Income taxes: IFRS® Accounting Standards versus US GAAP

Under IAS 12, income tax related to items recognized outside profit or loss is itself recognized outside profit or loss. This relates to both items recognized in the current period and subsequent changes in items recognized in previous periods. This is often referred to as ‘backwards-tracing’. 

Like IAS 12, income tax related to items recognized outside profit or loss in the current period is itself recognized outside profit or loss.

Unlike IAS 12, subsequent changes are generally recognized in profit or loss – i.e. backwards-tracing is not permitted.

Corporate AMT – Impact on deferred taxes

Under IAS 12, a deferred tax asset is recognized only to the extent it is probable i.e. "more likely than not" that taxable profit will be available against which the deductible temporary differences or the unused tax losses and tax credits can be realized.

In our view, a company should consider whether it will be subject to the Corporate AMT when assessing to what extent deductible temporary differences and unused tax losses under the regular tax system will be realized in the future. 

If a company’s projections of future taxable profits indicate that a certain amount of deductible temporary differences and unused tax losses will not be realized because the company expects to be subject to the Corporate AMT, then it should factor that into its accounting for the deferred tax assets consistent with its expected manner of recovery. 

Corporate AMT – Impact on deferred taxes

Unlike IAS 12, US GAAP requires recognition of all deferred tax assets with a corresponding valuation allowance to the extent it is ‘more likely than not’³ that the deferred tax assets will not be realized. 

Unlike IAS 12, we believe a company may elect to either consider or disregard its Corporate AMT status when evaluating the need for a valuation allowance on deferred tax assets under the regular tax system. 

Using the above example where the Company anticipates always being a Corporate AMT taxpayer, if the company elects to consider its Corporate AMT status, it would recognize a valuation allowance on the deferred tax asset. If it disregards its Corporate AMT status, it would not recognize a valuation allowance if it is more likely than not that it will have sufficient taxable income under the regular tax system to realize the deferred tax asset. 

Pillar Two top-up tax – Accounting 

A mandatory temporary⁴ exception applies under IAS 12 such that a company neither recognizes nor discloses information about deferred tax assets and liabilities for top-up taxes. 

In our view, a company generally should not consider the effects of top-up taxes when determining future taxable profits to assess recoverability of deferred tax assets arising under the domestic corporate income tax regime.

Pillar Two top-up tax – Accounting 

Under US GAAP, the top-up tax is accounted for as an alternative minimum tax. This means that like IAS 12, deferred taxes are measured at the regular tax rate and the effect of the top-up tax is recognized when it arises. Unlike IAS 12, this accounting treatment is not temporary. 

Unlike IAS 12, we believe a company may elect to either consider or disregard the effect of domestic top-up taxes in determining the valuation allowance for deferred tax assets under the regular tax system. Like IAS 12, we believe a company generally should not consider the effects of top-up taxes imposed by other jurisdictions when assessing the recoverability of deferred taxes assets under the domestic regular tax system. 

Pillar Two top-up tax – Disclosures

In periods in which a tax law is enacted but the top-up tax is not yet in effect, companies are required to provide disclosures about their exposure to the top-up tax at the reporting date. 

When tax laws are in effect, companies are required to disclose information about the mandatory deferred tax accounting relief and the current tax expense related to top-up taxes.

Pillar Two top-up tax – Disclosures

Unlike IAS 12, no specific disclosures are required for the top-up tax.

Under IAS 12, the current tax effects for the seller are recognized in the current tax provision. 

Any related deferred tax effects are measured based on the tax rate of the buyer.

Unlike IAS 12, the current tax effects for the seller are deferred until the inventory is sold outside the consolidated group.

Unlike IAS 12, the buyer does not recognize a deferred tax asset for the step-up in tax basis.

Under IAS 12, the estimated tax deduction reflects what the company would claim if the awards were tax-deductible in the current period, based on the information available at the reporting date (e.g. share price, exercise price).

If the estimated tax deduction: 

• is less than or equal to the related cumulative remuneration expense, the associated tax benefit is recognized in profit or loss. 
• exceeds the amount of the related cumulative remuneration expense, the excess is recognized directly in equity.

Under US GAAP, the temporary difference is based on the amount of compensation cost recognized in profit or loss without any adjustment for the company's current share price.

The temporary difference creates an excess tax benefit or tax deficiency when the tax deduction arises. Unlike IAS 12, all excess tax benefits (deficiencies) are recognized as an income tax benefit (expense) in profit or loss in the period in which the tax deduction arises.

Under IAS 12, tax effects on taxable outside basis differences are not recognized if:

• the investor is able to control the timing of the reversal of the temporary difference; and
• it is probable (i.e. more likely than not) that the temporary difference will not reverse in the foreseeable future. While ‘foreseeable future’ is not defined in IAS 12, in our view it is necessary to consider in detail a period of 12 months from the reporting date, and also take into account any transactions that are planned for a reasonable period after that date.

Tax effects on taxable outside basis differences in respect of certain foreign subsidiaries and corporate joint ventures are not recognized if (‘indefinite reversal criteria’): 

• the investor is able to control the timing of the reversal of the temporary difference, like IAS 12; and
• undistributed earnings will be reinvested indefinitely or can be distributed on a tax-free basis, unlike IAS 12.

Other exceptions apply to domestic subsidiaries.

Under IAS 12, deferred tax is not recognized for certain temporary differences that arise on the initial recognition of assets and liabilities. The exemption applies to:

• a deferred tax liability (but not a deferred tax asset) that arises from the initial recognition of goodwill; and
• a deferred tax asset or liability that arises from the initial recognition of an asset or liability in a transaction that is not a business combination, that at the time of the transaction affects neither accounting profit nor taxable profit and does not give rise to equal taxable and deductible temporary differences.

Like IAS 12, a deferred tax liability (but not a deferred tax asset) that arises on the initial recognition of goodwill is exempt from recognition. 

Unlike IAS 12, there is no exemption under US GAAP from recognizing a deferred tax asset or liability for the initial recognition of an asset or liability in a transaction that is not a business combination.

IAS 12 does not explicitly address the accounting for interest and penalties. Therefore, the general requirements of IAS 12 apply.

• A company applies judgment to assess the characteristics of interest or a penalty to determine whether it meets the definition of an income tax. 
• If interest and penalties are considered income tax, any associated uncertainties are accounted for under IAS 12. Otherwise, the provisions guidance in IAS 37⁵ applies. 

This is not an accounting policy choice – i.e. judgments are based on the specific facts and circumstances. 

US GAAP provides an accounting policy choice to classify interest and penalties as either income tax or as a component of pretax income (loss) (e.g. as interest expense).

It also provides the following recognition guidance.

• Interest on an underpayment of income tax is recognized when interest would begin accruing under the provisions of the tax law.
• If a tax position does not meet the minimum statutory threshold to avoid payment of penalties, penalties are recognized in the period for the tax year the tax position would give rise to the penalty.

Under IFRIC 23⁶ , if there is uncertainty about an income tax treatment, a company considers whether it is probable (i.e. more likely than not) that the tax authority will accept the company’s tax treatment included or planned to be included in its income tax filing. 

• If more likely than not, the tax treatments used or planned to be used in the tax filings are retained for accounting purposes, with no adjustment.
• If unlikely, the company reflects the effect of uncertainty in determining the related tax treatments. 

Two methods are available to reflect the effect of uncertainty. For each uncertain tax treatment, the company uses the method that best predicts the resolution of the uncertainty.

• The most likely amount is the single most likely amount in a range of possible outcomes. This may best apply when the possible outcomes of the uncertainty are binary or are concentrated on one value.
• The expected value is the sum of the probability-weighted amounts in a range of possible outcomes. This may best apply when there is a range of possible outcomes that are neither binary nor concentrated on one value.

Under US GAAP, if there is uncertainty about an income tax treatment, then a company considers whether it is more likely than not, based on the technical merits of the position, that some level of the related tax benefit will be sustained on examination.

• If more likely than not, the company recognizes the largest amount of tax benefit that is greater than 50% likely to be realized on settlement. 
• If not more likely than not, the tax payable is established for the entire tax benefit. 

Unlike IFRIC 23, US GAAP does not allow the most likely amount or the expected value methods.

Under IAS 34⁷ , if a change in tax rate is enacted (or substantively enacted) in an interim period, in our view a company may elect an accounting policy (to be consistently applied) to:

• recognize the effect of the change immediately in the interim period in which the change occurs; or
• spread the effect of a change in the tax rate over the remainder of the annual reporting period via an adjustment to the estimated annual effective income tax rate.

Unlike IAS 12, if a change in a tax rate is enacted in an interim period, a company is required to:

• recognize the effect of the change on deferred taxes immediately in the interim period in which the change occurs;
• spread the effect of the change on current taxes for the current year over the remainder of the annual reporting period via an adjustment to the estimated annual effective tax rate; and
• recognize the effect of the change on current taxes for a prior year immediately in the interim period in which the change occurs.

Under IAS 12, a reconciliation between the applicable statutory tax rate and the effective tax rate (expressed in percentages or in absolute numbers) is required. 

For a group that operates in multiple tax jurisdictions, the applicable tax rate can be determined in one of two ways: 

• based on the statutory tax rate applicable to the parent entity; in this case, the reconciliation includes a separate line item representing the effect of tax rates in different jurisdictions; or
• using the average statutory tax rate applicable to the group, calculated on a weighted-average basis.

Like IAS 12, a reconciliation between the applicable statutory tax rate and the effective tax rate is required. 

However, unlike IAS 12, public business entities (PBEs) disclose a tabular reconciliation of the expected income tax expense (benefit) (i.e. expected or statutory income tax) and the reported income tax expense (benefit) on income from continuing operations (i.e. reported or effective tax) using both percentages and amounts. 

Unlike IAS 12, US GAAP requires reconciling items to be disclosed by jurisdiction and also requires specific categories to be presented with certain reconciling items at or above 5% of the expected income tax further broken out by nature and/or jurisdiction. 

Unlike IAS 12, the federal statutory income tax rate in the country of domicile is normally used in the tabular reconciliation.

Unlike IAS 12, non-PBEs disclose a qualitative description of significant differences between the statutory income tax rate and the effective tax rate, and discuss the nature and effect of those differences by specific categories of reconciling items and by individual jurisdictions.