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Maintenance and consistent application

Date recorded:

Deferred Tax related to Assets and Liabilities arising from a Single Transaction (Amendments to IAS 12) (Agenda Paper 12A - D)

Background

In July 2019, the Board published the Exposure Draft Deferred Tax related to Assets and Liabilities arising from a Single Transaction, which proposed amendments to IAS 12. In September 2020, staff presented the initial analysis and preliminary recommendations on how to address the matters raised in the feedback on the Exposure Draft to the IFRS Interpretations Committee (the Committee).

The purpose of this meeting was to provide additional analysis and recommendations taking into account the comments from the Committee raised in its September meeting.

Staff analysis

Almost all respondents to the ED agreed with the Board's decision to address the accounting for deferred tax related to leases and decommissioning obligations. However, many either disagreed with or expressed concerns with various aspects of the proposals, especially the capping proposal.

The respondents who opposed the capping proposal considered it complex and burdensome to apply because an entity would be required to assess the recoverability of each individual deferred tax asset on initial recognition for each applicable transaction. Also, it would be inconsistent with the principles in the IAS 12 requirements for recognising a deferred tax liability for all taxable temporary differences. The staff agreed that complexities and inconsistencies would arise when an entity is unable to recognise the deferred tax assets in full. In that case, the entity would need to apply the recognition exemption to the deferred tax liability not recognised and track temporary differences to which the exemption is applied separately from other temporary differences arising from the same assets and liabilities. The partial application of the recognition exemption to the deferred tax liability does not align with other circumstances in which the exemption applies because such circumstances are particular to the entity, depending on the recoverability of the deferred tax asset, but not to the tax characteristics of the transaction. Moreover, it might be unclear how an entity should allocate the taxable temporary difference against particular deductible temporary differences in assessing the recoverability of deferred tax assets and how to account for the reassessment of unrecognised deferred tax assets after initial recognition. In view of these, the staff recommends removing the capping proposal.

In relation to the attribution of tax deductions related to the lease asset or lease liability as required by IAS 12, the Board decided not to propose any further requirements or application guidance on how an entity makes this determination because the proposed amendments would result in entities recognising deferred tax assets and liabilities in relation to a lease, regardless of the tax deduction attributions. The staff acknowledge that there is a difference in recognition and disclosures depending on the tax deduction attribution, however, they considered the benefits of providing further requirements on this would not outweigh the potential costs and support the Board's decision not to provide further requirements as requested by some respondents.

Some respondents commented that the scope of the amendment is too broad and might thus capture transactions not considered by the Board. A few respondents suggested that limiting the scope to deferred tax arising from leases only. The staff disagreed with this because the purpose of the amendments is to capture any transaction that, on initial recognition, gives rise to equal and offsetting temporary differences but is not just limited to leases. Some considered that the specification that the capping proposal applies to transactions that lead to the initial recognition of "an asset and liability" may make it unclear whether some transactions, which involve multiple assets and liabilities, fall within its scope. The staff considered that if the capping proposal is removed, it will be clear that those transactions are in scope if they give rise to "equal amounts of taxable and deductible temporary differences", even if multiple assets and liabilities are involved. Overall, the staff supported the Board's current scoping of the amendments.

Regarding the transition requirements, some considered it is unclear how the amendments interact with some of the transition requirements in IFRS 16. For instance, the amendments refer to "equal amounts of taxable and deductible temporary differences" while on the date of initial application of IFRS 16, the carrying amount of the lease asset and liability could be different (if IFRS 16:C8(i) was applied). Accordingly, the staff recommended recognising all temporary differences related to leases and decommissioning obligations, without assessing whether those transactions result in equal and offsetting temporary differences restrospectively, at the beginning of the earliest comparative period presented, with the cumulative effect recognised as an adjustment to the retained earnings. Others were of the view that it is challenging to calculate deferred tax for the earliest comparative period presented. However, the staff supported the view of restating the comparative figure given the restatement provides useful information to users of financial statements. Furthermore, identifying transactions which might be in the scope of the amendments retrospectively could be costly and complex, thus the staff proposed allowing entities to apply the amendments prospectively to transactions other than leases.

Staff recommendation

The staff recommended is that the Board:

  • (a) confirm its proposal to narrow the scope of the recognition exemption so that it would not apply to transactions that give rise to equal amounts of taxable and deductible temporary differences;
  • (b) remove the capping proposal (i.e. not include the requirement to limit the recognition of a deferred tax liability to the extent that a deferred tax asset is recognised);
  • (c) not provide application guidance or examples illustrating how an entity determines whether tax deductions relate to the lease asset or lease liability;
  • (d) provide an illustrative example explaining the deferred tax accounting for advance lease payments and initial direct costs;
  • (e) require entities already applying IFRS Standards to apply the amendments for the first time by:
    • (i) recognising deferred tax for all temporary differences related to leases and decommissioning obligations at the beginning of the earliest comparative period presented, with the cumulative effect recognised as an adjustment to the opening balance of retained earnings (or other component of equity, as appropriate) at that date; and
    • (i) applying the amendments prospectively to transactions other than leases and decommissioning obligations (i.e. only to such transactions that occur on or after the beginning of the earliest comparative period presented); and
  • (f) require first-time adopters to recognise deferred tax for all temporary differences related to leases and decommissioning obligations existing at the date of transition to IFRS Standards, and provide no other requirements for first-time adopters.

Board discussion

The majority of the Board supported the staff recommendations, in particular, removing the capping proposal was supported as it was stated that this would reduce unnecessary complexity.

One Board member expressed concern in relation to any mismatch of deferred tax assets and deferred tax liabilities that may arise on initial recognition being presented as an expense in profit or loss. Some Board members expressed support for this proposal as the mismatch represents an economic loss for the entity.

Some Board members expressed support for the illustrative example explaining deferred tax accounting for advance lease payments and initial direct cost. One Board member stated that their support was due to the potential tension between IFRS 16 which requires advanced payments to adjust the carrying value of a right of use asset and the amendment requiring the deferred tax relating to these balances to be treated separately.

One Board member was supportive of the proposals as they have been developed but expressed the view that they may not be that beneficial in practice.

In relation to transition requirements one Board member clarified that the requirement to recognise the cumulative effect of applying the amendment as an adjustment to retained earnings at the beginning of the earliest comparative period would not present issues for entities that report both locally with 1 comparative period and in the US with 2 comparative periods. The staff agreed that any issues would occur very rarely given that they would result from the entity entering into a partially deductible lease during the first of the two comparative periods. Given that leases of this nature are not commonly entered into, the risk of complications arising due to this issue were considered likely to be rare.

Board decisions

12 Board members voted in favour of staff recommendations (a) – (d) as set out above.

13 Board members voted in favour of staff recommendations (e) – (f) as set out above.

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