CH 18
CH 18
CH 18
Income Taxes
Prepared by:
Dragan Stojanovic, CA
Rotman School of Management, University of Toronto
Income Taxes
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Income Taxes
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Fundamentals
Accounting income (per GAAP) ≠ Taxable
income (per Income Tax Act)
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Accounting Income and
Taxable Income:
Reconciliation of Accounting Income
and Taxable Income:
Accounting income
± differences
= Taxable income
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Future Tax Liability Example
Chelsea Inc. - 2010
Accounting Tax
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Future Tax Liability Example
Chelsea Inc.
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Permanent Differences - Examples
• Items, recognized on income statement, but
never for income tax purposes:
• Non-tax-deductible expenses (e.g. fines, golf
dues, expenses related to non-taxable
revenue)
• Dividends from taxable Canadian corporations
• Items, recognized for tax purposes, but not for
financial accounting purposes:
• Depletion allowance of natural resources in
excess of cost
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Summary of Permanent Differences
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Temporary Differences
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Temporary Differences
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Future Tax Asset and
Future Tax Liability - Sources
• Future tax accounts on the balance sheet may
be a:
– Future income (or “deferred”) tax liability, or
– Future income (or “deferred”) tax asset
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Future Tax Asset and
Future Tax Liability - Sources
• Future tax liability
– When the future recovery of an asset, or future
settlement of a liability, that is reported on the
balance sheet will result in paying future income
taxes
– Arises from taxable temporary differences
• Future tax asset
– When the recovery of an asset or settlement of a
liability results in future income tax reductions or
benefits
– Arises from deductible temporary differences
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Future Tax Liability Example
Chelsea Inc. - 2010
Books Tax
Accounts receivable $30,000 0
Income reported
in 2010 $70,000 $40,000
Future income
$ 8,000 $ 4,000 $ 12,000
tax liability
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Recording Journal Entries
– e.g. Chelsea Inc. -2010
Journal Entries:
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Future Income Tax Liability
End of End of
Net Assets reported
2010 2011
Accounts receivable (in
$30,000 $10,000
assets)
Future income tax liability
12,000 4,000
(in liabilities)
Net assets reported $ 18,000 $ 6,000
Note: Balance sheet
reflects eventual cash
impact of recovering the
A/R
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Future Tax Asset – Example
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Future Income Tax Asset:
Example
Books Tax
Warranty liability $500,000 0
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Valuation of Future Income Tax
Asset
• Income tax assets and liabilities meet the
conceptual framework conditions for
recognition as “asset” or “liability”
• Future income tax assets must be reviewed
at year end to ensure they are not reported at
more than recoverable amount
– This depends on whether taxable income will
be earned in the future, against which
temporary differences can be deducted
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Income Tax Expense
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Future Tax Rates
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Future Tax Rate - example
Hostel Corp. had the following at end of 2009:
Property, plant, and equipment:
Net book value (NBV) = $4,000,000
Tax value (Undepreciated
capital cost, UCC) = 1,000,000
Taxable temporary difference = 3,000,000
(to reverse by $1,000,000 each year in 2011,
2012 and 2013)
Tax rate 40%
Future tax liability 1,200,000
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Future Tax Rate - example
Assume a new income tax rate is enacted from
40% to 35%, effective January 1, 2012
• Recalculate Future tax liability as follows:
2011 $1,000,000 x 40% = $400,000
2012 $1,000,000 x 35% = $350,000
2013 $1,000,000 x 35% = $350,000
Total $1,100,000
Required Adjusting Entry:
Future Income Tax Liability100,000
Future Income Tax Benefit 100,000
(1,200,000 - 1,100,000)
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Income Taxes
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Tax Loss Carryback and
Carryforward
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Tax Loss Carryback
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Tax Loss Carryforward
Can you recognize (book) the tax benefit of a
loss carryforward?
•If more likely than not (i.e. probable) that benefit
will be realized (i.e. company will generate
taxable income in the future to apply loss
against), then recognize tax benefit as an asset:
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Tax Loss Carryforward
(Cont’d)
• If future taxable income not likely (i.e. not
likely that benefit will be realized), then do not
record the tax benefit
• Instead, report existence of loss carryforward
in notes to the financial statements
• Disclose the amounts and expiry dates of
unrecognized income tax assets related to
the carryforward of unused tax losses
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Tax Loss Carryforward (Cont’d)
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Tax Loss Carryforward
(Cont’d)
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Carryforward with Valuation
Allowance
• This approach permitted under PE GAAP (but not
permitted under IFRS)
• Assuming a $150,000 loss carryforward where it is
unlikely that benefit will be realized in the future:
Future Income Tax Asset 60,000
Future Income Tax Benefit 60,000
(150,000 x 40%)
Future Income Tax Expense 60,000
Allowance to Reduce Future Income Tax
Asset to Expected Realizable Value 60,000
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Carryforward with Valuation
Allowance (continued)
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Income Taxes
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Balance Sheet Presentation
• Under IFRS
– All deferred tax assets and liabilities are recorded as
noncurrent
• Under PE GAAP
– Future tax asset or liability is classified as current or
noncurrent based on the classification of the underlying
asset or liability giving rise to the specific temporary
difference
– If the a future asset or liability is not related to specific
asset or liability (e.g. expensed research costs deferred
for tax purposes), classification is based on date that
temporary difference is expected to reverse or tax
benefit expected to be realized 43
Intraperiod Tax Allocation
• Income tax expense is reported with its
related item, such as discontinued operations,
other comprehensive income, adjustments to
RE, etc.
• Intraperiod Tax Allocation
– Tax expense is allocated within the financial
statements of the current period
• Interperiod Tax Allocation
– Tax expense is allocated between years,
and results in the recognition of future
income taxes
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Intraperiod Tax Allocation:
Example
• Assume the following information for Copy
Doctor Inc.:
– Tax rate of 35%
– A loss from continuing operations of $500,000
– Income from discontinued operations of
– Unrealized holding gain of $25,000 on investment
accounted for at FV-OCI
• Prepare the journal entries to record current and
future tax expenses
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Intraperiod Tax Allocation:
Example
Current Income Tax Expense
(discontinued operations) 241,500
Current Income Tax Benefit
(continuing operations) 175,000
Income Tax Payable 66,500
Calculations:
• income of 690,000 x 35% = 241,500 expense
• loss of 500,000 x 35% = 175,000 benefit
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Intraperiod Tax Allocation:
Example
Calculations:
• 25,000 x 35% = 8,750
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Disclosure Requirements
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Analysis
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Outstanding Conceptual Issues
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Income Taxes
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Looking Ahead
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COPYRIGHT
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