IFRS PRACTICAL IMPLEMENTATION GUIDE AND WORKBOOK

Chapter 9 / Incom e Taxes (lAS 12)

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Case Study 6

Facts An entity has acquired a subsidiary on January I, 20X4. Goodwill of $2 million has arisen on the purchase of this subsidiary. The subsidiary has deductible temporary differences of $ 1 million and it is probable that future taxable profits are going to be available for the offset of this deductible temporary difference. The tax rate during 20X4 is 30%. The deductible temporary differenc e has not been taken into account in calculating goodwill. Required What is the figure for goodwill that should be recognized in the consolidated balance sheet of the parent? Solution $ 1.7 million. A deferred tax asset of $ 1 million x 30%, or $300,000, should be recognized because it is stated that future taxable profits will be available for offset. Thus at the time of acquisition there is an additional deferred tax asset that has not as yet been taken into account. The result of this will be to reduce goodwill from $2 million to $1.7 million. 6. TEMPORARY DIFFERENCES NOT RECOGNIZED FOR DEFERRED TAX 6.1 Th ere are some temporary differenc es that are not recogn ized for deferred tax purpose s. Th ese arise (a) From goodwill (b) From the initial recogniti on of certain assets and liabilities (c) From investments when ce rtai n condition s apply 6.2 The lAS does not allow a deferred tax liability for goodwi ll on initial recogniti on or whe re any reducti on in the va lue of goodwi ll is not allowed for tax purpo se s. Becau se goodwill is the re– sidual amo un t after recognizing assets and liabi lities at fair value, recognizing a deferre d tax liab il– ity in respect of goodwill wo uld simply inc rease the va lue of goodw ill; therefor e, the recognition of a deferred tax liabil ity in th is regard is not allowed. Deferred tax liabilities for goodw ill could be recogni zed to the extent that they do not arise from initial recogn ition. Facts An entity has acquired a subsidiary, and goodwill arising on the transaction amounts to $20 million. Goodwill is not allowable for tax purposes in the entity' s jurisdiction. Tax rate for the entity is 30% and the subsidiary is 60% owned. Required Calculate the deferred tax liability relating to goodwill and expla in whether a taxable temporary dif– ference would arise if goodwill was allowable for tax purposes on an amortized basis. Solution Zero. A deferred tax liability should not be recognized for any taxable temporary difference which arises on the initial recognition of goodwill. Where goodwill is deductible for tax purposes on an amortized basis, a taxable temporary difference will arise in future years being the difference between the carrying value in the entity's accounts and the tax base. 6.3 Th e second temporar y difference not recogni zed is on the initial recognition of certain as sets and liabilities whi ch are not full y deductible or liabl e for tax pu rposes. For example, if the cost o f an ass et is not deductible for tax purposes then th is has a tax base of nil. 6.4 Generall y speaking this g ive s rise to a taxable temporary d ifference. However , the St andard does not allow an enti ty to recognize any deferred tax that occurs as a result of this initi al recogni– tion. Thus no deferred tax liability or asset is recognized whe re the carrying va lue of the item on initial recognition differs from its initi al tax base. An example of this is a nontaxable government grant th at is related to the acqui siti on of an asset. No te, however, that if the initial recognition oc– curs on a busin ess combina tion, or an accounting o r taxabl e profit or loss arise s, then deferred tax should be recogni zed . Case Study 7