Comments on proposed statement on financial accounting standards: accounting for income taxes - Tax Executives Institute

Tax Executive, The, Sept-Oct, 1991

The Financial Accounting Standards Boards issued an Exposure Draft of a revised Statement of Accounting for Income Taxes on June 5, 1991. The Exposure Draft, if adopted, would supersede Statement of Financial Accounting Standards 96, Accounting for Income Taxes (hereinafter Statement 96), which was issued in December 1987. Some companied have already adopted the accounting principles of Statement 96 when issuing their financial statements. Other companies, however, have deferred adopting Statement 96 inasmuch as the effective date for mandatory use of Statement 96 has been delayed by Statements of Financial Accounting Standards 100 and 103. The Exposure Draft is proposed to be effective for fiscal years beginning after December 15, 1992, but earlier application is encouraged.

Background

Tax Executives Institute, Inc. (TEI) is the principal organization of corporate tax professionals in North America. The Institute's approximately 4,700 members are employed by nearly 2,000 of the leading corporations in the United States and Canada. TEI represents a cross-section of the business community and is dedicated to the development of sound tax policy and to promoting the uniform and equitable enforcement of the tax laws. The Institute is proud of its record of working with congressional committees, governmennt agencies, and other policy-making bodies to minimize the cost and burden of tax administration and compliance to the mutual benefit of the government, business, and ultimately the public. TEI is firmly committed to maintaining a tax system that works -- one that is consistent with sound tax policy and one that taxpayers can comply with.

We believe that the diversity, professional training of our members, and our dedication to both an effective national tax policy and the efficient administration of the tax laws qualify us to address issues raised by the Exposure Draft. Our members are the individuals who must contend daily with the practical implications and application of the tax laws and the FASB's requirements concerning accounting for income taxes.

General Comments

TEI commends the Board for undertaking to ameliorate the administrative complexity inherent in Statement 96. A number of thoughtful critical comments directed at Statement 96 have been incorporated by the Board in the Exposure Draft. The changes have been deftly woven into the existing pattern of accounting principles adopted in Statement 96 without chaning the fundamental fabric of the liability approach.

In the comments that follow, TEI sets forth its recommendations on how the Exposure Draft should be revised to further ease the complexity of computing and reporting tax provisions without compromising the accuracy and utility of financial statements. On the whole, TEI is quite pleased with the Board's resolution of a number of difficult issues. Our differences are in the nature of "fine-tuning."

Deferred Tax Asset Recognition

Under Statement 96, a deferred tax asset can be recognized only for the tax benefit of net deductible amounts that can be realized by loss carryback from future years to reduce (1) a current deferred liability and (2) taxes paid in the current or prior years. No asset is recognized for any additional net deductible amounts in future years, and reporting firms are not allowed to anticipate future income sufficient to permit recognition of net future deductible amounts as deferred tax assets.

The Exposure Draft would provide that deferred tax assets may be recognized currently regardless of whether deferred tax liabilities exist. Such assets, however, are to be reduced by a "valuation allowance" if it is "more likely than not" that the asset will not be relized. TEI commends the Board for recognizing that one of the principal sources of complexity in Statement 96 is its assumption that the only taxable or deductible amounts in future years are the reversals of the temporary differences existing at the end of the financial statement period. We concur in the Board's conclusion that the critical recognition event is the event that gives rise to the deductible temporary difference or carryforward. By permitting reporting firms to anticipate (within the bounds of prudent judgment) the prospect of future earnings from operations and future originating temporary differences [Exposure Draft Paragraph 17.], (1) the Exposure Draft would greatly simplify the artificial and complex scheduling of reversing temporary differences. TEI commends the Board for recognizing that a business enterprise is a going concern that depends upon a stream of future operating income for its existence. Earning taxable income subsequent to the date of the statement of financial position confirms the existence of a recognizable tax event at the close of the current year, but it is not a prerequisite event that must occur to recognize a tax benefit. [Paragraph 83.] TEI welcomes the Exposure Draft's shift in emphasis.

The Exposure Draft would provide that in determining whether a valuation allowance is necessary to reduce the carrying value of a deferred tax asset, all available evidence -- both positive and negative -- is to be taken into account. [Paragraph 20.] The examples provided, however, either assume negative evidence outweights positive evidence or manifest a strictly mechanical approach to the determination. (2) Thus, the example at Paragraph 224 assumes a net operating loss in the current year portends net operating losses in all future years. Moreover, the example does not discuss the process of balancing of positive and negative evidence (i.e., the application of prudent accounting judgment) but simply assumes that "available positive evidence" will not overcome the negative evidence of the loss. (3) The intent of the Exposure Draft is presumably to ensure that management will prudently and conservatively evaluate the prospects of continued net operating losses and other negative evidence. TEI recommends that the examples confirm this point and that they be revised to illustrate the qualitative balancing a firm (and its certified public accountants) is to undertake, thereby eliminating any inference that positive and negative evidence is to be weighed in a rigidly mechanical approach.