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Chapter 6

Accounting for company
income tax

Prepared by
Emma Holmes
Accounting income vs tax treatments










• Accounting profit does not equal taxable profit
• Difference caused by different “rules” used for accounting vs
tax purposes


ACCOUNTING TAX
Basis of
accounting
Equations
Accruals basis Principally cash basis
Revenue – Expenses
= Accounting profit
Taxable income (TI) – tax
deductions (TD) =
Taxable profit
AASBs and the
Corporations Act are key
sources that determine
the appropriate
accounting treatment of
transactions
The Income Tax Assessment Act
determines the tax treatment of
transactions
Some exceptions to this
Accounting income vs tax treatments
ITEM ACCOUNTING TAX
Passive
revenue
received in
arrears





Depreciation
(accelerated
for tax)
R&D costs
Prepaid
expenses

Recognised as revenue,
with corresponding
asset (receivable) when
earned
Recognised as TI when
cash received

Recognised as expense
based on useful life of
asset
Recognised as TD based
on predetermined rates
Capitalised and
amortised

Recognised as TD when
paid
Recorded as an asset
and expensed as
incurred
Recognised as TD when
paid

Rent, interest, royalties etc
Common for assets to be depreciated over a shorter life for tax purposes than for accounting purposes
Accounting income vs tax treatments
ITEM ACCOUNTING TAX
Passive revenue
received in
advance



Depreciation
(accelerated for
acctg)
Bad/doubtful debts
Employee benefits
– eg annual leave
Recorded as liability .
Recognised as revenue
when earned.

Recognised as TI when
cash received

Recognised as expense
based on useful life of
asset

Recognised as TD
based on predetermined
rates

Allowance raised and
expense recorded when
debt considered doubtful

Recognised as a TD
when debt physically
written off

Liability raised and
expense recorded when
debt owing to employee

Recognised as TD when
payment made to
employee

Possible for accounting useful life to be shorter than tax useful life
Provisions (eg for warranties) are treated in the same way as employee benefits
Accounting for income taxes –
general principles
• The tax consequences of transactions that occur for
accounting purposes during a period should be
recognised as income or expense during the current
period, regardless of when the tax effects will occur

• This requires identifying the current and future tax
consequences of items recognised in the balance
sheet

• Two separate calculations are performed each year:

1. current tax liability
2. movements in deferred tax balances
Calculation of current tax liability
Accounting profit/(loss)

- acctg revenue not assessable for tax
+ acctg expenses not deductible for tax

+/(-) differences between acctg revenue and TI
+/(-) differences between acctg expenses and TDs

= Taxable profit

x tax rate %
= Current tax liability (CTL)

Calculation of current tax liability -
example
Profit before tax for ABC Ltd for
the year to 30 June 2012 is as
follows:
Sales 1,000
Interest revenue 40
Government grant 80
COGS (450)
Depreciation (50)
Goodwill impairment (20)
Bad debts (30)
Annual leave (10)
Other expenses (260)
PBT 300
• $60 allowed as a tax
deduction for plant.
• Interest has not yet been
received.
• Bad debts of $20 were written
off during the year.
• Payments of $30 were made
to employees in relation to
annual leave taken during the
year.
• The tax rate is 30%

Required:
• Calculate the current tax
liability of ABC Ltd for 2012

Calculation of current tax - example
Accounting profit before tax





Taxable profit
Current tax liability (CTL) (30%)
300

Government grant (80)
Goodwill impairment 20
Interest not yet received (40)
Adjustment for plant depreciation (10)
Adjustment for bad debt write-offs 10
Adjustment for annual leave paid (20)
180
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exempt income
not deductible
Acctg depn 50
Tax depn (60)
Adj req (10)
B/debts expense-acctg 30
B/debts w/off- tax (20)
Adj req 10
A/L expense- acctg 10
Paid- tax (30)
Adj req (20)
Recording current tax liability
In the previous example the CTL would be recorded as:

Dr Income tax expense (current) 54
Cr Current tax liability 54

Deferred tax liabilities and assets
• Arise when the period in which revenue and
expenses are recognised for accounting is different
from the period in which items are recognised for tax

• Arise principally due to the accruals vs cash basis of
recognising transactions. Differences either result in:

1. The company paying more tax in the future
• Taxable temporary differences (TTDs)
• Result in deferred tax liabilities (DTLs)

2. The company paying less tax in the future
• Deductible temporary differences (DTDs)
• Result in deferred tax assets (DTAs)

Calculation of deferred tax
• The existence of temporary differences results in the
carrying amounts of an entity’s assets and liabilities
being different from the amounts that would arise if a
balance sheet was prepared for tax authorities

• Carrying amount (CA)-



• Tax base (TB)- asset and liability balances that would
appear in a “tax balance sheet”.

• Temporary differences are calculated as follows:



asset and liability balances (net
of accumulated depreciation, allowances etc) based on
accounting balance sheet.

CA – TB = TTD/(DTD)

Calculating the tax base
Calculating the tax base for an asset
CA
– future taxable amounts
+ future deductible amounts
= TB

Calculating the tax base for a liability
CA
+ future taxable amounts
- future deductible amounts
= TB


Calculating the tax base - examples
CA FTA FDA TB
Prepayment: $3,000
Interest receivable:$1,000
Plant: cost $10,000,
acctg a/depn $4,600,
tax a/depn $6,500
Trade receivables: $52,000
Allowance for b/debts:
$2,000
Trade payables: $30,000
Annual leave liability: $3,900
3,000 - 3,000 + - = -
1,000 - 1,000 + - = -
5,400 - 5,400 + 3,500 = 3,500
50,000 - - + 2,000 = 52,000
30,000 + - - - = 30,000
3,900 + - - 3,900 = -
Calculating the tax base – examples
Notes to worksheet:
• Prepayments- deductible when paid for tax purposes-
therefore no balance would appear as an asset in the “tax”
balance sheet.
• Interest receivable- assessable when received- therefore
no balance would appear as a receivable asset in the “tax”
balance sheet.
• Plant- WDV for tax purposes = $10,000 - $6,500 = $3,500.
• Trade receivables- bad debts not deductible for tax until
physically written off- therefore the gross trade receivables
amount would appear in the “tax” balance sheet.
• Payables- no differences in the treatment of trade payables
for tax and accounting purposes- therefore CA = TB.
• Annual leave liability - deductible when paid for tax
purposes- therefore no balance would appear as a liability
in the “tax” balance sheet.




Excluded taxable temporary
differences
• Certain temporary differences are excluded from
being recognised.

• AASB 112 prohibits temporary differences from
being recognised in relation to:
– Goodwill
– The initial recognition of assets and liabilities that
do not arise from a business combination.

• Providing certain recognition criteria are met,
deductible temporary differences arising from tax
losses can lead to the recognition of DTAs.
Recognition of DTLs and DTAs
Deferred tax liabilities
• Deferred tax liabilities must be recognised in full

Deferred tax assets
• Deferred tax assets relating to temporary differences
and tax losses are recognised only if:
• there are sufficient taxable temporary differences for
the entity to use against the deductible temporary
differences; OR
• if it is probable that the entity will have sufficient
future taxable profit (against which the tax benefit
can be offset)

Deferred tax assets and liabilities
Calculating a deferred tax asset (DTA)

DTD x tax rate % = DTA


Calculating a deferred tax liability (DTL)

TTD x tax rate % = DTL


Recording a DTA/DTL

Dr Deferred tax asset
Dr/Cr Income tax expense
Cr Deferred tax liability

The tax rate % is that
which is expected to
apply when the asset
will be realised or the
liability settled
BALANCING ITEM
Calculation of deferred tax
example
The balance sheet of ABC Ltd at 30 June 2012 is as follows:

Assets Liabilities
Cash 260 Trade payables 296
Trade receivables 300 Loan 485
Allowance for b/debts (30) 270 A/L liability 15
Interest receivable 40 Deferred tax liability 9
Inventory 100 805
Plant 500 Equity
Accum dep’n (300) 200 Share capital 700
Goodwill 800 R/earnings 175
Deferred tax asset 10 875
1,680
Calculation of deferred tax
example
• The balances in the deferred tax asset and liability
accounts are the carried forward closing balances from
the prior year

• Accumulated depreciation of plant for tax purposes is
$360

Required:

• Complete the deferred tax worksheet on the following
page and prepare the journal to record deferred tax
movements for the 30 June 2012 year.


Calculation of deferred tax
example
Relevant assets &
liabilities
CA FTA FDA TB TTD DTD
Trade receivables
Interest receivable
Plant
Goodwill
A/L liability
Total temporary differences
Less: excluded differences
Temporary differences
DTL/DTA (@ 30%)
Less: opening balances
Adjustment
270 - 30 300 30
40 40 - - 40
200 200 140 140 60
800 800 - - 800
15 - 15 - 15
900 45
(800) -
100 45
30 13
9 10
21 3
Calculation of deferred tax
example
Notes to worksheet:

1. Items where the CA = TB have been omitted from
worksheet (eg cash, payables, loan)

2. AASB 112 does not permit the recognition of a
DTL relating to goodwill. The TTD arising is
referred to as an “excluded” temporary difference

3. Negative figures in the adjustment section would
denote decreases in the DTA/DTL balances during
the year


Calculation of deferred tax
example
Entry to record deferred tax movement:

Dr Deferred tax asset 3
Dr Income tax expense 18
Cr Deferred tax liability 21

Summary:

Current tax liability (slide 11)
Deferred tax movement
Total income tax expense

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BALANCE
Offsetting tax assets and liabilities

• Both current and deferred tax assets and liabilities
are to be offset against each other and a net figure
shown in the balance sheet position for:
– Current tax
– Deferred tax
Change in tax rates
• When a new tax rate is enacted, that new rate
should be applied:

• when calculating current tax liability
• when calculating adjustments to deferred tax
accounts
• to carried forward deferred tax balances from
previous years


Tax Losses
• Tax losses are created when allowable deductions
exceed assessable income

• The tax act allows losses to be carried forward and
used as a deduction against future taxable income

• Tax losses provide future deductions and (subject to
recognition criteria) create deferred tax assets

• Exempt income cannot contribute to carry forward
losses
– If prima facie tax loss is $(10 000) but there is
exempt income of $2 000 the allowable carry
forward loss would be $(8 000)
Tax Losses
• Recoupment occurs as soon as the company
earns a taxable income

• Tax loss recouped is recorded in the determination
of taxable income and a journal entry raised to
reverse the DTA

• If a prior year’s loss carried forward is being
recouped and there is exempt income in the year
of recoupment, the exempt income must first be
offset against the loss

Disclosure
• Tax assets & liabilities must be classified as
current or non-current on the face of the statement
of financial position

• Current and deferred tax assets and liabilities can
be offset in most cases

• Tax expense on the statement of profit or loss and
other comprehensive income


Payment of income tax
• Company income tax is paid under the PAYG (pay as
you go) system in quarterly instalments

• Companies must lodge quarterly business activity
statements (BAS) and pay tax calculated as:
– Instalment income x instalment rate (supplied
annually by the taxation department)

• Current tax liability represents the last quarterly payment
and any adjustments necessary to reflect the fact that
annual taxable income may differ from the sum of the
quarterly returns