Brief facts of the enquiry

The Accounting Standards Board (the Board) received an enquiry, wherein, the Board’s guidance had been sought on the following questions related to treatment of minimum tax paid on turnover under IAS 12 Income taxes:

•Whether the minimum tax due for a period under section 113 of the Income Tax Ordinance, 2001 fulfills the criteria to be recognised as current tax expense or as current tax asset?

•What are the deferred tax implications of minimum tax paid under section 113 of the Income Tax Ordinance, 2001 under IAS 12?

Opinion

The Board noted that paragraph 58 of IAS 12 requires that current tax shall be recognised as income or an expense and included in profit or loss for the period, except to the extent that the tax arises from:

(a)a transaction or event which is recognised, in the same or a different period, outside profit or loss, either in other comprehensive income or directly in equity;

(b)a business combination (other than the acquisition by an investment entity, as defined in IFRS 10 Consolidated Financial Statements, of a subsidiary that is required to be measured at fair value through profit or loss).

Further, paragraph 12 of IAS 12 requires that current tax for current and prior periods shall to the extent unpaid be recognised as a liability. If the amount already paid in respect of current and prior periods exceeds the amount due for those periods, the excess shall be recognised as an asset.

Current tax has been defined in IAS 12 as the amount of income taxes payable (recoverable) in respect of the taxable profit (tax loss) for a period.

Further, the term taxable profit has been defined in IAS 12 as taxable profit (tax loss) for a period, determined in accordance with the rules established by the taxation authorities, upon which income tax are payable (recoverable).

Based on the above requirements of IAS 12, the Board understands that, current tax expense is the amount which has been or will be assessed to be due for the period under the income tax laws. Any amount paid during the year to taxation authorities, in excess of such amount is a prepayment or advance payment of current tax of future periods. Therefore, in the light of the requirements of the Income Tax Ordinance, 2001, further analysis is required to ascertain whether minimum tax for a period under section 113 of the Income Tax Ordinance, 2001 can be regarded as the tax due for the reporting period or not.

Section 113(1) of the Income Tax Ordinance, 2001 outlines that minimum tax is payable where due to a tax loss for the year, the setting off of a loss of an earlier year, exemption from tax, the application of credits or rebates, or claiming of allowances or deduction:

–no tax is payable or paid by the person for a tax year; or

–the tax payable or paid by the person for a tax year is less than the minimum tax.

Section 113(3)(c) outlines that where the amount of minimum tax due for the period exceeds the amount of tax based on taxable income, the excess amount of tax paid shall be carried forward for adjustment against tax liability for five tax years immediately succeeding the tax year for which the amount was paid.

The Board noted that from the above it is clear that the amount of minimum tax paid for a year can only be recovered:

–through adjustment against tax liability of future years;

–to the extent of tax liability of future years which is excess of minimum tax for that year.

Therefore, the Board noted that the amount of minimum tax for a period is the amount of tax due for the period in terms of definition of current tax provided in IAS 12 as the amount of tax payable to taxation authorities in any tax year cannot fall below the minimum tax. Accordingly, the Board understands that amount of minimum tax due for a period cannot be regarded as prepayment of current tax for future years.

With regards to the deferred tax implications of minimum tax, the Board noted section 113(3)(c) provides that where the amount of minimum tax due for the period exceeds the amount of tax based on taxable income, the excess amount of tax paid shall be carried forward for adjustment against tax liability for five tax years immediately succeeding the tax year for which the amount was paid.

The recoverability of minimum tax is contingent upon availability of taxable profits in future years resulting in a tax liability which is in excess of minimum taxes for those years. The Board understood that this recoverability feature of minimum taxes renders it to be a tax credit under IAS 12.

The Board observed that the term tax credit is not currently defined in IAS 12. In March 2009, International Accounting Standards Board (IASB) issued Exposure Draft (ED)/2009/2 Income Taxes. The ED contained proposals by the IASB for an International Financial Reporting Standard (IFRS) on income tax to replace IAS 12. The IASB undertook this project for two reasons. First, it had received many requests to clarify various aspects of IAS 12. Second, IASB and US Financial Accounting Standards Board (FASB) agreed to consider the accounting for income tax as part of their work to reduce differences between IFRSs and US generally accepted accounting principles (GAAP).

The ED proposed to include definition of the term tax credit which was converged with the definition provided by US SFAS 109 Accounting for Income Taxes. The proposed definition is reproduced below:

“Tax credit is a tax benefit that takes the form of an amount that reduces income tax payable”

The rationale for including definition of tax credit was explained in paragraph BC24 of the ED as follows:

“IAS 12 does not define the terms tax credit or investment tax credit. It excludes from its scope the accounting for investment tax credits, and prescribes different accounting for tax credits and tax deductions. This has led to questions about how some tax benefits should be classified. The exposure draft proposes definitions of tax credit and investment tax credit that converge with US GAAP. The Board acknowledges that the definitions focus on the way in which the tax authorities express the benefit. Because similar economic benefits could be expressed as either tax credits or tax deductions, this means that similar economic benefits may be accounted for in different ways. The Board concluded that it was beyond the scope of this project to include a comprehensive reconsideration of the accounting for tax credits and tax deductions. Nonetheless, clear definitions would make the new IFRS easier to use by removing doubt over the required treatment for tax benefits.”

However, the proposals contained in ED could not be finalized by the IASB and IAS 12 was retained with certain limited amendments. Accordingly, the definition of the term tax credit could not be included in the IFRS standards.

Further the Board observed, a taxation regime similar to minimum taxes under section 113 of the Income Tax Ordinance, 2001, also exists in US, which is called ‘Alternative Minimum Tax (AMT)’. Under AMT, an entity has to pay tax for an amount equal to higher of the:

–tax based on taxable profits at regular corporate tax rate; or

–Alternative minimum tax based on a certain percentage of turnover.

Similar to minimum taxes under section 113 of the Income Tax Ordinance, the amount of AMT paid in excess of tax based on taxable income at regular tax rate can be carried forward and adjusted against normal tax liability of future years. SFAS 109 regards this tax benefit under AMT a ‘tax credit’ as it fulfills its definition that it is a tax benefit that takes the form of an amount that reduces income tax payable. Therefore, paragraph 17(d) and (e) of SFAS 109 require an entity to recognise a deferred tax asset for carry forward of tax benefit for AMT.

Therefore, the Board understands that based on the IASB’s proposals contained in the ED, the term tax credit although not defined in IAS 12 is principally converged with the definition of this term in SFAS 109. Further, SFAS 109’s treatment of carryforward tax benefit under AMT, which is substantially similar to minimum tax regime of Pakistan, reflects that tax benefit of minimum taxes under section 113 of the Income Tax Ordinance, 2001 is a tax credit in terms of IAS 12.

Paragraph 34 of IAS 12 requires that a deferred tax asset shall be recognised for the carryforward of unused tax losses and unused tax credits to the extent that it is probable that future taxable profit will be available against which the unused tax losses and unused tax credits can be utilized.

Accordingly, the Board noted that a deferred tax asset should be recognised for the amount of minimum tax paid for a period in excess of tax based on taxable income subject to the probability of availability of future taxable profits against which the unused tax losses and unused tax credits can be utilized.

Based on the above analysis and discussion, the Board concluded that:

•The minimum tax levied under section 113 of the Income Tax Ordinance, 2001 should be recognized as current tax expense, in accordance with paragraphs 12 and 58 of IAS 12.

•A deferred tax asset should be recognised for the amount of minimum tax paid for a period in excess of tax based on taxable income subject to the probability of availability of future taxable profits against which the unused tax losses and unused tax credits can be utilized in accordance with paragraph 34 of IAS 12.

(Issued in July, 2020)