KPMG ASC 740 Guide - Dec 2016(2).pdf - Accounting for...

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Unformatted text preview: Accounting for Income Taxes Department of Professional Practice December 2016 ______ kpmg.com/us/frn ACCOUNTING FOR INCOME TAXES December 2016 This edition of Accounting for Income Taxes has been produced by the Department of Professional Practice of KPMG LLP. We would like to acknowledge the following contributors to this edition: Kimber K. Bascom, Regina E. Croucher, Kayreen M. Handley, Jeffrey N. Jones, Dan Langlois, Daniel K. Lim, Vicky F. Pollock, and Angela B. Storm. We would also like to thank other members of KPMG’s Department of Professional Practice for the time they committed to this project. The Financial Accounting Standards Board (FASB) material is copyrighted by the Financial Accounting Foundation (FAF), 401 Merritt 7, Norwalk, CT 06856-5116, and is reproduced with permission. The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. © 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved. PREFACE We are pleased to provide you with our 2016 edition of Accounting for Income Taxes. This book is designed to assist companies and others in understanding the application of ASC Topic 740, Income Taxes. In addition to an analysis of ASC Topic 740 and other pertinent sections of the FASB’s ASC, this book provides interpretive guidance, including illustrative examples and questions and answers, and addresses specific implementation issues identified since these sections became effective. In our 2016 edition, we revised Accounting for Income Taxes to update or add interpretive guidance related to the issuance of several FASB Accounting Standards Updates (ASUs). • ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, in particular Section 4, Valuation of Deferred Tax Assets, and Appendix A, Examples of Scheduling Temporary Differences. • ASU 2016-02, Leases (Topic 842), in particular Section 3, Tax Calculation, and Appendix A, Examples of Scheduling Temporary Differences. • ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, in particular Section 8, Income Tax Issues Associated with Share-Based Payment Arrangements. • ASU 2016-13, Measurements of Credit Losses on Financial Instruments, in particular Section 4, Valuation of Deferred Tax Assets, and Appendix A, Examples of Scheduling Temporary Differences. • ASU 2016-16, Intra-Entity Transfers of Assets Other Than Inventory, in particular Section 2, Temporary Differences. • ASU 2015-10, Technical Corrections and Improvements, in particular Sections 3, Tax Calculation, and 10, Other Considerations. • ASU 2015-11, Simplifying the Measurement of Inventory, in particular Appendix A, Examples of Scheduling Temporary Differences. • ASU 2015-16, Simplifying the Accounting for Measurement-Period Adjustments, in particular Section 6, The Tax Effects of Business Combinations. • ASU 2015-17, Balance Sheet Classification of Deferred Taxes, in particular Section 9, Financial Statement Presentation and Disclosure. • ASU 2014-09, Revenue from Contracts with Customers (Topic 606), in particular Section 2, Temporary Differences, and Appendix A, Examples of Scheduling Temporary Differences. • ASU 2014-15, Disclosures of Uncertainties about an Entity’s Ability to Continue as a Going Concern, in particular Section 4, Valuation of Deferred Tax Assets. © 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved. Preface In addition, KPMG updated or added guidance throughout Accounting for Income Taxes for technical interpretations, including guidance on disclosures related to investments in foreign subsidiaries, the tax rate reconciliation disclosure, disclosures about the valuation allowance in MD&A, tax effects of non-GAAP performance measures, changes in plans regarding indefinite reinvestment of foreign earnings, tax effects of transaction costs incurred by a target during the precombination period, REIT income tax status, establishing a valuation allowance as a consequence of an intercompany transfer, whether changes to interim intraperiod allocations impact previously recognized deferred charges from intercompany transactions, application of the cost method to qualified affordable housing project investments after adopting ASU 2016-01, the deferral method for investment tax credits, changes in tax status in interim periods, the Bipartisan Budget Act of 2015, and the July 27, 2015 Tax Court decision invalidating previous regulations that required taxpayers to include the value of share-based compensation in cost-sharing relationships with related parties. This publication represents our current interpretation of ASC Topic 740, which is based partly on periodic, informal discussions with the FASB and SEC staff. Our interpretations may be affected by future guidance issued by the FASB or its staff, the SEC staff, and others involved in the standard-setting process. We recommend that companies refer to the texts of the applicable literature and consult their accounting and tax advisors when considering the practical aspects of applying ASC Topic 740. KPMG LLP December 2016 © 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved. Contents Preface Section 1 – An Introduction to Accounting for Income Taxes ........................ 1 1.001 Scope ......................................................................................................................................... 1 Example 1.1: Taxes Based on Tonnage.................................................................................... 2 Example 1.2: Taxes Based on Net Revenue (Oklahoma Business Activity Tax) ...................... 2 Example 1.3: Taxes Based on Sales Volumes (French Contribution Economique Territorial) ............................................................................................................................... 3 1.004 Objective and Basic Principles of Accounting for Income Taxes ............................................. 3 1.005 Temporary Differences .............................................................................................................. 4 1.006 Tax Calculation.......................................................................................................................... 4 1.010 Valuation of Deferred Tax Assets ............................................................................................. 5 1.013 Changes in Tax Laws, Rates, or Status ...................................................................................... 6 1.014 Business Combinations .............................................................................................................. 6 1.015 Foreign Operations .................................................................................................................... 6 1.016 Financial Statement Presentation and Disclosures..................................................................... 6 1.017 Other Considerations ................................................................................................................. 7 1.018 Current Standard Setting Activity.............................................................................................. 7 Section 2 – Temporary Differences ................................................................... 9 Basic Principles for Identifying Temporary Differences ....................................................... 9 Example 2.1: Future Tax Consequence of Basis Differences................................................. 12 2.008 Recovery of Assets and Settlement of Liabilities .....................................................................13 Example 2.2: Recovery of Asset Through Use in Operation .................................................. 13 2.010 Tax Uncertainties ......................................................................................................................14 2.012 Different Tax Jurisdictions .......................................................................................................14 2.016 Alternative Tax Systems ...........................................................................................................15 Identifying Temporary Differences ........................................................................................ 15 2.021 Typical Temporary Differences ................................................................................................16 Basis Differences That Are Not Temporary Differences Because There Are No Future Tax Consequences ................................................................................................................. 20 2.023 Life Insurance Policies .............................................................................................................20 2.026 Net Unrealized Built-in Gain ....................................................................................................21 2.027 Accrued Tax-Exempt Interest ...................................................................................................21 2.028 Accrued Nondeductible Penalties and Fines .............................................................................21 2.029 Investments in Domestic Subsidiaries ......................................................................................21 i © 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved. Contents Exceptions to Recognition of Deferred Taxes ..................................................................... 22 2.032 Summary of Exceptions to Recognition of Deferred Taxes .....................................................22 Exceptions to Recognition of Deferred Taxes – Investments in Subsidiaries and Other Investments ................................................................................................................... 23 2.033 Investments in Subsidiaries ......................................................................................................23 2.036 Determining Whether a Subsidiary Is Foreign or Domestic .....................................................23 Example 2.3: Tiered Subsidiaries .......................................................................................... 24 2.037 Taxable Outside Basis Differences of Investments in Foreign Subsidiaries and Foreign Corporate Joint Ventures ....................................................................................................................24 2.038 Taxable Outside Basis Differences of Domestic Subsidiaries ..................................................25 2.042 Tax Law Related to Less-than-80%-Owned Domestic Subsidiaries ........................................26 2.044 Restrictions on the Exception for a Domestic Subsidiary .........................................................27 2.045 Taxable Recovery of Investments in Domestic Subsidiaries ....................................................27 2.047 Recognition of a Deductible Outside Basis Difference ............................................................27 2.050 Effect of Exceptions to Recognition of Deferred Tax Liabilities on Evaluation of Deferred Tax Assets ...........................................................................................................................28 2.051 Investments in Variable Interest Entities ..................................................................................28 2.052 Summary of Recognition of Deferred Taxes for Outside Basis Differences of Domestic Subsidiaries ........................................................................................................................29 2.053 Equity Method Investments ......................................................................................................29 2.056 Reduction to Below 50% Ownership in an Investee (Consolidated to Equity Method) ...........30 2.059 Reduction to Below 50% Ownership in an Investee (Consolidated to Cost Method) ..............31 2.060 Increase to Greater Than 50% Ownership in an Investee .........................................................31 Exceptions to Recognition of Deferred Taxes – Intercompany Transactions .................. 32 2.063 Intercompany Transactions .......................................................................................................32 Example 2.4: Intercompany Transfer of Depreciable Asset (Before the Adoption of ASU 2016-16) ......................................................................................................................... 33 Example 2.5: Inventory Transfer between Consolidated Companies .................................... 34 2.070 Deferred Tax Effects of an Intercompany Transfer ..................................................................35 2.072 Accounting for Temporary Differences Originating Subsequent to an Intercompany Transfer of an Asset (Before the Adoption of ASU 2016-16) ............................................................36 Example 2.6: Allocating Changes in Tax Basis Subsequent to Transfer (Before the Adoption of ASU 2016-16)..................................................................................................................... 36 2.074 Intercompany Transfers of Assets in Royalty Arrangements (Before the Adoption of ASU 2016-16) .............................................................................................................................................37 2.077 Intercompany Transfers of Assets Resulting in Payments of Tax Using Existing Net Operating Loss Carryforwards or Other Credits .................................................................................38 2.078 Establishing a Valuation Allowance as a Consequence of an Intercompany Transfer (Before the Adoption of ASU 2016-16) ..........................................................................................................38 Example 2.7: Establishing a Valuation Allowance as a Consequence of an Intercompany Transfer (Before the Adoption of ASU 2016-16).................................................................... 38 2.079 Transfers of Assets from a Consolidated Entity to an Equity Method Investee .......................39 ii © 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved. Contents 2.080 Intercompany Transfer of Interests in a Corporate Subsidiary .................................................39 Example 2.8: Intercompany Sale of Corporate Investment (Before the Adoption of ASU 2016-16) ......................................................................................................................... 39 Example 2.9: Change in Intent for Intercompany Sale of Foreign Subsidiary ...................... 41 Exceptions to Recognition of Deferred Taxes – Other Exceptions ................................... 41 2.081 Accounting for Temporary Differences on Goodwill ..............................................................41 2.082 Foreign Currency Translation at Historical Rates.....................................................................41 2.084 Leveraged Leases .....................................................................................................................42 2.086 Bad Debt Reserves of Qualified Savings and Loan Institutions ...............................................43 Example 2.10: Temporary Differences Related to Bad Debt Reserves of Thrifts .................. 44 Example 2.11: Unfilled Base-Year Reserve ........................................................................... 44 Temporary Differences – Specific Application Matters ...................................................... 45 2.091 Indefinitely Postponed Reversal of Temporary Differences .....................................................45 2.092 Prohibition against Applying the Indefinite Criterion by Analogy ...........................................45 2.094 Intangible Assets.......................................................................................................................45 2.095 Accounting for Temporary Differences in Purchase Transactions Which Are Not Business Combinations ......................................................................................................................46 2.096 Changes in Tax Accounting Methods .......................................................................................46 2.097 Foreign Assets and Liabilities...................................................................................................46 2.098 Taxation of Unrealized versus Realized Foreign Exchange Gains and Losses.........................46 2.100 LIFO Inventory .........................................................................................................................46 2.101 Tax-to-Tax Differences ............................................................................................................47 2.102 Partnership (and Other Pass-Through) Investments .................................................................47 2.103 Debt with Detachable Warrants ................................................................................................47 2.106 Convertible Debt.......................................................................................................................48 2.108 Convertible Debt with a Beneficial Conversion Feature ..........................................................49 2.110 Embedded Derivatives ..............................................................................................................50 Example 2.12: Convertible Note with Separation of a Call Option as a Liability ................. 50 2.111 Share Options Granted to Non-employees ...............................................................................51 2.112 Temporary Differences Not Pushed Down ...............................................................................51 2.113 Statutory Depletion ...................................................................................................................52 2.115 R&E Credits .............................................................................................................................52 2.116 Gain or Loss on Involuntary Conversion ..................................................................................52 Section 3 – Tax Calculation ............................................................................. 55 Basic Principles for Calculating Total Income Tax Expense .............................................. 55 Example 3.1: Tax Calculation...........................................................................................
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