By: Haroon Khan, CPA, CA (Canada), CPA (USA)
A few minutes ago, I finished reviewing the consolidated working papers, for a public company. To prepare a deferred income tax provision it is vital that it highlights the necessary accounting adjustments made during the process. This blog post explains the steps I took to make sure that the deferred income tax provision accurately reflects the accounting adjustments. It’s an important feature of financial reporting and I’d like to share my approach with you. Let’s dive into the four steps I followed.
Step 1: Reviewing Tax Balances on the Consolidated Statement of Financial Position:
To compare the figures for income tax provision with the statement of financial position I ensure:
a. There is a correct classification of Income tax receivables and payables as assets/liabilities. It is important to ensure that the receivables and payables from different jurisdictions don’t offset against each other and should be reflected separately. For instance, a Canadian entity has Income Tax payable of $500,000 and a US entity has Income Tax receivable of $200,000. Both balances should be highlighted in the statements individually, and not shown as a combined payable balance of $300,000.
b. Regarding Deferred income tax assets (DTAs) and liabilities (DTLs) I accurately categorize them as non-current tax assets/liabilities and avoid netting them with DTAs and DTLs from different jurisdictions. For example, if there is a DTA of $1,900,000 in a Canadian company and a DTL of $2,000,000 in a US company I disclose both balances separately without merging them into a net balance of DTL of $100,000.
c. The company’s assets and debts can be viewed in the Statement of Financial position. By going through this list carefully, I ensure that all the assets and debts have been added to my deferred tax schedule. If you come across accounts like “Lease obligations, on right-of-use assets” in the statements ask yourself whether these accounts might have different tax and accounting values. If they do differ make sure to include them on your deferred tax schedule.
2. Reviewing Tax Balances on the statements of loss and comprehensive loss:
In Step 2, I ensure that the current tax expense/(recovery) and deferred tax expense/(recovery) balances align, with the figures in my working papers. It’s also an opportunity for me to identify any deductible or non-deductible items, for tax purposes that should have already been accounted for.
While reviewing earlier, I encountered expenses related to exchange listings. It’s important to note that according to paragraph 20(1)(e) of the Income Tax Act, these expenses cannot be immediately deducted but instead need to be amortized over a period of five years. This serves as a cross-check to match with my working papers.
Similarly, I came across a goodwill impairment charge and I had to verify that it has been properly reversed for tax purposes as required.
3. Cross-checking with the Consolidated Statement of Cash Flows:
To ensure the accuracy of the income tax provision my ultimate test is matching it against the statement of cash flows. When the numbers in this statement are compared with the tax reconciling adjustments made to the accounting net income it provides confidence that all aspects have been covered.
Let’s delve into some of the figures I double-checked for my Public Corporation client:
Operating Activities Section:
In the Operating Activities Section, I compared the account balances listed in the cash flow statements and the total amounts shown on Schedule 1 (for Canadian entities) and Schedule M-1 (for US entities). Both Schedule 1 and Schedule M-1 provide reconciliations between Income (Loss) per Book and Net Income for tax purposes.
a. Depreciation of property and equipment
b. Depreciation of right-of-use assets
c. Amortization of intangible assets
d. Amortization of development costs
e. Shared-based compensation
f. Interest on obligations related to right of use assets.
g. Goodwill Impairment
h. Accretion expense
i. Gain on lease modification
j. Loss disposal of property and equipment
k. Gain on change in the value of the consideration payable
To ensure that both current tax and deferred tax expenses/recoveries align, with the income tax expense amount displayed in the cash flows, I cross-referenced the numbers from the cash flow statements. Moreover, we verified that the amounts recorded for income tax paid and income tax refunds align with our tax receivable roll.
a. Income tax expense
b. Income tax paid
c. Income tax refunds
Investing Activities Section:
In this section, I compared Schedule 8 for CCA additions (for Canadian entities) and Form 4562 additions (for US entities) with the cash flow statements of the Purchase of property and equipment additions. Similarly, I matched the addition of Development costs from cash flow statements with Schedule T661 (SR&ED computation for Canadian entities) and Form 6765 (for US entities).
Financing Activities Section:
In this section, I made sure that the Repayment of the right-of-use lease obligation aligned with Schedule 1 and M-1.
Please note, that these adjustments are specific to my client’s situation. However, the adjustments may change according to the client’s circumstances. If you choose to apply these steps to your client profile, you will note that the adjustments might depend on the situation of your client’s assets, debts, and notes in financial statements.
4. Reading the Notes to the consolidated financial statements
This is the most important step while preparing a Deferred Income Tax Provision, as I get to uncover all the consolidated-level adjustments. For Instance, while going through these notes, I may identify, any other aspect that might provide me with information that could be a potential tax adjustment, like the issuance of warrants to brokers, details about interest rate swap agreements, and Insights into business combinations.
Lastly, review the tax notes provided to you in the financial statements, to ensure they align with the numbers you provide to your client. This step guarantees accuracy and consistency in the Tax Reporting Process.
Get in Touch:
If you have any questions or need assistance simplifying your deferred income tax provision templates or preparing them, feel free to reach out to us at info@ictax.ca. We’re here to help you navigate the complexities of financial reporting and taxation.
