Financial Accounting 3

Learning unit 1
IAS 12 Income Taxes

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LU1: IAS 12 Income taxes

Themes
• Recognition and measurement of current tax;
• Recognition and measurement of deferred tax;
• Deferred tax: Advanced principles;
• Presentation and disclosure.

Prescribed textbooks
• Descriptive Accounting (DA)
• SAICA handbook volume 1 2022-2023 IFRS

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LU1: IAS 12 Income taxes
Introduction
Income tax in the SOPLOCI is made up of:

• Current tax expense for the year;

• Over/under provisions for previous year;
• Deferred tax for the year.

Consider a statement of profit or loss and other comprehensive

income.
Where is income tax expense (or income) disclosed and
what is it comprised of?

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 LU1: IAS 12 Income taxes
TAX EXAMPLE LTD
STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME This amount
FOR THE YEAR ENDED 31 DECEMBER 2020
comprises current
Revenue 10 000 000 & deferred tax &
over/
Cost of sales (6 000 000) underprovisions
Gross profit 4 000 000
Other income 250 000
Other expenses (2 750 000)
Profit before tax 1 500 000
Income tax expense (375 000)
Profit for the year 1 125 000 OCI is after
tax
Other comprehensive income 77 600
(current or
Total comprehensive income for the year 1 202 600 deferred)
   

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 IAS 12
Current tax

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 You are expected
LU1: IAS 12 Income taxes to apply
knowledge learnt
in tax modules
What is current tax?
Current tax is an estimate of the entity’s tax liability for the
current period, calculated according to existing tax legislation.

Current tax is measured at an amount using tax rates that have

been enacted/substantively enacted by the end of the reporting
period.

Journal
DR Income tax expense
CR Income tax liability

This liability is settled in the following period, after deducting

provisional tax payments made during the year.
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 LU1: IAS 12 Income taxes
Practice the following questions to understand the principles of
current tax.

Class example
DA example 8.1: Current tax
Practice question: Flintstones Ltd part 1

Why is current tax an estimate?

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LU1: IAS 12 Income taxes
Over- and under-provisions
If the amount settled with the SARS differs from the amount
recognised as a liability in the previous year an over/under
provision will arise:

Over provision Under provision

Amount settled < amount Amount settled > amount
previously recognised. previously recognised.

Disclose in INCOME TAX EXPENSE note under current tax.

Will be a reconciling item in the tax reconciliation.
8
 IAS 12
Deferred tax

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 LU1: IAS 12 Income taxes
What is deferred tax?
Per Wikipedia:
“A notional asset or liability to reflect corporate income
taxation on a basis that is the same or more similar to
recognition of profits than the taxation treatment. 

Example: Deferred tax liabilities can arise as a result of tax

treatment of capital expenditure being different to the
accounting depreciation.

What does this really mean?

 

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 LU1: IAS 12 Income taxes
Deferred tax
• Deferred tax (DT) is an accounting entry that arises on differences
between the CARRYING AMOUNT (CA) of assets & liabilities in the
SFP as per IFRS & their TAX BASES (TB) as per tax legislation.
• DT is therefore an asset or obligation recoverable or payable in
DT arises because:
the future.

DT arises because:
Accounting profit ≠ Taxable income
• DT eliminates the mismatch between accounting profit & taxable
income.
• DT is provided on temporary differences on comprehensive basis
using STATEMENT OF FINANCIAL POSITION approach.
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 LU1: IAS 12 Income taxes
Temporary differences
The differences between accounting profit & taxable income are
caused by:

 Exempt differences Matching concept:

Tax should be
No tax consequences of transaction. 28% of profit
 Temporary (timing) differences
Differences between the CA & tax base of an item in the SFP.
DT is provided on temporary differences ONLY.

What do you understand by the term “tax base” of

an asset/liability?

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 LU1: IAS 12 Income taxes
Exempt differences
• Certain temporary differences do not result in deferred tax.
• These are referred to as exempt differences.
• Profit before tax (PBT) will include these items but they will be added
back or deducted when calculating taxable income.
Examples
 Dividends received; Exempt
differences mean
 20% of capital gains & losses,
that matching will
 20% of FV adjustments in P/L ;
NOT be achieved.
 Fines & donations;
 Interest & penalties imposed by SARS
 Depreciation if SARS grants no tax allowances (up to cost).

Why do we NOT provide deferred tax on exempt differences?

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 LU1: IAS 12 Income taxes
2 Categories of temporary differences

Taxable Deductible
Deferred Tax Liability Deferred tax Asset
DR DT (P/L OR OCI) DR DT Asset
CR DT Liability CR DT (P/L OR OCI)

Rule 1 Rule 2 Rule 3 Rule 4

CA Asset > CA Liability < CA Asset < CA Liability >
TB Asset TB Liability TB Asset TB Liability

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 LU1: IAS 12 Income taxes
Taxable temporary differences
Rule 1
CA Asset > TB Asset OR
Rule 2
CA Liability < TB Liability

For rules 1 & 2 PBT > Taxable income

More tax payable to SARS in future periods provide for this

tax in current period.

Example: Tax allowance exceeds depreciation on P,P & E

Journal: DR Income tax expense (P/L); CR Deferred tax (SFP)

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 LU1: IAS 12 Income taxes
Deductible temporary differences
Rule 3
CA Asset < TB Asset OR
Rule 4
CA Liability > TB Liability

For rules 3 & 4 PBT < Taxable income

Less tax is payable to SARS in future periods provide for this

prepayment in current period.

Example: Depreciation exceeds tax allowances on P,P & E

Journal: DR Deferred tax (SFP); CR Income tax expense (P/L)
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 LU1: IAS 12 Income Taxes
Calculation of deferred tax (DT)
Step 1: Calculate the CA of each asset and liability (per applicable
IFRS, eg. IAS 16).
Step 2: Calculate the TB for each asset and liability (tax legislation)
Step 3: Calculate the TB for assets and liabilities that are NOT on the
TB (eg. Tax losses, fully-depreciated assets, settled liabilities, etc.).
Step 4: Assess whether there is a difference between the CA and the
TB of each asset and liability & determine what caused the difference
(ie. is it temporary or permanent).
Step 5: Calculate the deferred tax asset or liability at the relevant
rate (normal or CGT) on all qualifying temporary differences.
.
Apply
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 LU1: IAS 12 Income taxes
Deferred tax example
A Ltd acquired equipment on 2 January 2019 for R120 000. Depreciation is
provided on a straight-line basis over 4 years. The tax allowance is 20% per
annum. The tax rate is 28%.

Calculate DT balance & movement on the equipment for 30 June 2019 & 2020.

30 June 2019
Carrying amount (120 000 – (120 000 / 4 yrs x 6/12)) 105 000
DT @ 28%
Tax base (120 000 – (120 000 x 20% x 6/12)) 108 000
Temporary difference 3 000 DTA R840 Why
DTA?
30 June 2020
Carrying amount (120 000 – (120 000 / 4 yrs x 1.5 yrs)) 75 000
DT @ 28%
Tax base (120 000 – (120 000 x 20% x 1.5yrs)) 84 000
Temporary difference 9 000 DTA R2 520
Movement in DT = R1 680 (2 520 – 840); Jnl: DR DTA, CR Tax expense (P/L).
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 LU1: IAS 12 Income taxes
Deferred tax movement
• A single account is used in the SFP for deferred tax.
• The DT movement for the current year is calculated as follows:

DT Movement = DT (closing balance) – DT (opening balance)

• The movement may be recorded in P/L or OCI

• OCI includes items of income or expense that are specifically
categorised as other comprehensive income.
The tax consequences of OCI are recognised in OCI.

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 LU1: IAS 12 Income taxes
Deferred tax movement in P/L
DT movement in P/L is calculated as follows:

DT Movement P/L =
Total current year movement – movement in OCI

Examples of DT movement in OCI:

• Revaluations
• Market-to-market FVA

DA examples on tax in OCI

• Example 8.24: Deferred tax on revalued land

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 LU1: IAS 12 Income taxes
Measurement of DT- Expected manner of recovery
The CA of an asset, can be recovered through USE, SALE or BOTH.

Examples of expected manner of recovery of CA

Through use Through sale Through use & sale
• Depreciable assets • Investment • Depreciable asset,
(PP&E & Intangible properties with residual value
assets etc.) • Financial assets (ie. to be disposed at
Remember NB: • Non-current assets end of life)
Depreciation indicates held-for-sale
USAGE! • Inventories

WHY IS THE ABOVE IMPORTANT?

The future tax consequences of the above will differ!!

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 LU1: IAS 12 Income Taxes
DA examples on tax base & temporary differences
• Example 8.3: Tax base of P, P & E
• Example 8.6: Tax base of capitalised development costs
• Example 8.9: Tax base of liabilities
• Example 8.10: Tax base of revenue received in advance
• Example 8.11: Tax base of trade receivables after allowance for
credit losses
• Example 8.12: Taxable temporary differences
• Example 8.14: Deductible temporary differences
• Example 8.16: Comprehensive example

Practice questions
• Flintstones Ltd part 2
• Ross Ltd part 1 and 2
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 IAS 12
Tax losses and rate
adjustments

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 LU1: IAS 12 Income Taxes
Unused (assessed) tax losses
Does a company get a tax refund if taxable income is
a loss?
YES or NO?
A DTA is recognised for the carry forward of an unused tax loss as the
loss will be deductible from future taxable income.

Effect on tax calculation

Current tax calculation: Unused tax loss is a temporary difference
DT calculation: CA = NIL; TB = Amount of unused loss

• DTA is only recognised if it is probable that the entity will make

future profits against which the tax loss may be used.
• DTA not provided for is a reconciling item in tax reconciliation.

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 LU1: IAS 12 Income taxes
Unused tax losses: Example
An unused tax loss will arise when tax deductible expenses exceed
the taxable income. This results in a tax loss.

Calculation of taxable income 2019

Profit/loss before tax 50 000
Less: Taxable temporary differences 70 000
Taxable profit / (loss) (20 000) Unused tax
deductions =
Current tax @ 28% NIL Unused tax loss

The tax loss of R20 000 represents deductions NOT used in the
current year as there was insufficient taxable profits.
• A deferred tax asset is recognised in respective of the tax loss

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 LU1: IAS 12 Income taxes
Unused tax losses: Example
The unused tax loss represents a future tax saving as the company
can use the loss against taxable profit in future years.

Calculation taxable profit 2020 2019

Profit/loss before tax 100 000 50 000
Less: Taxable temporary differences (40 000) (70 000)
Taxable profit / (loss) 60 000 (20 000)
Utilisation of tax loss (20 000)
Taxable profit / (loss) 40 000 (20 000)

Current tax @28% 11 200 NIL

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 LU1: IAS 12 Income Taxes
DA examples on unused tax losses
• Example 8.17: Assessed tax losses
• Example 8.18: Deferred tax asset recognised
• Example 8.19: Deferred tax asset not recognised
• Example 8.20: Partially recognised deferred tax asset
Practice questions
• Spring Ltd
• FLB Ltd

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 LU1: IAS 12 Income taxes
Rate adjustments
• The tax rate for companies is changed by the SARS.
• DT balance opening balance is restated to new rate before
current year DT movement is calculated.
• Rate adjustment is disclosed separately in income tax expense
note.

DA examples on rate adjustments

• Example 8.23: Change in tax rate
In 2022, company tax
rate was decreased from
28% to 27% for years of
assessment ending on
or after 31 March 2023
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 IAS 12
Presentation and
disclosure

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 LU1: IAS 12 Income taxes
Presentation
• The income tax expense or income on profit or loss is
presented in the statement of profit or loss and other
comprehensive income after profit before tax.
• The income tax expense or income on OCI is presented in
the statement of profit or loss and other comprehensive
income as part of other comprehensive income.
• A deferred tax asset is presented in the statement of
financial position under non-current assets.
• A deferred tax liability is presented in the statement of
financial position under non-current liabilities.
• A note is required for the income tax expense and the
deferred tax asset or liability.
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 LU1: IAS 12 Income taxes
Presentation
TAX EXAMPLE LTD
EXTRACT FROM STATEMENT OF PROFIT OR LOSS AND OTHER
COMPREHENSIVE INCOME FOR THE YEAR ENDED 31 DECEMBER 2020
Profit before tax 1 500 000
Income tax expense (375 000)
Profit for the year 1 125 000

TAX EXAMPLE LTD DTA if balance is

EXTRACT FROM STATEMENT OF FINANCIAL POSITION debit, DTL if
balance is credit
Assets Equity and liabilities
Non-current assets Non-current liabilities
Deferred tax asset 28 000 Deferred tax 28 000

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IAS 12 Income taxes
Disclosure: Income tax note
Income tax expense Tax rate reconciliation
Accounting profit (PBT) ______
Major components of tax expense
Tax @ 28%
SA Normal taxation
Tax effect of exempt differences
Current taxation • Dividends received
• Current year • FV adjustments (20%)
• Prior year over/under provision • Capital gains/losses (20%)
Deferred tax • Fines and penalties
• Movement in temporary differences • Donations
• Change in tax rate Prior year (over)/under provision
• Unused tax loss created Differences foreign tax
• Unused tax loss utilised Rate adjustments _______
Income tax expense _______

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 LU1: IAS 12 Income Taxes
DA examples on disclosure
• Comprehensive example
Practice questions
• Refer to disclosure in all practice questions.

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 LU1: IAS 12 Income taxes
Learning summary
• IAS 12 MUST be UNDERSTOOD, not studied off by heart!!!
• The TB of an asset represents the portion of the CA that the
entity may DEDUCT in future for tax purposes. It also includes
amounts that are not taxable (20% of capital gain).
• You must apply knowledge from TAXATION, to estimate the
future expected tax consequences for every asset & liability.
• The future tax consequences are dependent on HOW the asset
will be recovered & the liability will be settled.
• Assets can be recovered through USE, SALE or BOTH.
• After you have determined the TB, you can calculate the DTL or
DTA = this is based on the future tax expectation.
• Deferred tax is not just a mathematical calculation! There is a lot
of thought that MUST go into the calculation!!
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