The directors of Panel, a public limited company, are reviewing the procedures for the calculation of the deferred tax provision for their company. They are quite surprised at the impact on the provision caused by changes in accounting standards such as IFRS 1, First Time Adoption of International Financial Reporting Standards, and IFRS 2, Share-based Payment Panel is adopting International Financial Reporting Standards for the first time as at 31 October 2005 and the directors are unsure how the deferred tax provision will be calculated in its financial statements ended on that date including the opening provision at 1 November 2003.
Required:
(a) (i) Explain how changes in accounting standards are likely to have an impact on the provision for deferred taxation under IAS 12, Income Taxes.
(ii) Describe the basis for the calculation of the provision for deferred taxation on first-time adoption of IFRS including the provision in the opening IFRS balance sheet.
Additionally the directors wish to know how the provision for deferred taxation would be calculated in the following situations under IAS 12, Income Taxes:
(i) On 1 November 2003, the company had granted 10m share options worth $40m subject to a two-year vesting period. Local tax law allows a tax deduction at the exercise date of the intrinsic value of the options. The intrinsic value of the 10m share options at 31 October 2004 was $16m and at 31 October 2005 was $46m; the increase in the share price in the year to 31 October 2005. The directors are unsure how to account for deferred taxation on this transaction for the years ended 31 October 2004 and 31 October 2005.
(ii) Panel is leasing plant under a finance lease over a five-year period. The asset was recorded at the present value of the minimum lease payments of $12m at the inception of the lease which was 1 November 2004. The asset is depreciated on a straight line basis over the five years and has no residual value. The annual lease payments are $3m payable in arrears on 31 October and the effective interest rate is 8% p.a. The directors have not leased an asset under a finance lease before and are unsure as to its treatment for deferred taxation. The company can claim a tax deduction for the annual rental payment as the finance lease does not qualify for tax relief.
(iii) A wholly owned overseas subsidiary, Pins, a limited liability company, sold goods costing $7m to Panel on 1 September 2005, and these goods had not been sold by Panel before the year-end. Panel had paid $9m for these goods. The directors do not understand how this transaction should be dealt with in the financial statements of the subsidiary and the group for taxation purposes. Pins pays tax locally at 30%.
(iv) Nails, a limited liability company, is a wholly owned subsidiary of Panel, and is a cash-generating unit in its own right. The value of the property, plant and equipment of Nails at 31 October 2005 was $6m and purchased goodwill was $1m before any impairment loss. The company had no other assets or liabilities. An impairment loss of $1.8m had occurred at 31 October 2005. The tax base of the property, plant and equipment of Nails was $4m as at 31 October 2005. The directors wish to know how the impairment loss will affect the deferred tax provision for the year. Impairment losses are not an allowable expense for taxation purposes.
Assume a tax rate of 30%.
Required:
(b) Discuss, with suitable computations, how the situations (i) to (iv) above will impact on the accounting for deferred tax under IAS12, Income Taxes, in the group financial statements of Panel.