Temporary differences on investments

Learning objectives

• Determine whether a deferred tax liability is recognised on an investment (control over the timing of reversal and no reversal in the foreseeable future).L3
• Calculate the temporary difference associated with an investment and the tax on planned distributions.L3, L4
• Distinguish a subsidiary, an associate and a joint arrangement with regard to control over distributions.L3
• Justify the position adopted and the disclosure of unrecognised temporary differences.L4

Normative references

• IAS 12 §18Temporary differences also arise when: (a) the identifiable assets acquired and liabilities assumed in a business combination are recognised at fair value (IFRS 3) with no equivalent tax adjustment (para. 19); (b) assets are revalued with no equivalent tax adjustment (para. 20); (c) goodwill arises in a business combination (para. 21); (d) the tax base of an asset or liability on initial recognition differs from its initial carrying amount, for example for a non-taxable grant related to an asset (paras. 22 and 33); (e) the carrying amount of investments in subsidiaries, branches, associates or joint arrangements comes to differ from their tax base (paras. 38 to 45). Exchange differences on non-monetary items are dealt with in para. 41.
• IAS 12 §38Temporary differences arise when the carrying amount of an investment in a subsidiary, branch or associate or an interest in a joint arrangement (for a subsidiary: the share of net assets, including goodwill) becomes different from its tax base, which is often cost. Possible causes: undistributed profits; changes in foreign exchange rates when a parent and its subsidiary are based in different countries; a reduction in the carrying amount of an investment in an associate to its recoverable amount.
• IAS 12 §39A deferred tax liability is recognised for all taxable temporary differences associated with investments in subsidiaries, branches and associates and interests in joint arrangements, except to the extent that the parent, investor, joint venturer or joint operator is able to control the timing of the reversal of the difference and it is probable that the difference will not reverse in the foreseeable future.
• IAS 12 §40A parent, which controls the dividend policy of its subsidiary, is able to control the timing of the reversal of temporary differences associated with that investment, including those arising from undistributed profits and foreign exchange translation differences; when it has determined that those profits will not be distributed in the foreseeable future, it does not recognise a deferred tax liability. It would also often be impracticable to determine the tax that would be payable on reversal.
• IAS 12 §41When non-monetary assets and liabilities are measured in the entity's functional currency but taxable profit (tax loss) is determined in a different currency, changes in exchange rates give rise to temporary differences that result in a deferred tax liability or asset.
• IAS 12 §42An investor in an associate does not control that entity and is usually not in a position to determine its dividend policy; in the absence of an agreement requiring that the profits of the associate will not be distributed in the foreseeable future, it recognises a deferred tax liability arising from taxable temporary differences associated with its investment.
• IAS 12The arrangement between the parties to a joint arrangement usually deals with the distribution of profits and identifies whether decisions on such matters require the consent of all the parties or a group of them. When the joint venturer or joint operator can control the timing of the distribution of its share of the profits and it is probable that its share will not be distributed in the foreseeable future, no deferred tax liability is recognised.
• IAS 12 §44A deferred tax asset is recognised for all deductible temporary differences arising from such investments and interests to the extent that, and only to the extent that, it is probable that the temporary difference will reverse in the foreseeable future and taxable profit will be available against which it can be utilised.
• IAS 12In deciding whether a deferred tax asset is recognised for deductible temporary differences associated with investments in subsidiaries, branches and associates and interests in joint arrangements, the entity considers the guidance in paras. 28 to 31.
• IAS 12 §81Disclosures required separately include in particular: the income tax relating to each component of other comprehensive income; an explanation of the relationship between tax expense (income) and accounting profit, in the form of a numerical reconciliation between tax expense and the product of accounting profit multiplied by the applicable tax rate(s), or between the average effective tax rate and the applicable tax rate, disclosing the basis on which the applicable rate is computed; an explanation of changes in the applicable tax rate(s) compared with the previous period; the amount of deductible temporary differences, unused tax losses and unused tax credits for which no deferred tax asset is recognised; the aggregate amount of temporary differences associated with investments for which no deferred tax liability is recognised; for each type of temporary difference and of unused tax losses and credits, the deferred tax assets and liabilities recognised and the deferred tax recognised in profit or loss; the income tax consequences of dividends proposed or declared before the financial statements were authorised for issue but not recognised as a liability.
• IAS 12It would often be impracticable to compute the amount of unrecognised deferred tax liabilities arising from investments; the standard therefore requires disclosure of the aggregate amount of the underlying temporary differences, while encouraging disclosure of the unrecognised liabilities where practicable.

Original summaries of the paragraphs (reference register), never a quotation of the standard.

20 questions

• The deferred tax liability relating to an investment in a subsidiary is not recognised only if the parent can control the timing of the reversal of the difference and it is probable that the difference will not reverse in the foreseeable future.L3
• As long as the parent can control the timing of reversal, no deferred tax liability is recognised on its investment, even if it has decided to have the subsidiary distribute its reserves next year.L3
• A deferred tax asset relating to an investment is recognised only to the extent that it is probable that the deductible difference will reverse in the foreseeable future and that taxable profit will be available against which it can be used.L3
• When does a temporary difference associated with an investment in a subsidiary, branch, associate or joint arrangement arise?L3
• Brunevale holds 30% of an associate; on the facts of the case, no agreement allows it to control the associate's distribution policy, and therefore the timing of reversal of the taxable difference associated with its investment. What does it recognise?L3
• A parent has recognised no deferred tax liability on its investments, the conditions of the exception being met. What information must it disclose?L3
• In which of these situations is the deferred tax liability relating to the investment not recognised?L3
• Which statements about disclosures on differences associated with investments are correct?L3
• In Castelvane's consolidated financial statements, the investment in its subsidiary has a carrying amount of {investment_carrying} and a tax base of {investment_tax_base}; the gap comes from undistributed profits. Castelvane controls the timing of reversal; it has decided on a distribution of {planned_distribution} next year and plans nothing else in the foreseeable future. Under the tax law (data), the dividend received is taxed at {distribution_tax}%. Compute the difference, the deferred tax liability and the difference remaining with no liability.L3
• Dalvine group holds an industrial subsidiary: consolidated carrying amount of the investment {investment_carrying}, tax base {investment_tax_base}, the gap coming from profits retained in reserves. The parent, which controls distributions, has decided to bring up {planned_distribution} and to leave the rest reinvested indefinitely. The dividend will be taxed at {distribution_tax}% in the parent (data). Compute the difference, the deferred tax liability and the difference with no liability.L3
• Esparvel holds 25% of an associate: carrying amount of the investment {investment_carrying}, tax base {investment_tax_base}. On the facts of the case, Esparvel cannot control the associate's distribution policy; it expects to recover the gap as dividends, taxed at {dividend_tax}% (data). Compute the difference and the deferred tax liability.L3
• At 31 December 20X6, Fayardine, which controls its subsidiary, decides that it will pay it a dividend of {planned_distribution} in 20X7 out of profits already included in consolidated profit; the dividend will be taxed at {distribution_tax}% in Fayardine (data). No liability had been recognised until then. Record the entry in the consolidated financial statements.L3
• Gréolane holds an associate whose distributions it cannot control (facts of the case). This year, its share of profit, recognised in profit or loss, increases the taxable difference associated with its investment by {difference_increase}; recovery is expected through dividends, taxed at {dividend_tax}% (data). Record the deferred tax entry.L3
• Hyvrelle controls a foreign subsidiary whose investment shows a taxable difference of 900,000. In November 20X6, its board approves the repatriation of 400,000 of reserves in 20X7 to fund an investment; the rest remains reinvested indefinitely. The dividend will be taxed at 5% (data). What is recognised at 31 December 20X6?L3
• Istrane holds 35% of Jonquelle, an associate. No agreement provides that Jonquelle' profits will not be distributed; distribution decisions rest with the majority shareholder (facts of the case). Istrane' accountant recognises no deferred tax on the taxable difference of 300,000, 'Istrane having no intention to sell'. What do you conclude?L3
• Laurisse has decided to sell its distribution subsidiary in the first half of 20X7; in the consolidated financial statements, the investment has a carrying amount of {investment_carrying} for a tax base of {investment_tax_base}. The capital loss will be deductible at {loss_tax_rate}% (data) and Laurisse has sufficient taxable profit to use it (case assumption). Compute the difference and the deferred tax asset at 31 December 20X6.L4
• Mazelane controls three subsidiaries and the timing of reversal for each. A: taxable difference of {diff_a}, profits reinvested indefinitely. B: taxable difference of {diff_b}, sale decided for 20X7. C: deductible difference of {diff_c}, no foreseeable sale or liquidation. Gains and losses are taxed at {gain_tax}% (data); taxable profit is sufficient. Compute the liability, the asset and the amount of taxable differences to be disclosed with no liability.L4
• On 15 December 20X6, Novessa signs the sale, to be completed in March 20X7, of its investment in a loss-making subsidiary; the deductible difference associated with the investment, which comes from losses recognised in profit or loss, is {deductible_diff}. The capital loss will be deductible at {loss_tax_rate}% and taxable profit is sufficient (case data and assumptions). Record the entry at 31 December 20X6.L4
• Orgevane group controls its subsidiaries and reinvests their profits on a lasting basis: their aggregate taxable differences reach 6,400,000 and no distribution is foreseeable. Calculating the latent tax would be very complex (multiple dividend regimes). Management proposes to recognise nothing and disclose nothing. Which position should be adopted?L4
• Puylarde group analyses three investments at 31 December 20X6 (case data). P, a controlled subsidiary: taxable difference of 1,500,000, of which 300,000 will be repatriated in 20X7 by board decision (dividend taxed at 10%). Q, an associate whose distributions the group does not control: taxable difference of 500,000, recovery expected through dividends taxed at 10%. R, a controlled subsidiary: deductible difference of 200,000, no foreseeable sale. Write the position paper: recognition and disclosure.L4