IAS 12: Accounting for Income Taxes

IAS 12: Accounting for Income Taxes is an International Financial Reporting Standard (IFRS) issued by the International Accounting Standards Board (IASB). The standard deals with the accounting treatment of income taxes, including both current tax and deferred tax. Its primary objective is to prescribe the accounting treatment for income taxes and provide guidance on recognizing and measuring current and deferred tax assets and liabilities.

Key Concepts in IAS 12

1. Income Taxes Defined

• Income taxes encompass all taxes that are based on the profit or income of an entity. This typically includes corporate income taxes and can also cover taxes like capital gains taxes and other similar taxes levied on business income.

2. Current Tax

• Current tax is the amount of tax payable (or receivable) for the current period, based on the taxable profit or loss for that period. It includes taxes payable on both current and prior periods.
• The amount of current tax is computed using tax rates that have been enacted or substantively enacted at the end of the reporting period.

3. Deferred Tax

• Deferred tax refers to the tax effects of temporary differences between the carrying amount of an asset or liability in the balance sheet and its tax base. It represents taxes that are expected to be payable or recoverable in future periods.
• Deferred tax arises from differences between the accounting treatment and tax treatment of certain transactions, such as depreciation methods, revenue recognition, or provisions.

Recognition of Current Tax Liabilities/Assets

• An entity must recognize a current tax liability for taxes payable, and a current tax asset for taxes recoverable.
• Current tax expense is recognized in the period in which the tax is levied unless it is directly attributable to transactions or events recognized in other comprehensive income or equity.

Recognition of Deferred Tax Liabilities/Assets

Deferred tax is recognized based on temporary differences, which are:

• Taxable temporary differences: These lead to future tax liabilities (deferred tax liabilities).
• Deductible temporary differences: These lead to future tax assets (deferred tax assets).

1. Deferred Tax Liabilities

• Deferred tax liabilities are recognized when there is a taxable temporary difference. A taxable temporary difference occurs when the carrying amount of an asset exceeds its tax base.
• Deferred tax liabilities reflect the future tax payments that will be required due to these temporary differences.

2. Deferred Tax Assets

• Deferred tax assets are recognized when there is a deductible temporary difference, meaning the tax base of an asset exceeds its carrying amount, or when there is a carryforward of unused tax losses or unused tax credits.
• The recognition of a deferred tax asset is contingent upon the entity's ability to generate future taxable income to recover the asset. If there is no expectation of future taxable income, a deferred tax asset is not recognized, or it is reduced.

Temporary Differences

IAS 12 makes a distinction between two types of temporary differences:

1. Taxable Temporary Differences:
• These arise when an entity has more income for tax purposes than it recognizes for accounting purposes. This results in a future taxable amount (for example, a depreciation difference between tax and accounting).
2. Deductible Temporary Differences:
• These occur when an entity has more expenses for accounting purposes than for tax purposes, leading to a future deductible amount. For example, a provision that is deductible for tax purposes in the future but recognized for accounting purposes today.

Measurement of Deferred Tax

Deferred tax is measured at the tax rates that are expected to apply in the period when the asset is realized or the liability is settled, based on tax rates (and laws) that have been enacted or substantively enacted by the balance sheet date.

• Future tax rates: IAS 12 allows the use of the future tax rate that is expected to apply when the asset or liability is realized or settled.

Recognition of Tax Benefits from Losses

A deferred tax asset arising from unused tax losses or unused tax credits should only be recognized when it is probable that taxable profits will be available against which the tax benefit can be utilized. The entity must assess the likelihood of realizing the asset based on its future taxable profits, taking into account available tax planning strategies.

Presentation

• Current and deferred tax assets and liabilities must be presented separately on the balance sheet.
• Offsetting: Current tax assets and liabilities, and deferred tax assets and liabilities, can be offset if the entity has the legal right to offset and intends to settle them on a net basis.

Income Statement Presentation

• Income tax expense (or benefit) is the sum of current tax expense (or benefit) and deferred tax expense (or benefit).
• Current tax expense is typically included in the profit or loss for the period, but deferred tax expense may be recognized in either the income statement or other comprehensive income, depending on where the underlying transaction was recognized.

Disclosures

IAS 12 requires detailed disclosures to help users understand the entity's tax position:

1. Current Tax:
• The amount of current tax expense or income recognized in the financial statements.
2. Deferred Tax:
• The amounts recognized for deferred tax assets and liabilities, along with a reconciliation between opening and closing balances.
• Explanation of the nature of the temporary differences, unused tax losses, and tax credits.
• The tax rate used to calculate deferred tax and how it has changed.
3. Uncertainty of Tax Positions:
• If there are significant uncertain tax positions, entities must disclose information about the uncertainty, including how it is measured, its financial impact, and any judgments made in determining deferred taxes.

Special Considerations

1. Tax Rates and Laws:
• Changes in tax rates and laws must be accounted for when determining deferred tax assets and liabilities. Entities must adjust these in the period when the tax rate change is substantively enacted.
2. Initial Recognition Exception:
• IAS 12 provides an exception to the recognition of deferred taxes on temporary differences arising on the initial recognition of an asset or liability in certain circumstances, such as in a business combination.
3. Changes in Tax Laws:
• If a tax law change is substantively enacted before the balance sheet date, the new tax rates should be applied to the measurement of deferred tax assets and liabilities.

In Summary:

IAS 12 provides a comprehensive framework for accounting for income taxes by ensuring that the financial statements reflect both current and deferred taxes accurately. Key aspects of this standard include:

• Current tax is based on the amount payable or receivable for the period.
• Deferred tax is based on temporary differences between the accounting and tax treatment of transactions, with recognition of deferred tax assets and liabilities depending on the future tax implications of these differences.
• The standard emphasizes the importance of measurement, recognition, and disclosure to provide transparency and ensure compliance with tax regulations. By adhering to IAS 12, entities ensure their financial statements present a true and fair view of their tax liabilities and assets.