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The original IAS 12 did not refer explicitly to fair value adjustments made on a business combination and did not require an enterprise to recognize...

      

The original IAS 12 did not refer explicitly to fair value adjustments made on a business combination and did not require an enterprise to recognize a deferred tax liability in respect of asset revaluations. The revised IAS 12 “income taxes” now requires deferred tax adjustments for these items and classifies them as temporary differences.
Explain the reasons why IAS 12 (revised) requires companies to provide for deferred taxation on revaluations of assets and fair value adjustments on a business combination irrespective of the tax effect in the current accounting period.

  

Answers


Wilfred
1. Fair value adjustment:
The issues is whether fair value adjustment in the purchase method of accounting give rise to deferred tax where the full provision method is used, some feel that deferred tax should not be provided on fair value adjustments because these adjustments are made as a consolidation entry only. Rarely are they taxable or tax deductible and therefore do not affect the tax burden of the company. It is argued that providing for deferred tax on fair value adjustments is not an allocation of an expense but can be used as a smoothing device. Finally, the difference between the carrying amount of net assets acquired and their fair value is goodwill and therefore no deferred tax is required. The arguments in favour of deferred tax are conceptual by nature. If the net assets of the acquirer are shown in the group accounts, then this will affect the post acquisition earnings of the group and tax should be excluded. Additionally, since an acquisition gives rise to no tax effect, the effective tax rate in the profit and loss account should not be distorted as a result of the acquisition. Thus deferred tax should as an adjustment to reflect the reduction in the value of the asset

2. Revaluation of Fixed Assets:
Can be seen as creating a further temporary difference because it reflects an adjustment of depreciation which is itself a temporary difference. Alternative view is that is a permanent difference as it has no equivalent within the tax computation. The
revaluation is not a reversal of previous depreciation, simply that the remaining life of the asset will measure at a different amount. Deferred tax is a valuation adjustment and whilst a revaluation does not directly give rise to a tax liability, the tax status of the asset is inferior to an equivalent asset at historical cost and therefore provision or deferred tax should be made in order to reflect the true after tax cost of the asset. The revalued asset would not attract the same tax allowances as an asset purchased for the same amount and therefore if deferred tax was not provided it would distort the post revaluation effective tax rate.
Wilfykil answered the question on February 8, 2019 at 07:32


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