Hi,
Do deferred income tax liability arise on an intangible asset which is recognised in the books at fair value model and for tax reported at cost less amortization?
Deferred Income Tax
Re: Deferred Income Tax
The fundamentals are explained in the knowledge base: https://ifrscommunity.com/knowledge-base/deferred-tax/
Re: Deferred Income Tax
What is the intangible asset, out of interest?
Re: Deferred Income Tax
It is the value of a seat in commodities exchange that the company is a member.
Re: Deferred Income Tax
Interesting! So is there a market for seats in that exchange itself? ie to determine fair value there's some form of observable market price?
Re: Deferred Income Tax
Is this an 'active market' (as defined in IFRS 13), with quoted prices?
Re: Deferred Income Tax
No, it is not quoted. But the exchange sells seats to new members. The average price for the year (as evidenced by a letter that the exchange gives to the members upon the members' request for financial reporting is used as fair value of the seat.
Re: Deferred Income Tax
[Grabs some popcorn]
Re: Deferred Income Tax
I would say this doesn't sound like an active market: "A market in which transactions for the asset or liability take place with sufficient frequency and volume to provide pricing information on an ongoing basis.". A yearly average doesn't sound like pricing information on an ongoing basis?
IAS38.78 states (emphasis added) "It is uncommon for an active market to exist for an intangible asset, although this may happen. For example, in some jurisdictions, an active market may exist for freely transferable taxi licences, fishing licences or production quotas. However, an active market cannot exist for brands, newspaper mastheads, music and film publishing rights, patents or trademarks, because each such asset is unique. Also, although intangible assets are bought and sold, contracts are negotiated between individual buyers and sellers, and transactions are relatively infrequent. For these reasons, the price paid for one asset may not provide sufficient evidence of the fair value of another. Moreover, prices are often not available to the public.
The EY manual notes (p1146) that: "if prices are not available to the public, this is taken as evidence that an active market does not exist"
If you are only seeing a yearly average this does not seem to provide an "ongoing basis" for valuation, also, you can't determine the frequency and volume of the transactions, or how correlated that prices were (an inactive market is one where the prices vary significantly).
IAS38.78 states (emphasis added) "It is uncommon for an active market to exist for an intangible asset, although this may happen. For example, in some jurisdictions, an active market may exist for freely transferable taxi licences, fishing licences or production quotas. However, an active market cannot exist for brands, newspaper mastheads, music and film publishing rights, patents or trademarks, because each such asset is unique. Also, although intangible assets are bought and sold, contracts are negotiated between individual buyers and sellers, and transactions are relatively infrequent. For these reasons, the price paid for one asset may not provide sufficient evidence of the fair value of another. Moreover, prices are often not available to the public.
The EY manual notes (p1146) that: "if prices are not available to the public, this is taken as evidence that an active market does not exist"
If you are only seeing a yearly average this does not seem to provide an "ongoing basis" for valuation, also, you can't determine the frequency and volume of the transactions, or how correlated that prices were (an inactive market is one where the prices vary significantly).
Re: Deferred Income Tax
See Asnake? You no longer need to concern yourself with deferred tax on revaluations. You're welcome 
Re: Deferred Income Tax
Thank you. The explanations are really helpful.
My question on the deferred tax emanates from the fact that those "intangible assets" are amortised to the PL for ten years straight line for tax. And as I said they were taken to the balance sheet at fair value and as a result there arises a taxable temporary difference. Now as per your explanation, in the first place the fair valuation of the intangible assets in the absence of an "active market" is not appropriate. This means that the assets should be recognised at cost less amortisation (that is similar to the tax treatment) this results that there would be no temporary difference that result deferred tax.
But what if the active market criteria are met, would there be deferred tat on intangible assets?
My question on the deferred tax emanates from the fact that those "intangible assets" are amortised to the PL for ten years straight line for tax. And as I said they were taken to the balance sheet at fair value and as a result there arises a taxable temporary difference. Now as per your explanation, in the first place the fair valuation of the intangible assets in the absence of an "active market" is not appropriate. This means that the assets should be recognised at cost less amortisation (that is similar to the tax treatment) this results that there would be no temporary difference that result deferred tax.
But what if the active market criteria are met, would there be deferred tat on intangible assets?
Re: Deferred Income Tax
Yes, hypothetically there would be a deferred tax liability. There are two ways to understand it, the balance sheet way and the income statement way.
Story time (feel free to skip the next couple of paragraphs).
****************************************************************************
When I was a young accountant we learned the income statement approach to tax accounting. It was intuitive and easy and made sense (mostly). You reconciled taxable income to accounting profit (effectively reconciling your tax return with your p&l) and the difference would give rise to either an asset, because you would pay less tax in the future, or a liability because you would pay more tax in the future. All was good with the world.
But then the IASB said "Verily the accounting conceptual framework defines assets and liabilities from first principles and states that changes in assets and liabilities are what create revenues and expenses". And they said "Lo Accounting for Income Tax is wrong! For differences in revenue and expense give rise to assets and liabilities. This is unnatural! Repent ye lest you incur the wrath of the Sir David Tweedie".
And so the standard was rewritten, badly, to conform with the holy "Balance Sheet approach". Hence forth young accountants were cast out of the accounting garden of Eden, and forever more Accounting for Income Tax would be painful and incomprehensible.
******************************************************************************
At least that's how I remember it.
Balance Sheet Approach (the right way to account):
So let's assume the intangible cost 100, depreciates over 10 years. It is one year old, and now you revalue to 120. Tax is 20%.
The tax base of the asset is 90. (100 (cost) - 10 (tax depreciation))*
The carry amount is 120 (the revalued amount)
The temporary taxable difference** is 30
For an asset if the carrying amount of the asset is greater than the tax base you have a deferred tax liability
Therefore the DTL = 30 x 20% = 6.
Cr DTL 6 (and therefore Dr Income Tax Expense 6)
*I cheated a bit here actually the standard says (IAS 12 Para 7): "The tax base of an asset is the amount that will be deductible for tax purposes against any taxable economic benefits that will flow to an entity when it recovers the carrying amount of the asset."
This can be rewritten as Tax Base = Carrying Amount - Future Taxable Amount + Future Deductible Amount
Therefore Tax Base = 120 - 120 (you expect to earn at least 120 back from the asset (or else it would be impaired!) + 90 (the amount of tax depreciation left).
** IAS 12 Para 5: taxable temporary differences, which are temporary differences that will result in taxable amounts in determining taxable profit (tax loss) of future periods when the carrying amount of the asset or liability is recovered or settled; (Basically I will have more taxable income than deduction in the future)
The P&L way to think about it:
I just revalued this asset from 90 to 120. I have a gain of 30, I should match the related income tax expense (30 x 20% = 6) so I don't overstate the gain from the revaluation.
Dr Income Tax Expense 6 (and therefore Cr DTL 6)
Why DTL, well in the future I will have additional amortisation (an expense that will lower my profit) of 30 for accounting purposes (the consequence of the revaluation) that the tax office won't let me claim as a deduction (I can only claim the "real" cost of the intangible). So in the future the tax office will "overcharge" me tax (a liability from my perspective).
Story time (feel free to skip the next couple of paragraphs).
****************************************************************************
When I was a young accountant we learned the income statement approach to tax accounting. It was intuitive and easy and made sense (mostly). You reconciled taxable income to accounting profit (effectively reconciling your tax return with your p&l) and the difference would give rise to either an asset, because you would pay less tax in the future, or a liability because you would pay more tax in the future. All was good with the world.
But then the IASB said "Verily the accounting conceptual framework defines assets and liabilities from first principles and states that changes in assets and liabilities are what create revenues and expenses". And they said "Lo Accounting for Income Tax is wrong! For differences in revenue and expense give rise to assets and liabilities. This is unnatural! Repent ye lest you incur the wrath of the Sir David Tweedie".
And so the standard was rewritten, badly, to conform with the holy "Balance Sheet approach". Hence forth young accountants were cast out of the accounting garden of Eden, and forever more Accounting for Income Tax would be painful and incomprehensible.
******************************************************************************
At least that's how I remember it.
Balance Sheet Approach (the right way to account):
So let's assume the intangible cost 100, depreciates over 10 years. It is one year old, and now you revalue to 120. Tax is 20%.
The tax base of the asset is 90. (100 (cost) - 10 (tax depreciation))*
The carry amount is 120 (the revalued amount)
The temporary taxable difference** is 30
For an asset if the carrying amount of the asset is greater than the tax base you have a deferred tax liability
Therefore the DTL = 30 x 20% = 6.
Cr DTL 6 (and therefore Dr Income Tax Expense 6)
*I cheated a bit here actually the standard says (IAS 12 Para 7): "The tax base of an asset is the amount that will be deductible for tax purposes against any taxable economic benefits that will flow to an entity when it recovers the carrying amount of the asset."
This can be rewritten as Tax Base = Carrying Amount - Future Taxable Amount + Future Deductible Amount
Therefore Tax Base = 120 - 120 (you expect to earn at least 120 back from the asset (or else it would be impaired!) + 90 (the amount of tax depreciation left).
** IAS 12 Para 5: taxable temporary differences, which are temporary differences that will result in taxable amounts in determining taxable profit (tax loss) of future periods when the carrying amount of the asset or liability is recovered or settled; (Basically I will have more taxable income than deduction in the future)
The P&L way to think about it:
I just revalued this asset from 90 to 120. I have a gain of 30, I should match the related income tax expense (30 x 20% = 6) so I don't overstate the gain from the revaluation.
Dr Income Tax Expense 6 (and therefore Cr DTL 6)
Why DTL, well in the future I will have additional amortisation (an expense that will lower my profit) of 30 for accounting purposes (the consequence of the revaluation) that the tax office won't let me claim as a deduction (I can only claim the "real" cost of the intangible). So in the future the tax office will "overcharge" me tax (a liability from my perspective).
Re: Deferred Income Tax
Always worth poking into intangibles held at fair value.....
Re: Deferred Income Tax
Thank you. You are real Expert!
Re: Deferred Income Tax
That was a great story! I must say, I still use the P&L method as a preliminary 'reality check'. However, one issue I've noticed with this P&L-oriented mindset in real life is a reluctance to recognise deferred tax if there's a change in the tax base of an asset, a change in the anticipated manner of recovery, or when the conditions in IAS 12.39/44 are no longer satisfied. This is primarily because it feels counterintuitive to account for deferred tax consequences on an existing asset when the P&L implications will arise in future periods.