Enquiry:

Our client, a Small-Sized Company, had revalued its fixed assets upwards few years back. As you would be aware that the previous ‘Accounting and Financial Reporting Standard for Small-Sized Entities (AFRS for SSEs)’ did not cover taxation, therefore our client took guidance from the ‘Accounting and Financial Reporting Standards for Medium-Sized Entities’ issued by the ICAP as allowed under section 22 of the AFRS for SSEs, and provided deferred tax liability out of the revaluation surplus.

Now section 17.1 of the revised AFRS for SSEs does not allow recognition of deferred tax as it says that ‘an entity shall apply the taxes payable method to account for its income tax’, so should our client transfer the deferred tax liability to revaluation surplus now or as far as tax effects of revaluation are concerned it can carry on the deferred tax liability and make subsequent transfers upon charging of incremental depreciation and realization of revaluation surplus?

 

Opinion:

The companies are required to prepare financial statements in accordance with the prescribed financial reporting framework.

In accordance with the third schedule of the Companies Act, 2017, the prescribed financial reporting framework for small-sized companies is the AFRS for SSEs.

With regard to accounting and presentation of taxation, section 17 ‘Taxation’ of the AFRS for SSEs allows only the taxes payable method and also mentions that the entity only reports current income tax as an expense.

Relevant section 17.1 of the AFRS for SSEs is reproduced as under:

“An entity shall apply the taxes payable method to account for its income taxes. The taxes payable method is a method of accounting under which an entity reports as an expense only the current income taxes for that period, determined in accordance with the Tax Law.”

With reference to the scenario explained in the enquiry, a small-sized company preparing financial statements in accordance with the AFRS for SSEs is required to comply with all the requirements of said standard, and apply the transitional provisions contained in section 22 of the AFRS for SSEs.  Relevant part is reproduced hereunder:

22.2  “An entity shall in its opening balance sheet as of its date of transition (beginning of the earliest period presented in financial statements) to this Standard:

1. a) Recognize all assets and liabilities whose recognition is required by to this Standard;
2. b) Not recognize items as assets or liabilities if to this Standard do not permit such recognition;
3. c) Reclassify items that it recognized under its previous financial reporting framework as one type of asset, liability or component of equity, but are a different type of asset, liability or component of equity under to this Standard; and
4. d) Apply to this Standard in measuring all recognized assets and liabilities.

The financial effect of above actions should be reflected in opening balance sheet by adjusting the amount of retained earnings as at the date of transition.” (Underline is ours)

Accordingly in the enquired scenerio, a company preparing financial statements in accordance with the AFRS for SSEs is required to de-recognise the deferred tax liability and account for the impact in the opening balance sheet in accordance with the above paragraph of section 22.

 (October 02, 2017)