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CMA
Professional Level –II
201-Advanced Financial Accounting-I
Fundamentals of accounting for income taxes;
accounting for net operating losses;
Special 201.04 Accounting for financial statement presentation;
Class-3 income taxes (IAS-12) special issues;
(3 hours) asset-liability methods;
inter-period tax allocation;
deferred income taxes.
IAS-12: Income Taxes
The objective of IAS -12 is to prescribe the accounting treatment for income taxes.
The main issue here is how to account for the current and future consequences of
• The future recovery (settlement) of the carrying amount of assets (liabilities) recognized in the entity’s financial
statements.
Here, if the future recovery or settlement will make future tax payments larger or smaller than they would be if
such recovery or settlement were to have no tax consequences, then an entity must recognize deferred tax
liability or asset.
• Transactions and other events of the current period recognized in the entity’s financial statements.
Tax base The tax base of an asset or liability is the amount attributed to that asset or liability for
tax purposes
41
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Temporary Differences between the carrying amount of an asset or liability in the statement of
differences financial position and its tax bases
Taxable Temporary differences that will result in taxable amounts in determining taxable profit
temporary (tax loss) of future periods when the carrying amount of the asset or liability is recovered
differences or settled
Deductible Temporary differences that will result in amounts that are deductible in determining
temporary taxable profit (tax loss) of future periods when the carrying amount of the asset or
differences liability is recovered or settled
Deferred tax The amounts of income taxes payable in future periods in respect of taxable temporary
liabilities differences
Deferred tax The amounts of income taxes recoverable in future periods in respect of:
assets
a. deductible temporary differences
b. the carry-forward of unused tax losses, and
c. the carry-forward of unused tax credits
In order to understand the meaning and the rules of IAS-12 fully, you need to understand the meaning of and differences
between
I. Accounting profit and taxable profit, and
II. Current income tax and deferred income tax.
Taxable profit (tax loss) is the profit (loss) for a period determined in accordance with the rules established by the
taxation authorities (Deputy Commissioner of Taxes, NBR) upon which income taxes are payable (recoverable).
Accounting and tax rules are not the same. A number of differences can be happened between accounting profit and
taxable profit you have to make the following adjustments to your accounting profit:
• Add back the expenses recognized but non-deductible for tax purposes
• Add income not recognized but included under tax regulations
• Deduct expenses not recognized but deductible for tax purposes
• Deduct income recognized but not taxable under tax regulations.
Current income tax is the amount of income tax that you actually need to pay to your tax office.
Deferred income tax is an accounting measure used to match the tax effect of transactions with their accounting impact
and thereby produce less distorted results.
42
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Current tax is the amount of income tax payable (recoverable) in respect of the taxable profit (loss) for a period.
Measurement of current tax liabilities (assets) is very straightforward. We need to use the tax rates that have been
enacted or substantively enacted by the end of the reporting period and apply these rates to the taxable profit (loss).
Current income tax expense shall be recognized directly to profit or loss in most cases. However, If the current tax arises
from a transaction or event recognized outside profit or loss, either in other comprehensive income or directly in equity,
then current income tax shall be recognized in the same way.
Deferred income tax is the income tax payable (recoverable) in future periods in respect of the temporary differences,
unused tax losses and unused tax credits.
Deferred tax liabilities result from taxable temporary differences and deferred tax assets result
from deductible temporary differences, unused tax losses and unused tax credits.
We can calculate deferred tax as temporary difference multiplied with the applicable tax rate.
43
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Before you dig deeper in the concept of temporary differences, you need to understand the tax base first.
Tax base of an asset or liability is the amount attributed to that asset or liability for tax purposes. In my opinion, this
definition does not say that much, so let’s explain it in a greater detail:
If you review all your assets and liabilities calculating their tax bases, be careful! There could be some items not
recognized in your balance sheet that still do have a tax base.
For example, you might have incurred some research costs included in the profit or loss in the past that you could not
deduct for tax purposes until later periods. In such a case, the research costs are not shown in your statement of financial
position but they do have a tax base.
Temporary differences
Temporary differences are differences between the carrying amount of an asset or liability in the statement of financial
position and its tax base.
When the carrying amount of an asset or a liability is
When the carrying amount of an asset or a liability is
lower than its tax base, then there is a deductible
greater than its tax base, then there is a taxable
temporary difference and it gives rise to deferred tax
temporary difference and it gives rise to deferred tax
asset.
liability.
You need to recognize deferred tax liability for all taxable temporary differences you discovered, except for the following
situations:
• No deferred tax liability shall be recognized from initial recognition of goodwill
• No deferred tax liability shall be recognized from initial recognition of asset or liability in a transaction that is not a
business combination and at the time of the transaction it affects neither accounting nor taxable profit (loss).
44
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
The most common examples of taxable temporary differences giving rise to deferred tax liabilities are:
1. Timing differences
Timing difference arises when the recognition of certain item in the financial statements occurs in a different time
than its recognition in tax return, for example, interest received is taxed deductible only when cash is received.
2. Business combinations
In a business combination identifiable assets and liabilities can be revalued upwards to fair value at the acquisition
date, but no adjustment is made for tax purposes. As a result, taxable temporary difference arises.
While you need to recognize deferred tax liability for all taxable temporary differences, here the situation is different.
A deferred tax asset shall be recognized for all deductible temporary differences to the extent that it is probable that
taxable profit will be available against which the deductible temporary difference can be utilized.
No deferred tax asset shall be recognized from initial recognition of asset or liability in a transaction that is not a business
combination and at the time of the transaction it affects neither accounting nor taxable profit (loss).
45
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
The most common examples of deductible temporary differences giving rise to deferred tax assets are:
1. Timing differences
Timing difference arises when the recognition of certain item in the financial statements occurs in a different time
than its recognition in tax return, for example, accrued expenses are tax deductible only when paid.
2. Business combinations
In a business combination identifiable assets and liabilities can be revalued downwards to fair value at the
acquisition date, but no adjustment is made for tax purposes. As a result, deductible temporary difference arises.
A deferred tax asset shall be recognized for the unused tax losses carried forward and unused tax credits to the extent
that it is probable that future taxable profit will be available against which the unused tax losses and unused tax credits
can be utilized.
Except for various kinds of temporary differences mentioned above, a number of them can arise at business
combinations. This issue is even more complicated that it looks because temporary difference may be different in the
consolidated financial statements from temporary difference in the individual parent’s financial statements.
1. An entity shall recognize a deferred tax liability for all taxable temporary differences associated with investments
in subsidiaries, branches and associates, and interests in joint arrangements, except to the extent that both of the
following conditions are satisfied:
o the parent, investor, joint venturer or joint operator is able to control the timing of the reversal of the
temporary difference; and
o it is probable that the temporary difference will not reverse in the foreseeable future.
2. An entity shall recognize a deferred tax asset for all deductible temporary differences arising from investments in
subsidiaries, branches and associates, and interests in joint arrangements, to the extent that it is probable that:
46
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
In measuring deferred tax assets / liabilities you need to apply the tax rates that are expected to apply to the period
when the asset is realized or the liability is settled. However, these expected rates need to be based on tax rates or tax
laws that have been enacted or substantively enacted by the end of the reporting period.
So please, don’t use some estimates of the future tax rates, as this is not allowed.
Let me also point out that the measurement of deferred tax should reflect the tax consequences that would follow from
the manner of expected recovery or settlement.
So for example, if in your country, sales of property are taxed at 35% and other income at 30%, then for calculation of
deferred tax on your property you need to apply the tax rate based on your expected way of property’s recovery – if you
plan to sell it, then measure your deferred tax at 35% and if you plan to use it and then remove it, then measure your
deferred tax at 30%.
Formulae
Deferred tax assets and deferred tax liabilities can be calculated using the following formula:
The following formula can be used in the calculation of deferred taxes arising from unused tax losses or unused tax
credits:
Deferred tax asset = Unused tax loss or unused tax credits x Tax rate
In almost all situations you would recognize deferred tax as an income or an expense in profit or loss for the period.
There are just 2 exceptions of this rule:
• if a deferred tax arose from a transaction or even recognized outside profit or loss, then you need to recognize
deferred tax in the same way (in other comprehensive income or directly in equity)
• if a deferred tax arose in a business combination, deferred tax affects goodwill or bargain purchase gain.
Tax to recognize for the = Current tax for the + Movement in deferred tax balances for
period period the period
47
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
The principal issue in presenting income taxes is offsetting. Can you present current or deferred income tax assets and
liabilities as one net amount? Or do you need to show them separately?
You can offset current income tax assets and liabilities if 2 conditions are fulfilled:
1. You have a legally enforceable right to set off the recognized amounts; and
2. You intend either to settle on a net basis or to realize the asset and settle the liability simultaneously.
You can offset deferred income tax assets and liabilities if 2 conditions are fulfilled:
1. You have a legally enforceable right to set off the current income tax assets against current income tax liabilities
(see above when it happens); and
2. The deferred tax assets and the deferred tax liabilities relate to income taxed levied by the same taxation authority
on either
o the same taxable entity; or
o different taxable entities which intend to settle current tax liabilities and assets on a net basis or realize the
assets and settle the liabilities simultaneously, in each future period in which significant amounts of
deferred tax liabilities or assets are expected to be settled or recovered.
Just be careful when making consolidated financial statements because often you just cannot simply combine deferred
tax assets of a parent with deferred tax liabilities of a subsidiary and present them as 1 net amount.
48
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
We should remember:
Temporary difference:
(a) Asset===> if carrying value > tax base---> Carrying value - tax base = Taxable temporary difference
(b) Asset===> if carrying value < tax base ---> Carrying value - tax base = Deductible temporary difference
(c) Liability==> if carrying value > tax base---> Carrying value - tax base = Deductible temporary difference
(d) Liability==> if carrying value < tax base --->Carrying value - tax base = Taxable temporary difference
Example: An asset has a carrying amount of 100 and a tax base of 60. A tax rate of 20% would apply if the asset were
sold and a tax rate of 30% would apply to other income.
The entity recognises a deferred tax liability of 8 (40 at 20%) if it expects to sell the asset without further use and a
deferred tax liability of 12 (40 at 30%) if it expects to retain the asset and recover its carrying amount through use.
MONYEM buys equipment for 10,000 and depreciates it on a straight-line basis over its expected useful life of 5 years.
For tax purposes, the equipment is depreciated at 25% a year on a straight-line basis. Tax losses may be carried back
against taxable profit of the previous five years. In year 0, MONYEM’s taxable profit was 5,000. The tax rate is 40%.
MONYEM will recover the carrying amount of the equipment by using it to manufacture goods for resale. Therefore,
MONYEM’s current tax computation is as follows:
Year
1 2 3 4 5
Taxable income 2,000 2,000 2,000 2,000 2,000
Depreciation for tax purposes 2,500 2,500 2,500 2,500 0
Taxable profit (tax loss) (500) (500) (500) (500) 2,000
Current tax expense (income) @ 40% (200) (200) (200) (200) 800
MONYEM recognises a current tax asset at the end of years 1 to 4 because it recovers the benefit of the tax loss against
the taxable profit of year 0.
49
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Ans. 11(2)
The temporary differences associated with the equipment and the resulting deferred tax asset and liability and deferred
tax expense and income are as follows:
Year
1 2 3 4 5
Carrying amount 8,000 6,000 4,000 2,000 0
Tax base 7,500 5,000 2,500 0 0
Taxable temporary difference 500 1,000 1,500 2,000 0
MONYEM recognises the deferred tax liability in years 1 to 4 because the reversal of the taxable temporary difference will
create taxable income in subsequent years.
Ans. 11(2)
Year
1 2 3 4 5
Income 2,000 2,000 2,000 2,000 2,000
Depreciation 2,000 2,000 2,000 2,000 2,000
Profit before tax 0 0 0 0 0
Current tax expense (income) (200) (200) (200) (200) 800
Deferred tax expense (income) 200 200 200 200 (800)
Total tax expense (income) 0 0 0 0 0
Profit for the period 0 0 0 0 0
Current assets:
Inventories 1,431,000 1,197,000
Trade and other receivables 2,567,000 2,825,000
Cash and cash equivalents 1,675,000 700,000
5,673,000 4,722,000
Total assets 7,423,000 6,272,000
50
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Current liabilities:
Trade and other payables 538,008 540,000
Current tax payable 798,340 82,008
Total current liabilities 1,336,348 622,008
Total liabilities 1,761,348 832,008
Total equity and liabilities 7,423,000 6,272,000
The Management is surprised looking a net loss of Tk 350,917 although sufficient measures are taken to reduce costs.
The Company's newly appointed CFO said that this was happened mainly due for not adopting the BAS-12 since the
beginning of the company. He also suggested to re-calculate deferred tax expenses and liability since 1 October 2007. The
Accountant has obtained the following information as relevant for deferred tax calculation.
Requirement:
(a) Calculate current tax
(b) Calculated deferred tax asset or liability as at 30 September 2007, 2008 and 2009.
(c) Calculate the net profit for the year.
Current tax expense - to be reported in the comprehensive income statement 798,340 82,008
52
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
30 Sep 09 30 Sep 08
(187,320 - 361,875)
(361,875 - 197,625)
53
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Suppose a company bought a car on 1 July 2007 paying BDT 5,000,000. Other relevant information is as follows:
Requirement: Calculate deferred tax impact (expense or income) for the year ended 30 June 2010 and 2009 on the
carrying value of the car.
Deferred
Asset/(liability) Carrying Tax Temporary Tax tax
value base difference Rate Liability/
Taxable/
(deductible) (assets)
FY FY
30.06.2010 30.06.2009
Carrying
value Tax base
2,000,000 2,000,000
54
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
FARHANA LTD. is carrying accumulated loss for few years. Its management wants to recognize deferred tax on the said
accumulated loss. The details of accumulated losses and their possible adjustment in future periods are as follows:
The management wants to recognize deferred tax asset as at 30 June 2014 for BDT 1,720,000 (i.e. 4,915,000 X 35%) on
2012 accumulated loss. As per income tax law, the said loss can be adjustable in 6 immediate successive years. The trend
indicates that the said accumulated loss of BDT 3,000,000 could not be possible to adjust due to poor performance of
sales.
Required:
(1) Conditions need to be satisfied to recognize deferred tax assets
(2) Amount of deferred tax assets can be recognized at 30 June 2014.
(1) Conditions need to be satisfied to recognize deferred tax assets, IAS 12 para 24:
A deferred tax asset shall be recognised for all deductible temporary differences to the extent that it is probable
that taxable profit will be available against which the deductible temporary difference can be utilised, unless the
deferred tax asset arises from the initial recognition of an asset or liability in a transaction that:
(a) is not a business combination; and
(b) at the time of the transaction, affects neither accounting profit nor taxable profit (tax loss).
Loss
Carried Yearly carry forward Profit used
Year (Loss) profit* year for adjustment
2012 (4,915) - - -
2013 (195) - - -
2014 - 500 2012 500
2015 - 520 2012 520
2016 - 550 2012 550
2017 - 523 2012 523
2018 - 523 2012 523
2019 - 523 2013 195
(5,110) 3,140 2,812
55
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.
Special Class note for
CMA Professional Level –II
201-Advanced Financial Accounting-I
Home Work:
9. Question No.2 of CMA Exam:December-2012
10. Question No.1 of CMA Exam:April-2012
11. Question No.1 of CMA Exam:August-2011
56
Md.Monowar Hossain FCMA,FCPA,ACS,ACA Friday, June 13, 2014
Audit Consultant (General Manager),
Rupali Bank Ltd.