group recognise?
3.4.3. What adjustments does the head entity recognise?
In addition to the tax effects of its own transactions, events and balances, the head entity in the tax- consolidated group recognises:
• the current tax liability (or asset) and the deferred tax assets arising from unused tax losses and unused tax credits assumed from the subsidiaries in the group
• assets and liabilities (if any) arising for the head entity under a tax funding arrangement as amounts received from or payable to other entities in the group
• any difference between the net amounts recognised are treated as a contribution by (or distribution to) equity participants between the head entity and its subsidiaries (UIG 1052.12).
3.4.4.
What equity accounts are affected by the specific tax-consolidation
adjustments?
Interpretation 1052 does not prescribe which account or accounts must be adjusted for
contributions by (or distributions to) equity participants when making the specific tax-consolidation adjustments (UIG 1052.13).
As a result, entities will need to carefully consider the nature of any contributions by (or distributions to) equity participants that arise when applying these requirements.
3.4.4.1.Equity contributions
In a straightforward assumption of a current tax liability of a subsidiary by its immediate parent entity as the head entity, the treatment might normally be expected to be easily determined – a type of ‘contributed equity’ in the subsidiary and an increase in the investment in the subsidiary by the parent.
Other commentators argue that the use of some sort of ‘reserve’ might also be considered appropriate in the subsidiary’s separate financial statements, as this clearly identifies the amounts as arising from tax consolidation and the specific accounting requirements under Interpretation 1052. This might also permit the creation of a debit reserve where a distribution is seen to have occurred.
3.4.4.2.Distributions
Where the tax consolidation adjustments required by Interpretation 1052 result in the recognition of a distribution to an entity, that entity accounts for the distribution in accordance with the requirements of AASB 118 Revenue and AASB 127 Consolidated and Separate Financial Statements concerning dividends and other distributions. Distributions arising from tax consolidation adjustments may take the form of either a return of capital or a return on capital. The particular circumstances of a distribution need to be considered in determining the appropriate accounting (UIG 1052.45).
AASB 118 notes the following in relation to the recognition of dividends by an investor: …When dividends on equity securities are declared from pre-acquisition net income, those dividends are deducted
Can ‘reserve accounting’ be adopted to simplify the accounting for equity
Specific tax consolidation accounting adjustments
The ‘cost method’ is defined in AASB 127 as follows:
The ‘cost method’ is a method of accounting for an investment whereby the investment is recognised at cost. The investor recognises income from the investment only to the extent the investor receives distributions from retained earnings of the investee arising after the date of acquisition. Distributions received in excess of such earnings are regarded as a recovery of investment and are recognised as a reduction of the cost of the investment.
The application of these requirements within the context of distributions arising under the specific tax consolidation adjustments of Interpretation 1052 can be problematic for the following reasons: • the distribution is effectively an ‘accounting distribution’ rather than a ‘legal distribution’ and so
does not take the normal form of being determined and declared by the directors having due regard the circumstances of the entity and any governing legislation – the directors might ordinarily be expected to determine where legal distributions are being paid from and what they represented
• the distribution made does not relate to ‘profits’ per se but is related to a prescribed method of accounting – therefore the focus on ‘pre-acquisition net income’ and ‘retained earnings’ in AASB 118 and AASB 127 do not really contemplate these types of distributions
• where tax losses are incurred by a subsidiary, this will give rise to a distribution (to the extent that a TFA does not require payment for the full amount of the loss) – this is counterintuitive as a tax loss is often accompanied by an accounting loss and so there are no ‘profits’ to distribute.
)
To avoid the complications arising with accounting for contributions by (or distributions to) equity participants, many entities will simply choose to align their TFA with their chosen method of allocating current and deferred taxes to the entities in the group. In this way, no equity amounts will arise and no adjustments will be required.3.4.5.
What are the effects of these adjustments?
The effects of the specific tax consolidation adjustments under Interpretation 1052 are as follows: • each entity in the tax-consolidated group recognises its allocated share of the consolidated
deferred tax balances and income tax expense (both current and deferred) – thereby showing its true ‘cost of doing business’
• the head entity recognises the group’s aggregate current tax liability and the benefit of any tax losses and tax credits in the tax-consolidated group – as the head entity has the primary obligation for tax and also keeps the benefit of any tax losses and any relevant tax loss credits/offsets under the tax consolidation legislation
• where amounts payable under any TFA that is in place within the group does not mirror these requirements, the net difference is treated as a contribution from (or distribution to) equity participants – this represents a ‘non-arm’s length transaction’ between related entities, which would only occur due to the ownership interests between those entities.
Entities may choose to recognise separate entries for tax accounting in each entity (as discussed in section 3.2) and the ‘assumption’ by the head entity (as discussed above). Alternatively, a
Example illustrating specific tax consolidation adjustments
This example is based on the same fact pattern as the example on page 15 and the following additional information. The H tax-consolidated group has a tax funding arrangement in place that requires a funding contribution to the consolidated tax liability based on 30% of accounting profits. Where an entity makes an accounting loss, no TFA amount is payable or receivable.
For the purposes of this example, the H tax-consolidated group is assumed to have chosen the ‘stand alone taxpayer’ approach of determining tax entries in each member of the tax consolidated group.
The journal entries recognised in relation to current tax and the related specific tax consolidation adjustments are outlined below. For simplicity, accounting entries in relation to deferred taxes are ignored.
Entries in A’s separate financial statements
CR Current tax liability ($910 x 30%) 273
DR Current tax expense 273
(Current tax accounting for Entity A)
DR Current tax liability 273
CR Payable to H under TFA ($700 x 30%) 210
CR Equity contribution 63
(Tax consolidation adjustments for Entity A)
Entries in B’s separate financial statements
DR Deferred tax asset (tax loss) ($510 loss x 30%) 153
CR Current tax income 153
(Current tax accounting for Entity B)
CR Deferred tax asset (tax loss) 153
DR Equity (Distribution to H) 153
(Tax consolidation adjustments for Entity B)
Entity H
Entity A Entity B
Diagrammatical representation of the impact after specific tax consolidation adjustments
Each entity recognises income tax expense and deferred taxes arising from temporary differences
Current tax liability and deferred taxes
arising from tax losses and other relevant credits recognised by the head entity Equity contributions and distributions recognised
Specific tax consolidation accounting adjustments
Example illustrating specific tax consolidation adjustments (continued)
Entries in H’s separate financial statements (continued)
CR Current tax liability 273
DR Receivable from A under TFA ($700 x 30%) 210
DR Investment in A 63
(Tax consolidation adjustments in relation to Entity A)
DR Current tax liability(1) 153
CR Investment in B(2) 153
(Tax consolidation adjustments in relation to Entity B)
(1) Although initially recognised as a deferred tax asset arising from tax losses in Entity B, when the consolidated tax return is prepared the tax losses notionally generated by B will be offset against the taxable profits generated by H and A. Therefore, when H recognises the assumption of the tax loss, it is used to reduce the current tax liability of the group.
(2) In accordance with UIG 1052.11(d), the difference is to be treated as either a ‘contribution by or distribution to equity participants’. For the purposes of this example, it is assumed that the distribution is effectively a ‘return of capital’ and used to reduce the carrying amount of the investment, rather than being recognised as a dividend. For more information on this topic, see section 3.4.6.
The aggregate current tax liability initially recognised by H is as follows: Amount Current tax liability in respect of:
- H itself 75
- Entity A 273
- Entity B (153)
Aggregate current tax liability initially recognised 195
The current tax liability for the group is $165 ($550 x 30%). The aggregate current tax liability recognised by H is $195. This $30 difference represents the unrealised profits in the sale of inventory from A to B. The ‘Illustrative Examples’ that accompanying Interpretation 1052 indicate that ’asymmetrical accounting’ is to be adopted in this situation, i.e. the subsidiary recognises an increase in contributed equity, but the head entity does not make an equivalent entry to recognise an increase in the carrying amount of the investment. Therefore, the following additional entry would be recognised by H:
DR Current tax liability 30
CR Investment in A 30
(‘Asymmetrical’ entry in relation to the non-taxable unrealised profits used to measure A’s current tax liability)
In this manner, the current tax liability will be recognised and measured at the same amount in both the separate financial statements of the head entity and the consolidated financial statements (in so far as the current tax liability relates to the tax-consolidated group).