Accounting for income taxes considerations of the Bermuda CIT
The enactment of the CIT regime will require Bermuda business entities to determine whether they are in scope, and, if so, to recognize Bermuda deferred taxes for the first time. As this represents the enactment of a regular tax system, and not an alternative minimum tax regime, deferred taxes should be recognized in the period that includes the date of enactment. Entities should allocate the entire adjustment to income from continuing operations in the period that includes the enactment date, regardless of where the underlying item was originally recognized.2
The CIT includes various transition adjustments that may affect the recognition of deferred taxes in the period of enactment and as such should be considered as part of the initial measurement in the period that includes the December 2023 enactment date. For example, an entity that expects to elect the ETA may need to measure the fair value of its assets and liabilities in order to determine the tax basis of those items to use in determining deductible or taxable temporary differences utilized in recognizing deferred taxes. Conversely, an entity that does not expect to elect the ETA may need to determine the amount of loss carryforwards that would have been generated during the preceding five years.
We would generally expect entities to schedule the reversal of basis differences as of the date of enactment and any subsequent balance sheet dates to determine which basis differences would reverse prior to the CIT becoming effective versus temporary differences that would reverse after it becomes effective. This would require an understanding of the future taxability of the entity, such as whether the entity is eligible for a five-year deferral of the effective date. In addition, when measuring deferred taxes, an entity should consider whether it will be subject to the full Bermuda statutory income tax rate, or if only part of its income will be subject to the full rate, such as when different elections around fiscal transparency have been made for different ownership interests or the entity is partially owned by U.S. owners as amounts that reverse in 2025 and 2026 that are attributable to U.S. owners are excluded from taxable income. Generally, we believe deferred taxes would be measured at a partial rate to account when a portion of the entity’s income that will not be subject to tax as a result of the nature of its ownership interests.
Entities should also consider the extent to which deferred taxes for the Bermuda effect of temporary differences under non-Bermuda regimes should be recognized when those non-Bermuda temporary differences reverse. For example, a Bermuda entity for which a U.S. federal section 953(d) election is in place may generate a foreign tax credit for the U.S. federal current tax incurred and the credit generated may be affected by an adjusted amount of the U.S. federal deferred tax recognized by the entity. We believe deferred taxes for the Bermuda effect of such temporary differences under non-Bermuda regimes should be measured using either the dollar-for-dollar approach or lesser-of approach.3
We would generally expect the amount of deferred taxes recognized to be determined based on the elections that management expects to make. Further consideration should be given as to whether any of the elections are within the scope of the guidance on changes in tax status, which generally require recognition of the change in status in the period of filing or approval. However, we would not object if an entity concluded its initial election as a result of the new law is not a change in status, even if its initial election is to a status other than its default status.
Once recognized, any deferred tax assets established in accounting for the enactment of the new CIT should be evaluated for recoverability. As part of this analysis, an entity may conclude that a deferred tax asset provides no or limited incremental tax benefit if foreign tax credits generated in future years will be displaced by the related temporary difference or carryforward.4
The date of enactment impact of the Bermuda CIT may not be limited to Bermuda entities. To the extent an owner of a Bermuda entity or the head office of a Bermuda permanent establishment recognizes deferred taxes for temporary differences in Bermuda, the home country effect of the Bermuda deferred taxes should be considered. For example, if a U.S. owner of a Bermuda controlled foreign corporation is subject to Subpart F income, it may have a history of recognizing U.S. federal deferred taxes for temporary differences of the Bermuda entity. That U.S. owner may now need to also consider the U.S. federal effect of Bermuda deferred taxes on future U.S. foreign tax credits when recognizing its U.S. federal income taxes.5
As entities assess the impact of the new legislation, there may be elements where it is not entirely clear how a court would interpret the law. Accordingly, companies should also assess the impact the new law will have on the accounting for uncertainty in income taxes. Those assessments may need to be revised as future guidance is issued with any adjustments generally recognized in the period in which such guidance is issued. If there are tax positions expected to be reported on a tax return that are not more likely than not to be sustained upon examination based on the technical merits, an entity should not reflect the benefits within the financial statements.
As highlighted in this publication, the introduction of the Bermuda CIT law includes various provisions that affect the calculation of deferred tax that must be considered in preparing financial statements that include the date of enactment. The impact of the introduction of the tax law will depend on a company’s specific facts and circumstances and each element will need to be analysed individually. In some cases, the impact will be easy to calculate. In other cases, we expect that a company will make its best estimate and may revise that estimate in future periods as a result of new information, clarifications of the application of the tax law and more experience. In all cases, the financial statements should include appropriate disclosures, including relevant information about major sources of estimation uncertainty in applying the new tax law.
