Professional Documents
Culture Documents
Introduction
The adoption of international financial reporting standards (IFRS) is the topic
of the day in the finance function of companies. The changeover from Canadian
generally accepted accounting principles (GAAP) to IFRS took place on January 1,
2011 for all Canadian publicly accountable enterprises.1 IFRS will apply to annual
and interim financial statements for years beginning on or after that date.
* Of PricewaterhouseCoopers LLP, Montreal.
1 Other companies will be able to select which accounting principles they apply, but Canadian
GAAP as we know them today will no longer be applied. See chapter 2 in this volume for other
possible options for non-publicly accountable enterprises (small and medium-sized businesses).
93
deferral method when accounting for income taxes. This method ties the income tax expense or income tax recovery to the accounting income for the year,
whether the taxes were paid in a previous year or will become payable in a future
year. Thus, the tax effect of transactions is accounted for in the same year as the
underlying transactions using a tax deferral in the income statement. Under this
method, the tax deferral calculation is based on the effective rate upon initial
recognition, without being subsequently restated to take into account changes
in tax rates. This approach is based on an income statement analysis, as opposed
to the balance-sheet-based approach that is currently used (and described below).
In 1973, following the adoption of the new Income Tax Act5 (reflecting
proposals for tax reform in the Report of the Royal Commission on Taxation6 and
the 1969 white paper7), section 3471 (Corporate Income TaxesAdditional
Areas) was added to the CICA Handbook to specify the accounting treatment
resulting from certain new tax provisions, such as those dealing with refundable
taxes or a change in a companys tax status.
income tax under partI of the Income Tax Act (Canada),16 its provincial equivalent, or that of another country; taxable income can also be a gross or net profit
margin. What counts is that revenues are reduced by certain expenses. This
explains why taxes based on sales or gross revenue are not considered to be income taxes. Moreover, a company can be subject to two or more income taxes.
For example, companies with mining operations in Quebec are subject to provincial mining duties and are also taxable under the federal and Quebec income
tax acts.17
Income taxes also include taxes, such as withholding taxes, that are payable
by a subsidiary, associate, or joint venture on distributions to the entity presenting its financial statements.18 However, IAS 12 does not deal with methods of
accounting for government grants or investment tax credits.19 As we will see,
IAS 20 (Accounting for Government Grants and Disclosure of Government
Assistance)20 addresses accounting for government assistance.
For example, the tax base of property, plant, and equipment is the unamortized
capital cost. For an investment, the tax base is its adjusted cost base that is used
to calculate the capital gain on disposal. Additional examples of tax base can be
found in appendixA of IAS12.
In some situations, the tax base of an asset is different depending on whether
the asset is utilized or sold. In this case, Canadian GAAP state that the tax base
of the asset to be used is the greater of those amounts.22 This method leads to
the recognition of the minimum tax effect that could result from the realization
of the asset for its carrying amount. Yet under IFRS, the assets tax base must be
determined according to managements expected manner of recovery.23 The
same treatment applies to liabilities. Thus, when the tax base associated with
managements expected manner of recovery is not the highest amount, there
will be a difference between IFRS and Canadian GAAP.
This difference arises, for example, in the accounting treatment of eligible
capital property (ECP).24 Eligible capital expenses are deductible for tax purposes
up to a maximum of 75percent of costs incurred. In addition, 75percent of the
amount received when the property is sold is included as proceeds of disposition.
The portion of the amount received that exceeds the total cost of the companys
cumulative eligible capital (CEC) is ultimately taxable at a 50percent inclusion
rate. For the purposes of calculating the tax base of an asset that qualifies as ECP
used in the company, the deductible amount is equal to 75percent of costs
incurred. However, if an asset that qualifies as ECP is sold, the cumulative eligible
capital expenditure amount will be reduced only by 75percent of the amount
received,25 thus resulting in a tax base equivalent to 100percent of costs incurred,
less tax deductions claimed in the past.
Take the example of an asset that qualifies as ECP with a historic cost of
$100,000, which will be recovered when sold. For tax purposes, $75,000 is
added to the CEC, which is deductible at an annual rate of 7percent. However,
if the asset is sold immediately for $100,000, 25percent of the proceeds of
disposition will not be taxable. The sale will have no tax consequence for the
entity.26 Under IFRS, in the event of a sale, the tax base is therefore equal to
the carrying amount of $100,000that is, the amount included in the CEC of
$75,000 plus the non-taxable portion of the proceeds of disposition ($25,000).
However, if the expected manner of recovery is through use, the tax base will
be $75,000. Under Canadian GAAP, regardless of the expected manner of recovery, the tax base will always be the higher of the two amounts$100,000
in this case.
TAX RATE TO BE USED
Under IFRS, deferred tax assets and liabilities must be measured at the tax rates
that are expected to apply to the period when the asset is realized or the liability
is settled, based on tax rates and tax laws that have been enacted or substantively
enacted by the end of the reporting period.27 This is also the case under Canadian GAAP.28 In some jurisdictions, announcements of tax rates and tax laws have
the substantive effect of actual enactment, which may occur several months
after the announcement. In these circumstances, deferred tax assets and liabilities are measured using the announced tax rates and tax laws.29
During a meeting held in February 2005, the IASB specified at what point
during the legislative process a tax law could be deemed substantively enacted.30
With reference to Canada, the IASB referred to the guidelines in Abstract EIC-111
of the CICAs Emerging Issues Committee.31 The guidelines basically state that,
under a majority government, a law is substantively enacted when a bill receives
first reading in the House of Commons. In the case of a minority government,
26 This example is based on the assumption that no property was previously included in the
entitys ECE.
27 IAS 12, supra note 3, at paragraph 47.
28 CICA Handbook, supra note 22, at section3465.56.
29 IAS 12, supra note 3, at paragraph 48.
30 PricewaterhouseCoopers, Manual of AccountingIFRS 2011 (Toronto: CCH Canadian,
2010), at chapter13, section 71.
31 Canadian Institute of Chartered Accountants, Emerging Issues Committee, Abstract
EIC-111, Determination of Substantively Enacted Tax Rates Under CICA 3465.
a law is deemed substantively enacted when the bill passes third reading in the
House of Commons.
There are certain differences between Canadian GAAP and IFRS in terms of
the income tax rates to be used in order to establish the amount of deferred tax
assets or liabilities.
In some jurisdictions, income taxes are payable at a higher or lower rate if
part or all of the profits are paid out to holders of the entity. In these circumstances, under IFRS, deferred tax assets and liabilities are measured at the tax
rate applicable to undistributed profits.32 If income taxes can be recovered or
paid when profits are distributed to holders of the entity, the tax effect is recognized when the distribution is recorded in the financial statements.33
Under Canadian GAAP, future income tax assets resulting from a tax recovery
are recognized at the same time as the transaction that gives rise to the recovered
tax, or subsequently, when it is more likely than not that the taxes will be recovered in the foreseeable future,34 whether or not the distribution was recorded in
the financial statements. Furthermore, certain rules under Canadian GAAP apply
to determine the tax rate to be used for entities that can deduct the amounts that
they distribute to unitholders, such as income trusts and real estate investment
trusts. If such an entity plans to distribute to its unitholders all or virtually all of
its income that would otherwise have been taxable, or if it is contractually committed to do so, the entity does not account for any current or deferred tax.35
IFRS do not contain any guidelines for these entities. Thus, the general
principle described above regarding the rate applicable to distributions applies;
entities must account for income taxes without considering the tax benefit of
the subsequent distributions, and record such benefit only upon distribution.
The absence of clear guidelines can create unusual situations for certain entities.
To that end, the IASB stated in March 2010 that the topic will be addressed in the
course of the work on the limited-scope exposure draft, which, as noted above,
should be published later in 2011.36
32 IAS 12, supra note 3, at paragraph 52A.
33 Ibid., at paragraph 52B.
34 CICA Handbook, supra note 22, at section 3465.72.
35 Additional conditions must also be met to ensure that these entities do not have to account
for current and deferred tax. For more information, see Canadian Institute of Chartered
Accountants, Emerging Issues Committee, Abstract EIC-107, Application of CICA 3465 to
Mutual Fund Trusts, Real Estate Investment Trusts, Royalty Trusts and Income Trusts.
36 IASB meeting, March 15-19, 2010.
Uncertainties about income taxes are not directly addressed in IAS12. IAS37
(Provisions, Contingent Liabilities and Contingent Assets)37 does not cover
income taxes in its scope. The general measurement criteria in IAS12 should be
applied instead: current or deferred tax liabilities or assets must be measured at
the amount expected to be paid to the taxation authorities or to be recovered
from them.38
No measurement method is indicated in IAS12. As a result, various practices
are accepted in authoritative accounting literature.39 A liability should be recognized for each item that is not more likely than not to be sustained on the
basis of technical merits. Acceptable practices for quantifying the liability are as
follows:
1) The liability is measured using a weighted average of probabilities for each
of the possible scenarios.
2) An estimate is made, based on the outcome most likely to occur among
the possible scenarios.
Example 1
An entity deducts $100,000 for current expenses incurred as part of a business
combination. Tax authorities may be of the opinion that the expenses are capital in
nature and should be capitalized to the cost of the shares acquired. The probabilities
that the position can be sustained are as follows:
Possible outcomes
Likelihood
of occurring
Weighted average
of possible outcomes
percent
dollars
Deduction disallowed . . . . . . . .
Deduction granted . . . . . . . . . .
40
60
0
60,000
Total . . . . . . . . . . . . . . . . . . . . .
100
60,000
The rationale is similar under Canadian GAAP, since uncertain tax positions
are not directly addressed in section 3465. However, contrary to IAS 37, its
equivalent, section 3290 (Contingencies) of the CICA Handbook, does not
exclude income taxes from its scope. In practice, the guidelines in section 3290
are used to recognize and measure uncertain tax positions. The measurement of
a liability is similar to the second of the acceptable practices under IFRS stated
above. Under Canadian GAAP, a contingent liability should be recognized for
each of the tax positions that will likely not be sustained. The degree of likelihood derived from the word likely (defined in practice as a 70 to 80percent
chance that something will occur) is stronger than the expression more likely
than not or probable under IFRS (more than 50percent).
Since there is no clear guideline on this topic under IFRS, a company may
establish its own accounting policy and continue to use Canadian guidelines to
recognize and measure its uncertain tax positions, as long as the method is similar
to either of the acceptable practices described above. This choice of accounting
method under IFRS should be applied consistently from one year to the next,
unless IAS12 is amended and the accounting treatment to be used is specified.
IAS 12 does not have any specific guideline on the classification of uncertain
tax positions. The presentation must be consistent with the general principles
above. With respect to current taxes, we are of the opinion that uncertain tax
positions from current and prior periods should be included in current tax liabilities, since the entity does not have the unconditional right to defer the
settlement of the liability by more than 12 months after the reporting period,40
even if it does not expect to pay the amount within 12 months of the end of
the reporting period.
With respect to deferred taxes, we are of the opinion that the entity should
determine the tax base in its deferred tax calculation on the basis of the amount
determined according to the prior analysis. For example, if a loss carried forward
is going to be denied by the tax authorities, no deferred tax assets should be
recorded.
Canadian GAAP and IFRS do not address the presentation of interest and
penalties on uncertain tax positions in the income statement. Practices tend to
vary. Under Canadian legislation, interest and penalties on income taxes are not
deductible. Thus, some companies recognize and classify interest and penalties
as income tax expense in the income statement. Others are of the opinion that
interest and penalties are not based on the taxable income calculation and must
be recognized and classified as financing costs (interest) and operating costs
(penalties). In the March 2009 exposure draft, the IASB indicated that companies should disclose where in the income statement interest and penalties are
classifiedeither as an income tax expense or under operating costs. The exposure draft acknowledged that various practices may be acceptable.
Finally, a company needs to consider whether disclosure of uncertainties
about income taxes is required in the main sources of uncertainties with respect
to the estimates that are included in the notes to financial statements.
Unless otherwise specified, a deferred tax asset must be recognized for all deductible temporary differences to the extent that it is probable that a taxable
profit will be available against which the deductible temporary differences can
be utilized.41 Even if the term more likely than not is used in Canadian GAAP,
IFRS also provides a definition of the term probable, which means more likely
than not,42 making the two standards similar in this regard.
The two standards are also similar in terms of the criteria and guidelines used
in assessing the recognition of a deferred tax asset, which include the following:43
the entity has sufficient taxable temporary differences relating to the same
taxation authority and the same taxable entity, which will result in taxable
amounts against which deductible temporary differences, unused tax
losses, and unused tax credits can be charged before they expire;
41 IAS 12, supra note 3, at paragraph24.
42 International Accounting Standards Board, International Financial Reporting Standard
IFRS5, Non-Current Assets Held for Sale and Discontinued Operations, March 2004, as
amended, at appendix A.
43 IAS 12, supra note 3, at paragraph 36; and CICA Handbook, supra note 22, at
section3465.25.
it is probable that the entity will have taxable profits before the unused
tax losses or unused tax credits expire;
taxable profits from prior years would entitle the entity to a tax refund,
to the extent that tax laws allow carrybacks;
unused tax losses result from identifiable causes, which are unlikely to
recur; or
tax-planning opportunities are available to the entity that will create taxable profit in the period in which the unused tax losses or unused tax
credits can be charged.
Under IFRS, if an entity is unlikely to have a taxable profit that can be offset
against deductible temporary differences, unused tax losses, or unused tax credits,
the deferred tax asset is not recognized. The amount and the expiry date, if any,
of these deductible temporary differences, unused tax losses, and unused tax
credits must be disclosed in the notes to financial statements.44
In terms of presentation, Canadian GAAP offer an alternative that is not
available under IFRS: all future income tax assets can be recognized less an
amount of valuation allowance that is sufficient to reduce deferred tax assets
to an amount that will more likely than not be realized.45 The difference between the standards, if the choice has been made, can be significant for the
disclosure in the notes to financial statements, but should have no impact on
the amount of deferred tax asset or liability recognized on the balance sheet.
DEFERRED TAXES IN A BUSINESS COMBINATION
In a business combination, the acquiree may have deferred tax assets. In certain
situations, the deferred tax assets cannot be recognized, because it is not probable that they will be realized. Canadian GAAP formerly required that if the
assets were recognized in a period subsequent to the acquisition, the resulting
deferred tax recovery reduced the goodwill and the intangible assets related to
the acquisition to zero before being recognized in the income statement.46
44 IAS 12, supra note 3, at paragraph81(e).
45 CICA Handbook, supra note 22, at section3465.30.
46 CICA Handbook, supra note 22, at section 3465.48. The adoption of new section 1582 of
the CICA Handbook eliminates the difference in accounting treatment at this level, since
Canadian GAAP adopt the accounting treatment applicable under IFRS. Since section 1582
will be applied only in 2011, the analysis addresses the prevailing accounting treatment
under the current section 1581 for business combinations.
Under IFRS, the subsequent recognition of the acquired entitys deferred tax
assets will be accounted for in the income statement, unless the recognition
takes place during the measurement period and results from new information
about facts and circumstances that existed at the acquisition date. In this case,
the resulting deferred tax recovery reduces goodwill to zero before being recognized in the income statement.47 The measurement period is the period that
follows the acquisition date during which the acquiror can adjust amounts
temporarily recognized for the business combination. The measurement period
may not, however, exceed one year from the acquisition date.
Following a business combination, the acquiror may recognize its own deferred tax asset, which was not recognized before the business combination. For
example, the acquiror may be able to utilize its unused tax losses against the
future taxable profit of the acquiree. In these cases, under IFRS, the acquiror
recognizes a deferred tax asset but does not include it as part of the accounting
for the business combination. Consequently, the acquiror does not take the
deferred tax asset into account in measuring goodwill,48 and the asset will be
accounted for in the income statement. Under Canadian GAAP, recognition of
the asset is included in the allocation of the acquirees purchase price.49
DEFERRED TAXES ON GOODWILL
IN A BUSINESS COMBINATION
less than the tax base of the asset, the company must recognize the deferred tax
asset in the purchase price allocation to the extent that it is probable that this
deferred tax asset will be realized.53
DEFERRED TAXES WHEN ASSETS ARE ACQUIRED OTHER
THAN THROUGH A BUSINESS COMBINATION
base is therefore nil. Conversely, since the lease payments will be deductible in the future taxable income calculation but the notional interest
expenses recognized in income will not, the liability resulting from the
obligation under the capital lease also has a tax base of nil. Note that the
amount of future lease payments less the amount of future notional interest
expenses is equivalent to the obligation under the capital lease recognized
on the balance sheet. Therefore, when an amount related to a liability is
tax-deductible in future years, its tax base is nil.
According to Canadian GAAP, deferred taxes resulting from the difference
between the carrying amount of the acquired asset and its tax base must be
recognized. The deferred income tax is then calculated using the simultaneous
equations method to determine the price of the acquired assets, as well as the
deferred tax assets or liabilities associated with them.55
Example 2
The following example from the CICA Handbook 56 illustrates the simultaneous
equations method:
An enterprise buys an asset for $8,000 cash. The maximum tax basis of the
asset on initial recognition is $2,000. The tax rate is 40 percent. In accordance
with paragraph 3465.43, the enterprise recognizes the asset at an initial carrying amount of $12,000 and recognizes a future income tax liability of $4,000.
The initial carrying amount is determined using the formula set out below:
Carrying value = Cost of the asset +
That is,
Carrying value = $8,000 +
Under IFRS, deferred taxes resulting from such transactions are not recognized. For this exception to accounting for income taxes to apply, the transaction
55 CICA Handbook, supra note 22, at section 3465.43.
56 Ibid., at section 3465.44.
cannot be part of a business combination, nor can it affect the accounting profit
or taxable profit of the company.
Note that for capital leases, a company may in practice recognize a deferred
tax liability resulting from the capital asset and a deferred tax asset resulting
from the obligation, since these assets and liabilities cancel each other out on
initial recognition.57 This practice is similar to that used under Canadian GAAP.
NON-MONETARY ASSETS AND LIABILITIES
OF INTEGRATED FOREIGN OPERATIONS
Under Canadian GAAP, no deferred tax asset or liability is recognized with regard
to the temporary difference resulting from the difference between the translations to the historic exchange rate and the current exchange rate of the cost of
non-monetary assets or liabilities of integrated foreign operations.58
The concept of integrated or independent foreign operations does not exist
under IFRS. Entities must determine their functional currency on the basis of
the criteria established in IAS21 (The Effects of Changes in Foreign Exchange
Rates).59 When the functional currency is not the same as the currency used to
prepare income tax returns in the foreign jurisdiction, this results in differences
that require the deferred tax to be recognized under IFRS. In a number of jurisdictions, the currency used for income tax purposes is the foreign countrys
currency, and the taxpayer does not have the option to use the accounting
functional currency for income tax purposes.
Contrary to Canadian GAAP, IAS12 provides no exceptions relating to these
temporary differences. Consequently, IAS12 imposes the recognition of a deferred
tax asset and/or liability for these translation differences. The temporary differences resulting from the effect of exchange-rate fluctuations on non-monetary
assets and liabilities of integrated operations must be identified and a deferred tax
recognized for them.
Example 3
The CICA Handbook provides the following example:60
On January 1, X1, CompanyP made an investment of $1,000,000 in Company S, an integrated foreign operation whose production facilities have a
57 PricewaterhouseCoopers, supra note 30, chapter 13, at section 202.6.
58 CICA Handbook, supra note 22, at section 3465.33.
59 International Accounting Standards Board, International Accounting Standard IAS21, The
Effects of Changes in Foreign Exchange Rates, December 2003, as amended.
60 CICA Handbook, supra note 22, at section 3465.34.
of the current tax on the transaction is often offset by the recognition of the
deferred tax by the purchaser. However, if the two entities have different tax rates,
or if one of the two entities does not recognize its deferred tax asset, the effect of
this type of transaction in the income statement can be significant.
Example 4
During the year, Canadian CompanyA Ltd. sold assets with an accounting and tax
cost of $60,000 to its American subsidiary, US Co., for proceeds of disposition of
$100,000. The tax rate and tax consequences are as follows:
Vendor: A Ltd.
Tax cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $60,000
Proceeds of disposition . . . . . . . . . . . . . . . . . . . . . . . . . . . $100,000
Tax rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
30%
Current tax . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $12,000
Purchaser: US Co.
Tax cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $100,000
Accounting cost (consolidated) . . . . . . . . . . . . . . . . . . . . . $60,000
Tax rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
40%
Under Canadian GAAP, there is no effect in the income statement, and current
tax is deferred until the assets are sold to a third party. The current tax liability is
therefore recognized and an asset is recognized in the financial statement until the
gain is recognized by the consolidated entity.
Under IFRS, the tax effects are recorded in the income statement:
Current tax expense of the vendor . . . . . . . . . . . . . . . . . . .
Deferred income tax of the purchaser . . . . . . . . . . . . . . . .
$12,000
(16,000)
(4,000)
The current tax liability of $12,000 and the deferred tax asset of $16,000 are
therefore recognized.
RECOGNITION AND DISCLOSURE OF TEMPORARY
DIFFERENCES RELATED TO INVESTMENTS IN SUBSIDIARIES,
BRANCHES, ASSOCIATES, AND JOINT VENTURES
Under Canadian GAAP, no deferred tax assets or liabilities are recognized for the
difference between the carrying amount of an investment in a subsidiary or joint
venture and the tax base of the investment when it is probable that the temporary difference will not reverse in the foreseeable future.62 When deferred tax is
62 Ibid., at section 3465.37.
not recognized for these differences, Canadian GAAP are indicating that it is
preferable that the amount of the temporary difference be disclosed as a note to
the financial statements, as well as the related deferred taxes if they can be determined after a reasonable effort is made to do so.63 In practice, very few
companies disclose this information.
IAS 12 is slightly different with respect to the terms used and the types of
investments that benefit from the exception to recognition of a deferred tax
liability.64 In addition to covering subsidiaries and joint ventures, the exception
includes branches and associates. To avoid recognizing a deferred tax liability,
the investor must be able to control the timing of the reversal of the temporary
difference, and that temporary difference should not reverse in the foreseeable
future. The conditions are similar for the recognition of a deferred tax asset. In
practice, there should not be any major difference between Canadian GAAP and
IFRS in this respect. However, for disclosures made in notes to financial statements, IFRS require a company to disclose the aggregate amount of temporary
differences associated with investments in subsidiaries, branches, associates, and
interests in joint ventures for which deferred tax liabilities have not been
recognized.65
As mentioned above, very few companies keep the carrying amounts and tax
bases of their investments up to date. The carrying amount of the investment
refers to the amount determined under the equity method and not the historic
accounting cost of the investment. In addition to the acquisition cost, the calculation therefore requires that the following be taken into account: distributions,
profits or losses realized since the acquisition, consolidation adjustments (elimination of profit, reduction in value of assets, etc.), and the fluctuation of exchange
rates if the entity has a different functional currency. As for the tax base, the
adjusted cost base of investments must be updated. Furthermore, if a company
decides to disclose the unrecognized deferred tax liability amount, the tax effect
resulting from the reversal of temporary differences must be determined, and
this may require calculation of the various surpluses under the Canadian foreign
affiliate tax regime.
Under IFRS, a deferred tax liability is recognized for any temporary difference
resulting from the separate initial recognition of a compound financial instrument.66 For example, the proceeds from the issuance of a $1,000 convertible
debt can be allocated between liability and equity as follows: $750 for the liability component and $250 for the equity component. Thus, the settlement of
the debt for its carrying amount of $750 has tax consequences, since the principal of the debt is greater. IFRS require that a deferred tax liability be recorded
on the temporary difference of $250. Subsequent changes in the deferred tax
liability are recognized in income.67
Under Canadian GAAP, when the enterprise is able to settle the financial
instrument without the incidence of tax, in accordance with its terms, either
through settlement on maturity or conversion, the tax basis of the liability
component is considered to be the same as its carrying amount.68 Thus, there
is no temporary difference in this situation.
Presentation
INTRAPERIOD ALLOCATION
Under Canadian GAAP, the expense or income from current or deferred taxes is
initially recognized in the income statement, unless a different allocation is indicated.73 In general, Canadian GAAP require that tax be recognized initially in
the financial statements component where the underlying revenue or expense
is recorded. Financial statements component means the income statement,
other comprehensive income, or equity. For example, deferred tax assets resulting from share issue expenses should be recognized in the companys equity
that is, in the same item as the proceeds from the share issuance. Any change in
these deferred assets that arises in a subsequent period is recognized in the income statement.
Under IFRS, current and deferred taxes must be recognized in the income
statement or elsewhere in the financial statements, such as in other comprehensive income or equity, on the basis of the element that triggered the tax effect
in either the original period or a prior period. This intraperiod allocation
method for change in subsequent periods is known as backward tracing.
70 Ibid., at paragraph 68C.
71 ITA subsection 66(12.6) and following.
72 CICA Handbook, supra note 22, at section 3465.69.
73 Ibid., at section 3465.63.
The amount of the deferred tax assets or liabilities can change in a period
subsequent to their recognition, even if there has been no change in the temporary differences. For example, such change can result from
a change in the tax law (tax rate or other),
revaluation of the ability to recover deferred tax assets, or
a change in the expected manner of recovery of an asset.
Contrary to Canadian GAAP, the change in value of the deferred tax asset or
liability will be allocated to the financial statements component where the
temporary difference was originally recognized. For example, a change affecting
the deferred tax assets resulting from a share issue expense will be allocated to
equity, as shown in the following example.
Example 5
On January 1, X2, the provincial government announced a reduction in the corporate tax rate from 12 to 10 percent. The federal rate remained unchanged at
15percent. At that time, the company recognized the deferred tax assets and liabilities on the following temporary differences:
Temporary
difference
Capital assets . . . . . . . . . . . . .
Share issue expenses . . . . . . .
Loss carried forward . . . . . . .
(100,000)
40,000
80,000
Total . . . . . . . . . . . . . . . . . . .
20,000
Deferred tax
Before
After
dollars
(27,000) (25,000)
10,800
10,000
21,600
20,000
5,400
5,000
The reduced tax rates generated a $400 reduction in deferred tax assets, and the
resulting income tax expense will be allocated differently to financial statement
components depending on whether Canadian GAAP or IFRS are used.
Under Canadian GAAP, the total $400 tax expense will be allocated to the income statement. Under IFRS, the origin of the temporary differences needs to be
analyzed. In the example, share issue expenses were first recognized in equity, whereas
the other differences were recorded in the income statement. Thus, the expense
resulting from the reduction of the asset by $800 in share issue expenses will be
allocated to equity, and the $400 income tax recovery will be allocated to the income statement for the other temporary differences.
IAS12 also covers circumstances in which it may be difficult to determine the
amount of current and deferred tax related to items recognized in other compre-
hensive income or equity. In such cases, the current and deferred tax related to
items that are recognized outside the income statement are based on a reasonable pro rata allocation of the current and deferred tax of the entity, or another
method that achieves a more appropriate allocation in the circumstances.74
If a temporary difference results from several different components of the
financial statements, it will be divided among those various components. This
may be the case, for example, for deductions for financing expenses under
paragraph 20(1)(e) of the ITA, which may result from the issuance of shares or
debt. In the event of a share issue, equity is affected, and for a debt issue, the
income statement is affected.
With respect to adjustments to retained earnings resulting from the changeover to IFRS, authoritative accounting literature states that retrospective allocation
must not be made to retained earnings, but rather be based on the financial
statements component that would have been affected if the company had always
used IFRS to prepare its financial statements.75
INTRAPERIOD ALLOCATION AND CHANGE
IN THE TAX STATUS OF AN ENTITY
Under IFRS, a change in the tax status of an entity is an event that must be
recognized using backward tracing.76 For example, if an entity becomes taxable,
whereas it previously was not, and the carrying amounts of the assets and liabilities are different from their tax bases, the deferred tax assets and liabilities must
be recorded. Any resulting deferred tax income or expense must be allocated to
the financial statements component to which they would have been allocated
in that period or in a prior period if the entity had always been taxable.
Under Canadian GAAP, changes in deferred tax liabilities and assets resulting
from a shareholders initiative or a new equity contribution are recorded as
equity transactions.77 However, the effects of changes in tax status related to
initiatives or decisions by the entity (for example, a change in an entitys country
of domicile) are recognized in the income statement.
the entity offsets the ITC against the tax expense in the income statement,
similar to the method proposed under IAS12; or
the entity offsets the ITC against the reduction of the expense that entitled
it to the credit, similar to the method proposed under IAS20.
Accounting for ITCs under IAS 20 is similar to the approach under Canadian
GAAP. The accounting policy used, including the presentation method in the
income statement, should be disclosed in a note to financial statements.
CLASSIFICATION OF DEFERRED TAX
ASSETS AND LIABILITIES
Canadian GAAP require deferred tax assets and liabilities to be classified in the
current or long-term section of financial statements on the basis of the asset or
liability to which the deferred taxes are related. In contrast, under IFRS, deferred
tax assets and liabilities are classified in non-current assets or liabilities, regardless of the underlying item to which they are related.84 However, the entity must
disclose the deferred tax balance that it expects to recover or settle in the next
12months in the notes to financial statements.85 The same applies to current
taxes recognized in current assets or liabilities that will be recovered or settled
in more than 12months.
OFFSETTING CURRENT TAX ASSETS AND LIABILITIES
Under IFRS, an entity must offset current tax assets and liabilities if it has both
a legally enforceable right to set off the amounts recognized and
the intention to settle the assets and settle the liabilities simultaneously.
Under Canadian GAAP, an entity is not obliged to have the intention to settle
assets and liabilities simultaneously in order to be required to offset the balances.
It simply needs to have the right to do it. For example, an entity is entitled to
a $100,000 federal refund for the previous year, but it records current taxes that
are $60,000 more than the tax instalments made for the current year. Under
IFRS, the entity does not have to offset these balances if it requests the previous
years refund, whereas it would be required to do so under Canadian GAAP.
12 requires an entity to offset deferred tax assets and liabilities of the same
taxable entity if they are related to income taxes collected by the same tax authority and the entity has a legally enforceable right to offset current tax assets
against current tax liabilities.86 Separate taxable entities must offset deferred tax
assets and liabilities if they have the intention and ability to realize the asset and
settle the liability simultaneously. Canadian GAAP guidelines are different,87 but
the results are similar in most cases. For separate taxable entities, the focus tends
to be on implementing tax-planning opportunities that will ensure that the
entity will be the same taxable entity when deferred tax liabilities become payable. This can be accomplished, for example, through a merger or winding up
of previously separate entities.
IAS
how the tax rate applicable to the company compares with the effective tax rate
for the period.88 The effective tax rate is obtained by dividing current and deferred tax expenses by the companys income before taxes. Under Canadian
GAAP, this disclosure by way of a note to financial statements is required only
for public companies and other publicly accountable enterprises.89
IAS 12 provides two methods for calculating the applicable tax rate to be used
for disclosing this information:
1) The applicable tax rate is the rate paid by the ultimate entity that prepares
its financial statements. In this case, the difference between the statutory
rate of the entity and the statutory rate of the consolidated entities is a
reconciliation item.
2) The applicable tax rate is the weighted average of the rates applicable to
the entities of the consolidated group.
The first method is used under Canadian GAAP. Furthermore, under IFRS, the
company must explain changes made to applicable tax rates if they are different
from the rates applied in previous periods.90
DISCLOSURES: THE MAJOR DIFFERENCES
Aside from the above-mentioned differences, some major differences with respect to required disclosures may have a significant effect on the preparation of
financial statements. Under IFRS, the following disclosures must be made by
way of a note to financial statements:
any adjustments recognized in the period for current tax of prior periods
(for example, differences between the prior-period tax expense and the
amount calculated on the tax return);91
the amount of the benefit arising from a previously unrecognized tax loss,
tax credit, or temporary difference of a prior period that is used to reduce
the current tax expense or deferred tax;92
with respect to discontinued operations, the tax expense relating to the
gain or loss on discontinuance and current income from discontinued
operation for the period, together with the corresponding amounts for
each prior period presented;93 and,
when the utilization of the deferred tax asset depends on factors other
than the reversal of existing taxable temporary differences and the entity
has suffered a loss in either the current or a preceding period in the tax
jurisdiction to which the deferred tax asset relates, an indication of the
nature of the evidence supporting its recognition.94
Note that disclosures related to temporary differences will be more significant
under IFRS than under Canadian GAAP. For each category of temporary differences, tax losses, and unused tax credits, the entity must disclose the amount of
deferred tax assets and liabilities recognized on the balance sheet for each period
presented and the deferred tax income or expense recognized in the income
Conclusion
The changeover from Canadian GAAP to IFRS will involve its share of work for
tax professionals. As demonstrated in this chapter, the approach to accounting
for income taxes has not undergone any drastic changes. However, in most
companies, a financial effect of some kind will need to be recorded at the time
of changeover. The notes to financial statements related to income taxes will be
different, and more information will be needed for disclosure. In addition, the
processes and worksheets used for the preparation of the tax provision will need
to be revisited and adapted to the new IFRS requirements.