax Expense €12,750

Step 5: Identify any non-taxable income and non-tax deductible expenses which are included in the income statement and calculate the tax effect.

J Ltd incurred parking fines of €2,000 during the accounting period to 31 December 2018. According to s. 81(2)(a) TCA 1997 and case law, these fines are not deductible for corporation tax purposes.

The tax effect of these non-deductible expenses is: €2,000 × 12.5% = €250.

Step 6: Prepare the disclosures required under IAS 12.

The full note in the Financial Statements including the deferred tax element would be as follows:

Major components of tax expense (IAS 12 paragraph 79):

Current Tax Expense €12,938
Deferred Tax income relating to the origination of temporary differences (€188)
Tax Expense €12,750

Explanation of the relationship between tax expense and accounting profits (IAS 12, paragraph 81):

Accounting profits €100,000
Tax at the applicable rate (12.50%) €12,500

Tax effect of expenses that are not deductible in determining taxable profit:

Parking fines €250
Tax Expense €12,750

The amount of the deferred tax assets and liabilities recognised in the Statement of Financial Position in respect of each type of temporary difference

Deferred Tax: Accelerated depreciation for accounting purposes €188
Deferred Tax Asset €188

Note:

The amount of the deferred tax income recognised in the Statement of Comprehensive Income for the current year is apparent from the amount recognised in the Statement of Financial Position.

Example 12.2

C DAC has a profit before tax of €200,000 in the period. Included in the Statement of Comprehensive Income is a donation to a political party of €5,000.

Corporation tax charge:
Profit before tax €200,000
Addback:
Donation €5,000
Taxable Case I €205,000
Corporation tax liability (12.5%) = €25,625

The full note in the Financial Statements including the deferred tax element would be as follows:

Current tax expense €25,625
Deferred tax expense 0
Tax expense €25,625

Explanation of the relationship between tax expenses and accounting profits

Accounting profits €200,000
Tax at the applicable rate (12.5%) €25,000
Tax effect of expenses that are not deductible in determining taxable profit (being 5,000 × 12.5%) €625
Tax expense €25,625

There is no deferred tax as the disallowance of the donation for tax purposes is permanent, not temporary (the expense does not, nor will in the future, meet the criteria under s. 81(2)(a) TCA 1997).

Example 12.3

A Ltd had a profit for the year ended 31 December 2018 of €90,000 and its tax advisers have prepared the following computation:

Profit as per accounts 90,000
Addback
Depreciation 15,000
Parking fines 1,000
Interest on late taxes 2,000
18,000
Deduct
Irish dividends received 3,000
Gross bank interest 1,500
Capital allowances 17,000
(21,500)
Taxable Case I Income 86,500
Less trade losses forward (10,000)
Case I 76,500
Case III 1,500
Total Profits 78,000
Case I (76,500 × 12.5%) 9,563
Case III (1,500 × 25%) 375
Total tax charge 9,938

The company’s auditors have asked the tax advisers to provide accounting notes under IAS 12.

The tax adviser’s schedules for the deferred tax for the year ended 31 December 2017 were as follows:

Opening deferred tax asset (or liability) Nil
Deductible temporary difference:
Losses incurred to 31 December 2017 €10,000
Carrying amount of the assets as at 31 December 2017 120,000
Tax base of selected assets as at 31 December 2017 100,000
Taxable temporary difference (€20,000)
€10,000 @ 12.5%
Deferred tax liability as at 31 December 2017 (€1,250)

The notes to the Financial Statements are as follows:

Major components of tax expense

Current tax expense €9,938
Deferred tax expense €1,500 (See Note 1)
Tax expense €11,438

Explanation of the relationship between tax expenses and accounting profits

Accounting profits €90,000
Tax at the applicable rate (12.50%) €11,250
Tax effect of exempt income (€375) (See Note 2)
Tax effect of expenses that are not deductible for tax purposes €375 (See Note 3)
Tax effect of income taxed at higher rate €188 (See Note 4)
Tax expense €11,438

The amount of the deferred tax assets and liabilities recognised in the Statement of Financial Position in respect of each type of temporary difference

Deferred tax:
Accelerated depreciation for taxation purposes €2,750
Deferred tax liability €2,750

(Note: the amount of the deferred tax expense recognised in the Statement of Comprehensive Income for the current year is apparent from the amount recognised in the Statement of Financial Position)

Notes to computation (these would not be provided in the accounts):

Note 1

The deferred tax expense is calculated as follows:

Losses:

Carrying amount of tax losses at 31 December 2018 Zero
The tax base at 31 December 2018 Zero
Timing difference Zero

The losses were used for tax purposes in the 2018 accounting period and, therefore, their tax base has been reduced to zero.

Assets:

Carrying amount as at 31 December 2018 €105,000
(€120,000 − Depreciation of €15,000)
Tax base as at 31 December 2018 €83,000
(€100,000 − Capital Allowances of €17,000)
Taxable temporary difference €22,000
Multiply by the appropriate tax rate 12.5%
Resulting deferred tax liability €2,750

Therefore the increase in the deferred tax liability between 31 December 2017

and 31 December 2018 is €2,750 − €1,250 = €1,500.

This is the deferred tax expense.

Note 2

Irish dividends are exempt in the hands of Irish companies - therefore this decreases the tax liability per the accounts €3,000 × 12.5% = €375

Note 3

The tax addbacks of fines and interest on late payments (€1,000 1 €2,000) are a cost to the company. Therefore, this increases the tax charge in the accounts by €375 (€3,000 × 12.5%)

Note 4

The note to the Financial Statements assumes that the company’s Case III income will be taxed at 12.5%. However as passive income is charged at 25% (s. 21A TCA 1997) a further 12.5% must be added to the charge (25% passive − 12.5% standard = additional 12.5%). Therefore, this increases the tax liability by €1,500 × 12.5% = €188.

Task 12.2

A Ltd had a profit for the year ended 31 December 2018 of €180,000 and its tax advisers have prepared the following computation:

Profit as per accounts 180,000
Addback
Depreciation 25,000
Pension contribution not paid 20,000
Client entertainment 5,000
50,000
Deduct
Rental Income 6,000
Capital allowances 35,000
(41,000)
Case I 189,000
Case V 6,000
Total Profits 195,000
Case I (189,000 312.5%) 23,625
Case V ( 6,000 325%) 1,500
Total tax liability 25,125

The tax advisers schedule for the deferred tax in the previous year was as follows:

Carrying amount as at 31 December 2017 150,000
Tax base as at 31 December 2017 (135,000)
Taxable temporary difference 15,000
Multiplied by the appropriate tax rate 12.5%
Deferred tax liability as at 31 December 2017 €1,875

The company’s auditors have asked the tax advisers to provide the accounting notes under IAS 12.

12.2.2.FRS methodology – FRS 102

Step plan for reconciliation:

Step 1: Calculate the expected tax expense (or income) by applying the current tax rate to the accounting profit (loss).

Step 2: Calculate the current tax expense (or income) for the accounting period. This is identical to the corporation tax charge for the period.

Step 3: Calculate the deferred tax expense (or income) for the accounting period.

Step 4: Calculate the tax expense (or income) to be included in the income statement by adding the current and deferred tax expense (or income) for the period.

Step 5: Identify any non-taxable income and non-tax deductible expenses which are included in the income statement and calculate the tax effect.

Step 6: Prepare the disclosures required under FRS 102.

Example 12.4 - same amounts as example 12.3 (IFRS example)

A Ltd had a profit for the year ended 31 December 2018 of €90,000 and its tax advisers have prepared the following computation:

Profit as per accounts 90,000
Addback
Depreciation 15,000
Parking fines 1,000
Interest on late taxes 2,000
18,000
Deduct
Irish dividends received 3,000
Gross bank interest 1,500
Capital allowances 17,000
(21,500)
Taxable Case I Income 86,500
Less trade losses forward (10,000)
Case I 76,500
Case III 1,500
Total Profits 78,000
Case I (76,500 × 12.5%) 9,563
Case III (1,500 × 25% ) 375
Total tax liability 9,938

The company’s auditors have asked the tax advisers to provide accounting notes under FRS 102.

The tax adviser’s schedules for the deferred tax for the year ended 31 December 2017 were as follows:

Opening deferred tax asset (or liability) Nil
Deductible timing difference: Losses incurred to 31 December 2017 €10,000
Net book value of the assets as at 31 December 2017 120,000
Tax written down value of assets as at 31 December 2017 100,000
Taxable timing difference (€20,000)
(€10,000)

Deferred tax liability as at 31 December 2017 = €10,000 × 12.50% €1,250

Using the computation provided the notes are as follows:

1. Tax on profit on ordinary activities
Current Tax on Income for the Period 9,938
Deferred taxation Charge 1,500 (Note 1)
Tax Charge on Profit on Ordinary Activities 11,438

Factors affecting the current tax charge

The tax assessed for the period differs from the standard rate of corporation tax. The differences are explained below.

2018
Profit on ordinary activities 90,000
Profit on ordinary activities at standard corporation tax rate 12.50% 11,250
Dividends received from Irish Companies (375) (Note 2)
Expenses not deductible for tax expenses 375 (Note 3)
Income taxed at higher rate 188 (Note 4)
Current Tax on Income for the Period 11,438
2. Provision for liabilities and charges: 2018
Opening balance 1,250 (as provided)
Charge for period 1,500 (Note 1)
Closing balance 2,750 (Note 1)

Notes to computation (these would not be provided in the accounts)

Note 1 The current deferred tax liability is as follows:

Losses incurred to 31 December 2018 - nil - all utilised (A)
Tax written down value 31 Dec 2018 83,000 (B)
Net book value per accounts 31 Dec 2018 105,000 (C)
(22,000)
(22,000) × 12.5% = (2,750)
Opening deferred tax balance 1,250
Movement for the year 1,500

(A) The losses brought into the year were a tax asset and sheltered income from the year 2017 - used in the 2018 computation.

(B) Previous years TWDV €100,000 less 2018 capital allowances €17,000 = €83,000.

(C) Previous years NBV €120,000 less 2018 depreciation €15,000 = €105,000.

Note 2 Irish dividends are exempt in the hands of Irish companies and therefore this decreases the tax liability per the accounts €3,000 × 12.5% = €375

Note 3 The tax addbacks of fines and interest (€1,000 + €2,000) are a cost to the company therefore increase the tax charge in the accounts by €375 (€3,000 × 12.5%)

Note 4 The interest is charged in the accounts note at 12.5%. However as passive income is charged at 25% a further 12.5% must be added to the charge (25% passive − 12.5% standard = additional 12.5%). Increase the tax liability by 1,500 × 12.5% = €188.

12.3.Set out the main differences between Financial Statements prepared under FRS 102 and under IFRS, and identify what entities are most likely to report under FRS 102 and which under IFRS

12.3.1.Set out the main differences between FRS and IFRS standards

The purpose of the commentary here is to set out the major differences between FRS 102 (Irish GAAP) and IFRS. It also sets out the taxation implications of such differences.

It should be appreciated that the list below is that of the main sections which concern taxation matters. You should refer to Taxing GAAP and IFRS for more details and further discussions on these topics.

It is beyond the scope of this section to compare each IFRS and IAS statement to the relevant FRS 102 and to analyse its taxation impact.

Income recognition

FRS 102 Section 23 deals with Revenue recognition and is similar to IAS 18.

As regards international standards, IAS 18 states that income should be recognised when it is probable that future economic benefits will flow to the company and they can be measured reliably.

The introduction of IFRS to these companies will therefore give rise to the need to defer income received to future periods.

For taxation purposes no adjustment need be made and the company will be taxed when the income is recognised in its income statement.

Property, plant and Equipment and depreciation

There are no major differences between Irish and UK GAAP (FRS 102 section 17) and IFRS in accounting for property plant and equipment and associated depreciation. Under both systems companies can choose between the cost model, in which the asset is stated at its historic cost less accumulated depreciation and the fair value model.

If it utilises this latter option the asset is stated at its revalued amount (provided that this can be measured reliably) less accumulated depreciation. Deferred tax arises on the revalued amounts as the carrying amount in the accounts is changed.

Interest on borrowings

There are no major differences between Irish GAAP (FRS 102 section 25) and IFRS (IAS 23). IAS 23 requires interest on borrowings relating to capital assets to be capitalised until the asset is ready for use or sale. While this option is allowed under FRS 102, it is not mandatory.

S. 81(3) TCA 1997 allows interest on capital borrowings, including capitalised borrowings, to be deducted from taxable income.

The same section also grants a deduction for research and development expenditure and confirms that the deduction for such expenditure is not affected by the expenditure being capitalised.

Goodwill

Irish and UK GAAP (FRS 102 Section 19) provides that goodwill be amortised over a maximum of ten years. IFRS (IAS 36, IAS 38 and IFRS 3) allows impairment of goodwill only.

Expenditure on goodwill on or before 7 May 2009 is not deductible for corporation tax purposes and any charge to the income statement is added back. After 7 May 2009, relief is available in respect of goodwill to the extent that it relates to specified intangible assets.

Identify what entities are most likely to report under FRS 102 and which under IFRS

As you saw at Part 1, all companies listed in the EU are legally obliged to apply IFRS standards for accounting periods commencing on or after 1 January 2005. This obligation arises from the EU IAS Regulation (1606/2002) which was implemented in Ireland by SI No. 116 of 2005.

Therefore all listed companies and large corporate with branches across different countries use IFRS.

Unlisted companies, for example Irish family controlled companies, have a choice of either remaining with FRS or adopting IFRS. This is regardless of their size – e.g., Dunnes Stores, Musgraves etc.

In the main, non-listed companies use FRS 102 since 2015.

The Accounting Council of the FRC will continue to regulate non-listed companies in the UK and Ireland, who prepare their accounts under FRS 102 (Irish GAAP).

Smaller sized companies, as defined by the Companies (Accounting) Act 2017, can use FRS 105 which is a simplified version of FRS 102.

12.4.Outline the tax issues that arise when Financial Statements are subsequently amended (IFRS and FRS 102)

Section 76A TCA97 provides for the following when preparing financial standards in line with generally accepted accounting practice:

(A) - Subsection (2) - Transition from FRS (the old standard to 31 December 2014) to FRS 102/IFRS

(B) - Subsection (3) - Change of an Accounting Policy

(C) - Subsection (4) - Adoption of a new Accounting Standard

(D) - Subsection (5) - Correction of Errors

12.4.1.Adoption of a new accounting standard (Section 76A(4) TCA 1997 or transitional arrangements on transfer from FRS to FRS102/IFRS (Section 76A(2) TCA 1997 & Schedule 17A TCA 1997

These subsections deal with the taxation issues which arise on the move from accounting standards. The two main issues are the transfer from FRS to FRS 102 or IFRS from 1 January 2015 and also to allow for the expected future changes to the current standards as they adopt to future accounting requirements.

The legislation deals with the transitional measures to be adopted during the move and acts to ensure that no income or expense falls out of the tax net during the changeover periods.

If the change in accounts results in items other than financial instruments falling out of the taxable accounts (either income or expenditure), then the tax adjustment is spread equally over the following five years.

There are two items which need to be dealt with for taxation purposes:

(a) – Deductible amount:

This is an expense which would ordinarily have been allowed against taxable income but because of the amendment has not been included. Also any income which has been taxed twice, once under the original Financial Statements and once under the revised Financial Statements it is a deductible amount.

(b) – Taxable amount:

This is a receipt which would ordinarily have been taxed as taxable income but because of the amendment has not been included. Any expenditure which has been deducted twice, once under the original Financial Statements and once under the revised Financial Statements is a taxable amount.

The amount by which the taxable amount exceeds the deductible amount (or vice versa) is spread equally over the following 5 years.

Example 12.5

New Co PLC entered into a four-year contract on 1 January 2004. It received €180,000 as an upfront payment which it included in its Statement of Comprehensive Income for the year ended 31 December 2004 and was taxed accordingly,

As New Co is a plc it is obliged to commence implementing IFRS for the period beginning 1 January 2005. Under IFRS it reviews its income recognition policies and notes that under IAS 18 it should release €45,000 of the upfront contract receipt each year to its income statement.

Without the transitional measures afforded by Section 76A(2) TCA 1997 & Schedule 17A TCA 97 the following ­scenario would arise:

2004 2005 2006 2007 Total
Revenue under FRS 180,000 180,000
Revenue under IFRS (Note 1) 45,000 45,000 45,000 135,000
Total amount taxable 315,000

Note 1 – Under IFRS it would restate the 2004 accounts for comparison purposes by releasing the first €45,000 and remove the €180,000 from the income statement. The restatement however would not have any impact on the 2004 or 2005 corporation tax computations.

New Co. would be left in a situation of being taxed twice on the same contract during the changeover in standards.

Under Section 76A(2) TCA 1997 & Schedule 17A paragraph 2 TCA 1997 the “deductible amount” is €135,000 and the allowance is spread over five years at €27,000 per annum.

2004 2005 2006 2007 2008 2009 Total
FRS 180,000 180,000
IFRS 45,000 45,000 45,000 135,000
Deductible amount (27,000) (27,000) (27,000) (27,000) (27,000) (135,000)
Total taxable amount 180,000

Example 12.6

Following on examples 12.5 above assume that the trade income as per the Statement of Comprehensive Income for the year 2007 is €100,000.

31/12/2007
Trade Income 100,000
Adjust for sch. 17A para 2 TCA 1997 (27,000) (Deductible amount)
Taxable Income 73,000
Taxable income @ 12.50% 9,125

12.4.2.Change of an accounting policy (Section 76A(3) TCA 1997

Following a change in an accounting policy, any amount that is adjusted against prior year reserves will be deductible or taxable in the current year

Example 12.7

Amend Ltd has changed its income recognition policy for the year ended 31/12/2018. The change requires a review of the 31/12/2017 Financial Statements and this results in a reduction in profits of €10,000 in 2017.

The corporation tax return for the year 2017 is not amended and instead the €10,000 is deducted from the taxable profits in the 2018 corporation tax return.

12.4.3.Correction of errors (Section 76A(5) TCA 1997

Following the correction of an error it is necessary to amend the year in which the error occurred by re-opening the corporation tax return and amending the relevant entries.

Task Answers

Task 12.1

1. This is a taxable temporary difference and will give rise to a deferred tax liability.

2. This is a taxable temporary difference and will give rise to a deferred tax liability.

3. This is a taxable temporary difference and will give rise to a deferred tax liability.

4. This is a deductible temporary difference and will give rise to a deferred tax asset.

5. This is a taxable temporary difference and will give rise to a deferred tax liability.

Task 12.2

Notes for inclusion in the Financial Statements:

Major components of tax expense

2018  
 
Current tax expense 25,125
Deferred taxation income (1,250) (see Note 1)
Tax expense 23,875

Explanation of the relationship between tax expenses and accounting profits

 
Accounting profits 180,000
Tax at the applicable rate (12.50%) 22,500
Tax effect of expenses not deductible for tax purposes 625 (see Note 2)
Tax effect of income taxed at higher rate 750 (see Note 3)
Tax expense 23,875

The amount of the deferred tax assets and liabilities recognised in the Statement of Financial Position in respect of each type of temporary difference

Deferred tax:

Accelerated depreciation for taxation purposes (€3,125)
Liabilities for pension contributions that are deducted for tax purposes only when paid €2,500
Deferred tax liability (€625)

(Note: The amount of the deferred tax income recognised in the Statement of Comprehensive Income for the current year is apparent from the amount recognised in the Statement of Financial Position)

Notes to computation (these would not be provided in the accounts)

Note (1)

Deferred tax  
Deferred tax liability as at 31 December 2017 (€1,875)
Carrying amount of pension contributions unpaid as at 31 December 2018 €20,000
Tax base of pension contributions unpaid as at 31 December 2018 Zero
( = carrying amount of €20,000 minus tax deductible amounts in future periods of)  
Deductible temporary difference €20,000
Multiply by appropriate tax rate 12.5%
Deferred tax asset in respect of pension contributions as at 31 December 2018 €2,500
Carrying amount of selected assets as at 31 December 2018 €125,000
(€150,000 − Depreciation of €25,000)  
Tax base of selected assets as at 31 December 2018 (€100,000)
(€135,000 − capital allowances of €35,000)  
Taxable temporary difference €25,000
Multiply by appropriate tax rate 12.5%
Deferred tax liability in respect of assets as at 31 December 2018 (€3,125)
Overall deferred tax charge as at 31 December 2018 (€625)

The decrease in the deferred tax liability between 31 December 2017 and 31 December 2018 is €1,875 - €625 = €1,250.

This is the deferred tax income to be included in the Statement of Comprehensive Income.

Note (2)

The tax addback of client entertainment (per s. 840 TCA 1997), €5,000, is a cost to the - company and therefore increases the tax charge in the accounts by €625 (€5,000 × 12.5%).

Note (3)

The note to the Financial Statements assumes that the company’s Case V income will be taxed at 12.5%. However as passive income is charged at 25% (s. 21A TCA 1997) a further 12.5% must be added to the charge (25% passive - 12.5% standard 5 additional 12.5%). Therefore, this increases the tax liability by €750 (€6,000 × 12.5% = €750).