NARUC Staff Subcommittee on Accounting and FinanceIAS 12 – Potential Tax ConsiderationsMay 4, 2009

Sal Montalbano, Tax Director

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This document was not intended or written to be used, and it cannot be used, for the purpose of avoiding tax penalties that may be imposed on

the taxpayer.

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Agenda

Status of IFRS in the US

Tax accounting similarities & differences

Other tax considerations

Regulatory issues

Questions

Status of IFRS in the US

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SEC roadmap

On November 14th the SEC published its “Roadmap for the potential use of financial statements prepared in accordance with IFRS by US issuers”

• The key provisions of the proposed Roadmap are fundamentally consistent with those included in the August 27th SEC announcement.

• The Roadmap includes several milestones leading to the SEC making a final decision in 2011 whether to require mandatory IFRS reporting for US issuers.- Improvements in accounting standards- Accountability and funding of the IASB- Improvement in the ability to use XBRL for IFRS reporting- Increased IFRS education and training in the US- Experience of eligible IFRS early adopters

• The Roadmap contemplates a phased transition to IFRS.- Large accelerated filers in 2014- Accelerated filers in 2015- Remaining filers in 2016

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SEC roadmap (continued)

• Issuers may only begin reporting using IFRS in an annual report on Form 10-K. - Must contain three years of audited financial statements

• The Roadmap includes a provision to allow a limited number of US issuers to early adopt IFRS for years ending on or after 12/15/2009.- Eligibility would be limited to the 20 largest public companies (by

market cap) in industries where IFRS is used most often

• As part of the SEC’s 2011 evaluation, it may expand the eligibility criteria to allow additional issuers to use IFRS prior to a mandatory transition date.

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SEC roadmap (continued)

• Impact of the new administration

- Comments made during new SEC Chairperson Mary Schapiro’s nomination process• Although supportive of a set of global standards, the SEC needs

to proceed with great caution• Concerned about potential cost to companies to transition to

IFRS• She would not be bound by the proposed Roadmap

- Paul Volcker, Chairman of Obama’s Economic Advisory Panel, expressed his view that the US should be working toward international accounting standards under the auspices of the IASB

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Income tax convergence project

2004 FASB/IASB set scope and initial project plan

2004-2007

Tentative decisions regarding amendments to FAS 109 and IAS 12 reached by FASB and by IASB

April 2008 FASB considered replacing FAS 109 with an amended IAS 12

July 2008 • IASB decided to continue path to issue an exposure draft incorporating tentative decisions reached

• Exposure draft expected Q1 2009

August 2008

• FASB suspended deliberations to amend FAS 109• FASB may revisit the project at a later date

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Income tax convergence project (continued)

• Impact of FASB’s decision to suspend deliberations to amend FAS 109- FAS 109 guidance remains in current state - US companies should monitor IASB deliberations and comment on

IAS 12 exposure draft- MoU issued on September 11, 2008

• FASB plans to solicit input from US constituents by issuing an Invitation to Comment containing the IASB’s proposed replacement of IAS 12

• At conclusion, FASB will decide whether to undertake a project that would eliminate differences in the accounting for income taxes

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IASB exposure draft—Issued March 31, 2009

• Amendments to IAS 12 to adopt US GAAP for the following based on deliberations to date- Valuation allowance approach for DTA- Intraperiod allocation rules- APB 23 exception- Balance sheet classification of deferred tax assets and liabilities

• Expected differences remaining at the time of conversion- Stock-based compensation- Uncertain tax positions- Intercompany transfers of assets - Measurement of foreign nonmonetary assets and liabilities

• New standard may become effective in 2010 or 2011-Comment period through July 31, 2009

Comparison of US GAAP and IFRS – Tax Accounting Similarities & Differences

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Comparison of US GAAP and IFRS

• US GAAP and IFRS frameworks share many fundamental principles, however, at times they are conceptualized and applied differently

• Differences will likely result in a number of adjustments in a company’s tax accounts—carousel tax differences

• Current US GAAP – IFRS tax accounting differences include:- Deferred taxes

• Deferred tax base• Recognition of deferred tax assets

- Business combinations- Treatment of undistributed profits- Presentation- Stock-based compensation- Uncertain tax positions- Intercompany transfers of assets

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Nine step approach to calculating deferred taxes

8. Presentation and offsetting

2. Determine the tax base

3. Calculate temporary differences

4. Identify exceptions5. Determine tax rates6. Consider

recoverability of DTAs

7. Recognise deferred tax

1. Determine the book bases

9. Disclosure

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Determining the tax base of an asset

Tax base of an asset is “the measurement, under applicable substantively enacted tax law, of an asset”.

• i.e. Tax base = future deductible amount

• Some items may have a tax basis but no carrying amount (ie research expenses expensed for book and capitalized for tax)

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Determining the tax base of a liability

Tax base of a liability is “the measurement, under applicable substantively enacted tax law, of an….liability”

Carrying amount less any amounts deductible against taxable income

Definition of tax basis provided under IFRS is not present in FAS 109

Designed to bring IAS 12 in conformity with FAS 109

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Determination of tax base

To determine the tax base, Ask yourself

One asset/liability may have more than one tax base, but recovery

results in measurement of one deferred tax balance

‘What are the tax consequences that would follow from the manner in which the entity expects, at the balance sheet date, to recover or settle the carrying amount of its assets and liabilities?’

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Recognition of deferred tax assets

A deferred tax asset should be recognised for all deductible temporary differences to the extent that:

100%

30%allowance

70% IFRSUS GAAP

It is probable that taxable profit will be available against which the deductibletemporary difference can be utilized

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Recognition of deferred tax assets – Amended IAS 12

• Valuation allowances

- Exposure draft is adopts the valuation allowance model utilized in FAS 109

- IASB notes that change would have no effect on net amount recognized (ie disclosure event only)

- Incorporates language from FAS 109 regarding determination of realizability of deferred tax assets

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Deferred taxes – Recording impact of change in tax law

• US GAAP - Recognize the impacts of a tax law change on deferred taxes and

current tax liability when the law is Enacted

• IFRS- Recognize the impacts of the change when the law is

Substantively Enacted- In US, this may only be achieved upon enactment

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Business combinations

• Recognition of acquired tax benefits subsequent to acquisition- Acquired deferred tax benefits recognized during the measurement

period• First reduce amount of goodwill to zero• Any remaining deferred tax benefit recognized in the income

statement- Acquired deferred tax benefits recognized after the measurement

period• Recognize in the income statement

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Business combinations (continued)

• Acquirer’s valuation allowance- If, as a result of the combination, the acquirer is able to recognize

carryforwards that previously required a valuation allowance, benefit of releasing acquirer’s valuation allowance recognized in the income statement – does not impact the opening balance sheet or goodwill balance

• Tax uncertainties in a business combination- Recognized in the income statement if outside the measurement

period• Convergence

- Post FAS 141R, treatment the same under IFRS and US GAAP

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Undistributed profits

US GAAPDomestic subsidiaries DTLs required on undistributed profits arising after 1992

unless amounts can be recovered on a tax-free basis

Domestic corporate JVs DTLs required on undistributed profits arising after 1992

Foreign subsidiaries and corporate JVs

DTLs not required if undistributed profits are indefinitely reinvested

Equity investees Deferred taxes are generally recognized on temporary differences

IFRS• Deferred taxes recognized except when parent company is able to

control the ultimate distribution of profits and it is probable temporary differences will not reverse in the foreseeable future

Convergence• Exposure draft adopts US GAAP approach but not specific wording

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Presentation

US GAAP

• Classification of deferred tax assets and liabilities follows the classification of the related, nontax asset or liability

• If not associated with an underlying asset or liability classified based on anticipated reversal period

• Valuation allowances allocated between current and noncurrent by tax jurisdiction on a pro rata basis

IFRS

• Deferred tax assets and liabilities classified net as noncurrent• Supplemental disclosures describe components recoverable less than or greater than 1

year

Convergence

• Exposure draft adopts US GAAP standard

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Equity-settled share-based payments

• Temporary difference and related DTA is based on the tax benefit that could be obtained in a current settlement of the award, generally the current fair value of the stock less the exercise price (if any) for a deductible award (intrinsic value)

• Variable accounting based on the intrinsic value recorded through the tax provision - no income tax benefit is recorded until award is in the money

• Amount of income tax benefit recorded through the provision is capped at the individual award’s carrying amount – generally the original grant date fair value determined under IFRS 2- Benefit in excess of individual award’s carrying amount is recorded in

equity• Ability to offset shortfalls with previously recorded windfall tax credits is

restricted to windfalls and shortfalls arising from the same equity award only (i.e., no general windfall pool)- “Shortfalls” will flow through the tax provision as a result of inability to

record a tax benefit equal to the original grant date fair value- Individual award tracking will be necessary

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Share-based payments – Convergence

• Two key differences between IFRS 2 and FAS 123(R)- IFRS uses “intrinsic value” for recording deferred tax asset. In the

case of a stock option, intrinsic value is the excess of the FMV of the stock over the strike price.• ETR will be substantially more volatile under IFRS

- IFRS has no windfall tax pool• If tax deduction is ultimately less than the pre-tax charge, there

is a charge to P&L • If the reverse is true, the additional tax benefit goes to equity

• Accounting for share-based compensation does not change in the exposure draft

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Uncertain tax positions – US GAAP

Applicable guidance • FIN 48 which utilizes a two step approach (recognition &

measurement)

Recognition • Recognize tax benefit when it is more likely than not to be sustained

on its technical merits• Unit of account - Individual tax position• Detection risk - Assume full knowledge by the taxing authority

Measurement• Measure at the largest amount of benefit that is greater than 50%

likely of being realized upon ultimate settlement• Cumulative probability model

Disclosures• Disclosure requirements are more detailed under FIN 48 than those

required under IAS 12• Tabular rollforward of unrecognized tax benefit required

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Uncertain tax positions – IFRS

Applicable guidance • Presently no specific guidance on uncertain tax positions in IAS 12• In practice, both IAS 12 and IAS 37 are applied to UTPs

Recognition • No separate recognition standard provided• Liability model under IAS 37 requires a determination that a liability is probable of

occurring (more likely than not under IFRS)• Unit of account - Individual tax position, Or aggregate positions with a taxing authority

for a taxable entity• Detection risk - Assume full knowledge by the taxing authority

Measurement• Probability weighted average approach, Or• Single best estimate/most likely outcome

Disclosures• Disclosure requirements for UTPs under IFRS are less prescriptive than those under

FIN 48

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Uncertain tax positions –Convergence

• The accounting for uncertain tax positions is expected to continue to be an area of difference between US GAAP and IFRS

• The exposure draft includes provisions to account for uncertain tax positions- No recognition threshold – Measure using the

probability-weighted average amount of All possible outcomes- Similar to US GAAP, detection risk will not be a factor in assessing

potential outcomes- Disclosure requirements differ from current FIN 48 disclosure

requirements (no tabular rollforward)

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Intercompany transfers of assets - FAS 109 9(e) exception

US GAAP• Buyer is prohibited from recognizing deferred taxes on unrealized

intragroup profits• Tax impacts to seller are deferred – realized upon ultimate sale to

third-party

IFRS• Deferred taxes recognized at the buyer’s tax rate• Tax impacts to seller are recognized as incurred

Convergence• Differences remain after convergence project

Other tax considerations in an IFRS conversion

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Accounting method considerations

• Conversion to IFRS will change the starting point for determining pre-tax book income

• Companies are expected to have over 100 changes to pre-tax income• Tax departments will need to understand and analyze each change to

pre-tax income in all jurisdictions (both US and non-US) - Will change in pre-tax income flow through to taxable income?- Will the change affect CFC computation of E&P?- Is new IFRS method an acceptable method for tax purposes?- Will the change require a tax accounting method change?- Will system changes be required to gather information to compute

new book/tax differences?

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Accounting method considerations (continued)

• While companies are expected to have over 100 changes to pre-tax income, this is not expected to result in 100 tax accounting method changes

• Rather, conversion to IFRS will result primarily in changes in the computation of, or elimination of, book/tax differences

• However, certain method changes are likely to be required or desired in certain situations- Current tax method requires book conformity (LIFO)- Costs are recharacterized as inventoriable for books

(reclassification of costs between Sec. 471 and 263A)- Review uncovers erroneous tax method currently being utilized- Review identifies more favorable tax method

Regulatory Issues

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IASB and Regulatory Accounting

• Currently no ability to recognize regulatory assets and liabilities under IFRS- No FAS 71 equivalent- Entities in flow through jurisdictions have large FAS 109 tax

regulatory assets

• IASB members grant qualified approval to proposal on a project for rate regulated entities- February 2009- Cost of service regulation included- Canada to adopt IFRS before US--2011

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Questions

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