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COMPANY BRIEFING
FRS 19 - Deferred Tax
Datasheet
July 2002
The Accounting Standards Board (ASB) has issued a new FRS setting out how companies
should account for and disclose the financial impact of deferred taxation in the company’s
accounts. It will replace SSAP 15 as the accounting standard that deals with deferred
taxation. This FRS is effective for accounting periods ending on or after 23 January 2002.
The details of the new standard are set out below, along with an illustrative example and
sample disclosures to show the impact the new standard could have on the company’s
accounts.
1. Overview
FRS 19 ‘Deferred Tax’ was issued on 7th December 2000 and supersedes SSAP 15
‘Accounting for Deferred Tax’. The new requirements bring accounting practice in the UK
more closely into line with international standards.
Deferred Tax is the estimated future tax consequences of transactions and events which
have been recognised in the financial statements of current and previous periods.
FRS 19 requires deferred tax to be provided for on a ‘full provision’ basis, rather than the
‘partial provision’ basis previously required by SSAP 15. This full provision refers to the
aggregate of all the timing differences created recognising gains and losses for accounting
and tax purposes differently.
As a consequence of the full provision basis, deferred tax is more likely to be a material
consideration regarding the future preparation of accounts. It follows that deferred tax
balances will become increasingly common, which in turn will bring the need for additional
disclosures. This will include a reconciliation of the difference between the effective tax
rates underlying the current tax charge and the standard rate of tax in force at the yearend.
The FRS also permits, but does not require, entities to discount long-term deferred tax
balances.
2. Scope and implentation
FRS 19 is applicable to all financial statements intended to give a true and fair view, unless
an entity is able to take advantage of the exemptions available by applying the Financial
Reporting Standard for Smaller Entities (FRSSE).
FRS 19 is mandatory for accounting periods ending on or after 23 January 2002. Earlier
adoption is encouraged, however, recent surveys have shown a marked reluctance of
companies to adopt this standard early.
The general principle underlying the requirements is that deferred tax should be
recognised if past transactions or events give an entity an obligation to pay more or less
tax in the future. This will be the case where a ‘timing difference’ occurs.
3. The Provision and Recognition
The deferred tax liability (or asset) is the product of all ‘timing differences’, which exist at
the year end, multiplied by the expected ‘applicable tax rate’ which will be in force when
the individual timing differences are anticipated to reverse – and the charge (or credit) to
corporation tax will crystallise.
Deferred tax is generally recognised in the profit and loss account except where it relates
to a gain or loss recognised in the statement of total recognised gains and losses. No
deferred tax is recognised on permanent differences between accounting and tax
treatments.
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Deferred tax assets can be recognised only to the extent that they are expected to be
recoverable because of the expectation of suitable future taxable profits or future deferred
tax liabilities.
FRS 19 defines timing differences as the differences between an entity’s taxable profits
and its results as stated in the financial statements that arise from the inclusion of gains
and losses in tax assessments in periods different from those in which they are recognised
in financial statements.
4. Timing Differences
Examples of timing differences include:
allowances given for tax purposes at a different rate to accounting depreciation
· Capital
charges – commonly referred to as ‘accelerated capital allowances’;
liabilities accrued for accounting purposes which are allowed for tax purposes
· Pension
only when contributions are paid;
costs or development costs capitalised for accounts purposes which are treated
· Interest
as revenue expenditure and allowed for tax purposes;
· Intragroup profits in stock unrealised at group level and reversed on consolidation;
fixed assets for which a gain becomes taxable only if and when the asset is
· Revalued
sold;
losses not relieved against past or present taxable profits, which are carried forward
· Tax
to reduce future taxable profits;
earnings of a subsidiary or associated undertakings or joint ventures which
· Unremitted
are subject to taxation only if and when remitted to the parent undertaking;
which are continuously revalued to fair value with changes in their fair value
· Assets
being recognised in the profit and loss account, e.g. current asset investments ‘marked
to market’. (Note that in many cases the gains and losses are subject to current tax
when they are recognised and therefore no timing differences arise).
FRS 19 prohibits the recognition of deferred tax on timing differences arising when:
asset has been revalued, unless, at the balance sheet date, a binding
· Asalenon-monetary
agreement has been reached and a profit or loss has been accounted for (by
revaluing the fixed asset at the net sale proceeds).
Non-monetary assets are those of a long-term nature, e.g. land and buildings (held in
accordance with SSAP 19 or FRS 15), fixed asset investments or stocks;
· Assets adjusted to their fair values on the acquisition of a business;
anticipated gain on the sale of an asset is anticipated to be rolled over onto
· The
replacement assets.
5. Applicable Tax Rate
Deferred tax is measured using the average tax rates expected to apply in the periods in
which the timing differences are expected to reverse. This is based on tax rates and laws
enacted or substantially enacted at the balance sheet date.
Where different tax rates apply to different bands of profit, use the average rate expected
for the year in which the timing difference reverses.
6. Illustrative Example
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This example shows the deferred tax liability for a small company, which claims first year
allowances on its fixed asset additions and expects to pay future corporation tax at a rate
of 20% and depreciates Asset 3 at 20% per annum on cost.
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Note: The company starts with considerable accelerated capital allowances as a result of
claiming first year allowances. The addition of Asset 3, is on the last day of year 1 and
therefore no depreciation is charged but a writing down allowance is taken. The effect of
the addition is to temporarily increase the deferred tax liability, which then reduces over
time as the written down value and net book value realign.
The example shows a deferred tax liability of £1,780 as at 31.12.01. If FRS19 were applied,
this liability would be recorded in the balance sheet and a charge would be made to the
profit and loss account via the tax charge. In the year ending 31.12.02, the provision would
be debited by £80 and a credit would be made to the profit and loss tax account.
Fixed asset summary (accounts)
NBV at 1.1.01
Additions
Depreciation charge
Asset 1
£
5,000
(500)
Asset 2
£
10,000
(1,200)
Asset 3
£
4,000
-
Asset 4
£
15,000
4,000
(1,700)
NBV at 31.12.01
Depreciation charge
4,500
(500)
8,800
(1,200)
4,000
(800)
17,300
(2,500)
NBV at 31.12.02
4,000
7,600
3,200
14,800
Fixed asset summary (tax pool)
Tax WDV at 1.1.01
Additions on 31.12.01
FYA (40% x 4,000)
WDA (25% x 8,000)
8,000
4,000
(1,600)
(2,000)
(3,600)
Tax WDV at 31.12.01
WDA (25% x 8,400)
8,400
(2,100)
Tax WDV at 31.12.02
6,300
Deferred tax calculation
At 1.1.01
At 31.12.01
At 31.12.02
7. Discounting the Deferred Tax
Balance
Accounts NBV Tax WDV
£
£
15,000
8,000
17,300
8,400
14,800
6,300
Difference
£
7,000
8,900
8,500
At 20 %
£
1,400
1,780
1,700
Reporting entities may choose to discount deferred tax assets and liabilities to take
account of the time value of money. Companies must choose between a policy of
discounting or not discounting deferred tax.
The key factors to consider in arriving at a decision are the materiality of the discounting
effect, whether the benefits would outweigh the time and cost of preparing the information
and of whether there is an established industry practice.
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Southampton House
317 High Holborn
London WC1V 7NL
T 020 7969 5500
F 020 7969 5600
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Discounting is applied over the total period in which it is estimated that the underlying
timing differences will reverse. No timing differences predicted to arise on future
transactions or of future losses should be included. The discounting rate used should be
the post-tax yields to maturity obtainable at the balance sheet date on government bonds
which have maturity dates, and are in currencies, similar to those of the deferred tax assets
or liabilities.
8. Disclosures
FRS 19 includes disclosure requirements regarding the measurement and presentation of
deferred tax assets and liabilities.
The deferred tax balance must be presented separately on the face of the balance sheet
and profit and loss account if the amount is so material that, in the absence of such
disclosure, readers may misinterpret the accounts. The other disclosures are made in the
notes to the accounts.
8.1 Accounting Policy Note/Prior
Year Adjustment
Adoption of FRS 19 will require a new accounting policy to be disclosed and will often result
in a prior year adjustment.
The Standard requires that the new accounting policy is disclosed (including whether the
deferred tax balance is discounted), the reason for the change is also disclosed, the effect
of the prior year adjustment is quantified and the effect on the current year’s results is
disclosed.
Typical examples would read: (See the above Illustration, notes as at 31.12.02)
Deferred Tax Accounting Policy
Deferred tax is provided using the full provision method following the company’s adoption
of Financial Reporting Standard Number 19. Deferred tax is recognised in respect of all
timing differences, which have originated but not reversed at the balance sheet date. It is
the company’s policy not to discount deferred tax to reflect the time value of money.
Prior Year Adjustment
As a result of the adoption of Financial Reporting Standard Number 19, a prior year
adjustment has been made in respect of the recognition of a deferred tax liability. This
adjustment has resulted in an increase in the current year’s profit of £80 (2001: Loss £380).
A deferred tax liability of £1,700 has reduced net assets at 31 December 2002 by this
amount (2001: £1,780). Analysis of the deferred tax liability is included in Note X to the
accounts.
The comparative figures in the accounts have been restated to reflect the adoption of the
new policy.
8.2 Profit and loss disclosures
On the face of the Profit and Loss Account all deferred tax is recognised within the heading
‘tax on profit on ordinary activities’.
FRS 19 requires that all separately material components of the deferred tax charge or
credit are disclosed separately. This includes each element attributable to:
· Origination and reversal of timing differences;
· Changes in tax rates and laws;
to estimated recoverable amount of deferred tax assets arising in previous
· Adjustments
periods;
discounting policy has been adopted, disclose changes in amount of discount
· Where
deducted in arriving at the deferred tax balance.
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T 020 7969 5500
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In addition, where applicable, disclosure of tax losses brought forward or carried forward is
required.
This disclosure effectively results in a reconciliation of the current actual tax charge for the
period to the charge that would arise if the accounting profits reported in the accounts were
charged at a standard rate of tax in force at that time.
A typical example would read:
Tax on Ordinary Activities
(a) Analysis of tax charge in the year:
2002
£
UK corporation tax at current rates
Under / (Over) provision in previous years
14,000
500
2001
£
(As restated)
15,000
(300)
Total current tax (Note (b))
14,500
14,700
(80)
-
380
-
14,420
£ 15,080
Deferred tax: (Note X)
Origination and reversal of timing differences
Movement on discount
Decrease in corporation tax rates
Tax charge on ordinary activities
(b) Factors affecting tax charge for year:
The corporation tax assessed for the year is different from the standard rate of corporation
tax in the UK of 20% (2001: 20%). The differences are explained below:
Profit on ordinary activities before tax
Profit on ordinary activities before tax multiplied
by the small companies rate of corporation tax
in the UK of 20% (2001: 20%)
Effects of:
Expenses not deductible for tax purposes
Capital allowances for the year less than/
(in excess) of depreciation
Utilisation of tax losses
Adjustments to tax charge in respect of
previous years
Current tax charge for the year
2002
£
64,600
2001
£
87,400
12,920
17,480
1,000
900
80
(380)
-
(3,000)
500
(300)
14,500
14,700
The directors have applied the small companies corporation tax rate of 20% on the basis
that their current forecasts suggest that foreseeable profits will fall into this band.
No tax losses are carried forward at the year-end (2001: £ Nil)
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(c) Factors that may affect future tax charges
Based on current capital investment plans, the company expects to continue to be able to
claim capital allowances in excess of depreciation in future years but at a slightly lower
level than in the current year.
The company has now used all brought-forward tax losses, which have significantly
reduced tax payments in recent years.
No provision has been made for deferred tax on gains recognised on revaluing property to
its market value or on the sale of properties where potentially taxable gains have been
rolled over into replacement assets. Such tax would become payable only if the property
were sold without it being possible to claim rollover relief. The total amount unprovided is
£200,000. At present, it is not envisaged that any tax will become payable in the
foreseeable future.
The company’s overseas tax rates are higher than those in the UK primarily because the
profits earned in country X are taxed at a rate of 45 per cent. The company expects a
reduction in future tax rates following a recent announcement that the rate of tax in that
country is to reduce to 40 per cent.
No deferred tax is recognised on the unremitted earnings of overseas subsidiaries,
associates and joint ventures. As the earnings are continually reinvested by the group, no
tax is expected to be payable on them in the foreseeable future.
8.3 Balance sheet disclosures
The deferred tax balance is included on the face of the balance sheet, either within
‘provisions for liabilities and charges’ for liabilities or within debtors for assets. Separate
disclosure on the face of the balance sheet is required where amounts are so material that
failure to do so may cause a reader to misinterpret the accounts.
FRS 19 requires that disclosure of an analysis of the balance (before and after discounting)
into timing difference categories is given together with the movement in the balance,
showing separately the amounts charged or credited to the profit and loss account and the
statement of total recognised gains and losses.
Where losses have been incurred and a deferred tax asset exists the following disclosures
are required:
amount of the asset
·· the
the nature of supporting evidence where recoverability depends on future profits
chargeable to corporation tax.
Additionally, disclosure of an estimate of tax that would be payable if assets which are
revalued were sold and any other deferred tax balances not recognised in the accounts, is
required by FRS 19.
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Southampton House
317 High Holborn
London WC1V 7NL
T 020 7969 5500
F 020 7969 5600
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W www.haysmacintyre.com
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A typical deferred tax note would read:
Deferred tax liability
2002
£
8.4 Implementing FRS 19
Gross:
Accelerated capital allowances
Tax losses carried forward
Short term timing differences
1,700
-
2001
£
(As restated)
1,780
-
Undiscounted provision for deferred tax
1,700
1,780
Provision at the beginning of the year
Deferred tax charge to the profit and
loss account (Note Y)
Provision at the end of the year
1,780
(80)
1,400
380
1,700
1,780
For companies who currently do not provide at all or who provide a partial amount, the
impact could be significant.
Balance sheet gearing could increase and the profit after tax may be reduced if additional
deferred tax has to be provided. As a changeover from SSAP 15 to FRS 19 would
represent a change of accounting policy, previous year figures would have to be restated.
Earnings per share and gearing comparisons would therefore be made with restated
comparatives.
At whatever stage companies move over to FRS 19, it will be crucial to explain to
shareholders, bankers and other users, the reasons for the changes in the figures and the
fact that business viability and cash flow are unaffected.
The discounting decision will depend on the complexity of the calculations, the impact of
discounting and the amount of information may need to be collated in order to assess the
impact.
For more information
For more information, please contact your usual engagement partner or:
Simon Wilks on 020 7969 5525
E: swilks@haysmacintyre.com
T 020 7969 5500
F 020 7969 5600
haysmacintyre
Southampton House
317 High Holborn
London WC1V 7NL
T 020 7969 5500
F 020 7969 5600
E service@haysmacintyre.com
W www.haysmacintyre.com
E service@haysmacintyre.com
W www.haysmacintyre.com
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