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INCOME TAXES (lAS 12)
1. BACKGROUND AND INTRODUCTION
1.1
The Standa rd Applies to th e Accounting for Income Taxes
lAS 12 uses a liability method and adopts a balance sheet approach. Instead of accou nting for the
timing differences between the accoun ting and tax conseq uences of revenue and expe nses , it
accounts for the tempo rary differe nces between the accounting and tax bases of asse ts and
liabilities. The Account ing Standard adopts a full-provision balance sheet approach to accounting
for tax.
1.2
It is assumed that the recovery of all assets and the settleme nt of all liabilities have tax conse–
quences and that these consequences can be estima ted reliably and are unavoidable.
1.3
The main reason why deferred tax has to be prov ided for is that International Financia l Re–
porting Standards (lFRS) recognition criteria are different from those that are normally set out in
tax law. Thu s there will be income and expenditure in financia l statements that will not be allowed
for taxation purposes in many j urisdict ions.
1.4
A deferred tax liability or asset is recogn ized for future tax consequences of past transactions.
There are some exemptions to this general rule.
2. DEFINITIONS OF KEY TERMS
Tax base. Value that the Standard assumes that each asset and liabilit y has for tax purposes.
Temporary differences. Differences between the carry ing amount of an asse t and liability
and its tax base.
2.1
The belief is that an entity will settle its liabilities and recove r its asse ts eve ntually ove r time
and at that point the tax consequences will crys tallize. For example, if a machine has a carrying
value in the financial statements of $5 mill ion and its tax value is $2 million, then there is a taxable
temporary diffe rence of $3 million.
2.2
The tax base of a liability is normally its carryi ng amount less amounts that will be ded uctible
for tax in the future. The tax base of an asset is the amount that will be deductible for tax purposes
against future profits generated by the asset.
2.3
The Standard sets out two kinds of temporary differenc es: a
taxable temporary difference
and a
deductible temporary difference .
2.4 A taxable temporary difference results in the payment of tax when the carrying amo unt of the
asset or liability is settled.
2.5 In simple terms, this means that a deferred tax liability will arise when the carrying value of
the asset is greater than its tax base or when the carrying value of the liability is less than its tax
base.
2.6 Deductible temporary differences are differences that result in amounts being deductible in
determinin g taxable profit or loss in future periods when the carryi ng value of the asse t or liability
is recovered or settled. When the carrying value of the liability is greater than its tax base or when
the carrying value of the asset is less than its tax base, a deferred tax asse t may arise .
2.7 Thi s means, for example, that when an accrued liability is paid in future periods, part or all of
that payment may become allowable for tax purposes.