May 12, 2008

May 12, 2008

2008 Accounting DayFAS 109 Update

Presented by: Shelly McGuire

Agenda

• FAS 109 Overview• Key Considerations– Tax Rate Determination– Goodwill– Valuation Allowances

• Financial Statement Presentation• Hot Topics– FAS 141R– FIN 48 for Private Companies

• Questions

FAS 109 Overview

FAS 109 Overview

Guidance comes in many different forms…• FAS 109 issued February 1992• FAS 115• FAS 123R• FAS 141, 141R•Numerous EITFs• FASB Q&A• ASB guidance•Other forms of guidance

FAS 109 Overview

Excerpt from FAS 109:

This Statement establishes standards of financial accounting and reporting for income taxes that are currently payable and for the tax consequences of:• Revenue, expenses, gains or losses that are

included in taxable income of an earlier or later year than the year in which they are recognized in financial income• Other events that create differences between the tax

bases of assets and liabilities and their amounts for financial reporting• Operating loss or tax credit carrybacks for refunds of

taxes paid in prior year and carryforwards to reduce taxes payable in future years.

FAS 109 Overview

Applies to :• Federal, foreign, state and local taxes

based on income– this includes franchise taxes based on

income

• All entities included in the reporting entity’s financial statements– this generally includes foreign entities

• Exception for partnerships and S corporations– beware of FIN48

FAS 109 Overview

FAS 109 is a balance sheet, liability-based approach:• Deferred tax liability represents an increase in

future taxes payable and a decrease in current taxes payable• Deferred tax asset represents a decrease in

future taxes payable and an increase in current taxes payable

FAS 109 Overview

Temporary versus Permanent Differences

• Temporary differences defined as book-tax basis differences that will result in taxable or deductible amounts in future years.• Permanent differences not defined in FAS

109, but definition of temporary differences states: some events recognized in financial statements do not have consequences. Certain revenues are exempt from taxation and certain expenses are not deductible. Events that do not have tax consequences do not give rise to temporary differences.

FAS 109 Overview

The formula…

Ending Deferred Taxes

less

Beginning Deferred Taxes

equals

Deferred Tax Expense/Benefit

plus

Current Taxes Payable

equals

Book Tax Expense/Benefit

FAS 109 Overview

Example 1• X Co formed in 2008• Purchased asset for $100; depreciable over 4

years for financial reporting, 3 years for income taxes• Received payment of $150 in 2008 for service

to be performed in 2011• X Co accrued legal fees of $50 in 2009, paid

in 2011• Book income of $100 in 2008 - 2011

FAS 109 Overview

2008 2009 2010 2011 Total

B/T B/T B/T B/T B/T

Deferred Revenue 0/150 0/0 0/0 150/0 150/150

Professional Fees 0/0 <50>/0 0/0 0/<50> <50>/<50>

Depreciation <25>/<33> <25>/<33> <25>/<34> <25>/0 <100>/<100>

Total <25>/117 <75>/<33> <25>/<34> 125/<50> 0/0

Net 92 <108> <59> 75 0

<DR>/CR

FAS 109 Overview

2008 2009 2010 2011

Deferred Revenue 150 150 150 0

Professional Fees 0 50 50 0

Depreciation <8> <16> <25> 0

Total 142 184 175 0

Statutory Rate 40% 40% 40% 40%

DTA/<DTL> 56.8 73.6 70 0

FAS 109 Overview

2008 2009 2010 2011

Book Income 100 100 100 100

Deferred Revenue 150 0 0 <150>

Professional Fees 0 50 0 <50>

Depreciation <8> <8> <9> 25

Total 242 142 91 <75>

Statutory Rate 40% 40% 40% 40%

Current Tax Expense/ 96.8 56.8 36.4 <30>

<Benefit>

FAS 109 Overview

2008 2009 2010 2011

Ending DTA/<DTL> 0 56.8 73.6 70

less

Beginning DTA/<DTL>56.8 73.6 70 0

equals

Deferred Tax Expense/ <56.8> <16.8> 3.6 70

<Benefit>

plus

Current Tax Expense/ 96.8 56.8 36.4 <30>

<Benefit>

equals

Book Tax Expense/ 40 40 40 40

<Benefit>

FAS 109 Overview

2008 2009 2010 2011

Ending DTA/<DTL> 0 56.8 73.6 70

less

Beginning DTA/<DTL>56.8 73.6 70 0

equals

Deferred Tax Expense/ <56.8> <16.8> 3.6 70

<Benefit>

plus

Current Tax Expense/ 96.8 56.8 36.4 <30>

<Benefit>

equals

Book Tax Expense/ 40 40 40 40

<Benefit>

Hint:

Book Income

plus

Permanent Differences

multiplied by

Effective Tax Rate

equals

Book Tax Expense

Key Considerations

Tax Rate Determination

DTAs/DTLs measured using enacted rates expected to apply to taxable income in the periods in which they will be realized.– Graduated rates?– Loss companies?– Multi-state filers?– Impact of tax planning?

Goodwill

Goodwill can be ‘created’ as a result of

business combination–Tax deductibility depends on type of

transaction and prior ownership of goodwill–Goodwill is not amortized for financial

purposes

Goodwill

• Nondeductible goodwill – no deferred tax assets/liabilities recognized; impairments treated as permanent differences• Deductible goodwill – deferred tax

assets/liabilities will be recognized–Reported amount of goodwill and tax

deductible goodwill each need to be segregate into two components:• First component is the lesser of book

goodwill and tax deductible goodwill• Second component is remaining balance

–Deferred taxes recognized on difference between first components

Valuation Allowances

• Companies must evaluate the likelihood that they will realize deferred tax assets• If it is ‘more likely than not’ that the Company

will not realize their deferred tax assets, they are required to record a valuation allowance against the deferred tax assets.– Recording the valuation allowance will

affect the book tax expense

Valuation Allowances

• When evaluating the need for a valuation allowance, all available evidence (both positive & negative) must be considered.• Four future sources of taxable income that can

be considered:–Future reversal of existing taxable differences–Future taxable income (exclusive of reversing

temporary differences and carryforwards)–Taxable income in prior carryback years (if

allowable)–Tax planning strategies

Financial Statement Presentation

Financial Statement Presentation

Balance Sheet• Current and non-current deferred tax

balances should be reported separately• Valuation allowance should be allocated

proportionately to current and non-current deferred tax assets• Deferred tax assets and liabilities may be

offset and presented as a single amount where they relate to the same taxing jurisdiction and taxpayer within the company

Financial Statement Presentation

Footnote disclosures• Total of deferred tax assets, deferred tax liabilities and

valuation allowance• Net change in valuation allowance• Non-public entities disclose types of significant

temporary differences and carryforwards• Public entities disclose tax effects of each type• Significant components of income tax expense by

taxing jurisdiction• Allocation of income tax expense to continuing

operations and other discrete events• Public entities disclose rate reconciliation

Sample

The (provision) benefit for income taxes is comprised of:

2008 2009 2010

Current federal 100 150 200

Current state 8 24 32

Deferred federal 150 200 <30>

Deferred state 7 16 <2>

Provision for income tax

expense (benefit) 265 390 200

The provision for income taxes differs from the amount computed by applying the statutory federal income tax rate to income before provision for income taxes.

Sample

The Company has the following deferred tax assets and liabilities:

2008 2009 2010

Deferred tax assets $150 $200 $175

Deferred tax liabilities <50> <75> <100>

Net deferred tax assets/

<deferred tax liabilities> $100 $125 $100

The Company’s deferred tax assets consist of deferred revenue and accounts receivable basis differences. The Company’s deferred tax liabilities consist of basis differences in fixed assets.

Hot Topics

FAS 141R

• Effective for periods beginning after December 15, 2008• Changes accounting applicable to valuation

allowances established as part of the business combination•Under FAS 141 – adjustment to goodwill•Under FAS141R – results in income tax

expense/benefit

FIN 48

• Generally effective for private companies for years beginning after December 15, 2007• Clarifies accounting for income taxes by

prescribing minimum thresholds that must be met before a tax position can be recognized for financial reporting purposes.• Tune in to the next session for further details!

Questions?

2008 Accounting DayFAS 109 Update