Week 4 - Deferred Tax

Question 1

Temporary v Permanent Difference

Answer 1

Temporary requires deferred tax adjustment, Permanent DO NOT

Permanent difference: Income recognised in statements is not taxes
Expense recognised in statements is not tax deductible

These are quite rare, main example is Client entertaining. IS obviously recognisable as expense in accounts, but it is not a tax deductible expense

Temporary Difference: Income or expense in different accounting periods in the statements compared to when recognised in tax computation
e.g. Depreciating PP&E, accounts might depreciate over 20 years, but tax authority might say have to depreciate over 5 years

Question 1

Deferred Tax Working Layout

Answer 1

Carrying Value | Tax Base | Difference | Taxable Allowance | Taxable Temp. Difference | Deductible Temp. Diff

At the bottom, have rows of:
- Total
- Net Taxable (Deductible) Temp. Difference
- Deferred Tax Liability @ tax rate ‘x%’

Once this is done, we do a table called: “Calculation of deferred tax charge in IS & OCI”

Deferred Tax at 1/1/XX
DT Items in reserves (if there’s any revaluation gain or loss recognised in the notes, x this by the tax rate)
DT Balancing figure (difference between DT at start + Reserves & new calculated figure)
DT at 31/12/XX (the figure we’ve calculated above)

Goes in Taxable if CV > Tax Base & vice versa

But vice versa if it’s a liability

Question 2

Capital Allowance for tax purposes > Accounting policy

E.g. Land was £110k at Cost in 2026, currently NBV of £66k in 2028 with a 10% depr. rate.

Capital Allowance for tax is 25%

Answer 2

Take original cost (£110k) x (1-0.25)^n (n = years of depr.)
= £46,406

Taxable Temp. Difference = £66k - £46,406

Question 3

Goodwill in Deferred Tax Questions

Answer 3

Write “No deferred Tax on Goodwill under IAS12”

Question 4

Investments

Answer 4

Treat at cost for tax purposes i.e.

If they’ve revalued the investment after a gain, subtract this gain to get the Tax Base

Question 5

Unrealised Profit in Deferred Tax Calc.

Answer 5

Carrying Value = 0
Tax Base = calculated URP
,’, will be deductible expense as TB>CV

Question 6

If Tax Treatment is the same as that recognised in the accounts?

Answer 6

Write CV & TB as the same figure, then write “no Deferred Tax as accounting & tax treatment is the same””

Question 7

Liabilities within the Deferred Tax Calc

Answer 7

If a Liability (e.g. Provision) CV > Tax Base, then Deductible Temp. Difference

Question 8

No note on an SoFP line item

Answer 8

Ignore

Question 9

Why is DT different from other liabilities

Answer 9

No present obligation to pay anyone, tax authorities don’t keep track of deferred tax it’s just to ensure matching principle

Matching concept overrides the CF definition of a liability

Question 10

Criticisms of deferred tax
5

Answer 10

Deferred tax refers to fture tax so should use expected tax rates rather than current. Debators would say too difficult to estimate this and is manipulatable, worsens comparability

Don’t meet the definition of a liability. As there is no obligation to pay as it depends on future profits. Counter is that need to retain accruals outweighs this

Deferred tax isnt discounted, usually future cash flows are in IFRS. Argument is that this is too impractical and complex

Uses a balance sheet approach comparing carrying value tot tax base. Problematic as corp. tax relates to profit not assets/liabilities (Could argue this aligns with Conceptual Framework though)

IAS 12 is not consistent with the concept of Understandability: Users may find deferred tax difficult to
understand as it relates to potential tax paid/received in the future

Question 11

According to IAS12, when can an entity recognise deferred tax?

Answer 11

When probable that taxable profits will be available in the future e.g. chance more than 50%

Question 12

Why is deferred tax necessary?

Answer 12

Accounting profit different to taxable profit. Without DT, tax charge may bear little resemblance to the accounting profit e.g. if there’s high capex which is tax deductibe.

DT tries to relieve this, but will never be perfect due to permanent differences (charges that will never be tax deductible) e.g. expensing client entertaining.

Question 13

Deferred Tax Movement

Answer 13

Difference between opening & closing balance

Opening balance = (opening CV - Opening Tax Base) x Tax %
e.g. Opening CV = £100k, and TB £80k, opening balance = £20k x 20% = £4k
Closing balance same

Movement = the difference between the 2

Question 14

Land in Deferred Tax

Answer 14

Tax Base is at cost

Question 15

The intangible asset relates to £10m of paid development costs that were capitalised by Jensen Group plc in 20X4. The development costs are being amortised over 10 years straight line. Jensen Group plc
charged a full year of amortisation in 20X4. Development costs are deducted from taxable profits on a cash paid basis.

What’s the Tax Base?

Answer 15

Tax Base = 0

This is because the costs would have been tax deductible when incurred in 20X4 (i.e., the tax authorities expense rather than capitalise them)

Question 16

In 20X8, Jensen Group plc sold an asset and realised a capital loss of £500,000. Jensen Group plc has been unable to utilise the capital loss in this year’s tax computation. In the current tax regime, capital
losses can only be carried forward for a maximum of 2 years and can only be offset against capital gains from the same trade. The finance director feels it is unlikely that Jensen Group plc will realise
qualifying capital gains in the next 2 years. The finance director is confident that future profits will exist to offset other deferred tax assets.

What is the TB & CV?
Would they change if the capital loss had been recognised in the tax computation?

Answer 16

The capital losses do not give rise to deferred tax as it is not probable there will be qualifying capital gains to utilise them before they expire in 2 years. Capital losses are not recognised in the carrying values in the accounts. This means both the carrying value and tax base are nil.

Again make sure you show this in your working so you get marks!

If the loss was in the account, the tax base would be 500,000 thus deductible expense

Question 17

Tax Losses in DT:

The Group hold unused tax losses of £1.2 million at 31 December 2021. The tax losses arose in the year to 31 December 2019. Tax legislation states that tax losses can be carried forward for offset against profit for a maximum of three years. Based on a taxable profit forecast, it is anticipated that 60% of
the unused tax losses will be utilised by the group against taxable profits
arising in the year to 31 December 2022.

Answer 17

CV = 0

TB = 1200*0.6 = 720

Question 18

The group capitalised £900,000 of development costs that they had paid during the year. These are to be amortised over 10 years, a full year of amortisation has been
charged during the current year. Development costs are deducted from taxable
profits on a cash basis.

What is TB & CV?

Answer 18

TB = 0

CV = 810