FRF for SMEs--Accounting for Income Taxes

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Here is some major good news!  The FRF for SMEs offers entities subject to income taxes a choice of two methods for accounting for income taxes:

  1. The taxes payable method.
  2. The deferred income taxes method.

A brief summary of the two methods follows.  A detailed discussion of the deferred income taxes method will be included in my next blog.

Taxes Payable Method

An asset or liability will be recognized to the extent of refundable and unpaid income taxes, which unpaid taxes should include any from prior years.  Carrybacks of tax losses should be recognized as a current asset and tax benefit in the period the tax loss occurs. Income taxes refundable or payable are calculated in accordance with the applicable capital gains or ordinary income tax rates and laws in effect at the date of the statement of financial position.

Deferred Income Taxes Method

Similar to U.S. GAAP, deferred tax assets and deferred tax liabilities are recognized for future deductible amounts and future taxable amounts, respectively.  Differences in the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes are called temporary differences.  Temporary differences may be future taxable or deductible differences.  Deferred tax assets result from amounts that will be deductible for tax reporting in the future.  Deferred tax liabilities result from amounts that will be taxable in the future.

Common Book/Tax Differences

ACCOUNTING TREATMENT

TAX RETURN TREATMENT

1. Installment sale—Not recognized unless collectability of receivable is in doubt.

1. Installment sale—Prorata portion of gain is recognized as payments are received.

2. Bad debts—Allowance method is the only generally accepted method.

2. Bad debts—Only the direct write off method is allowed for tax purposes.

3. Overhead in inventories—Only manufacturing overhead can be allocated to work-in-process and finished goods.

3. Overhead in inventories—IRC Section 263(a) allows allocation of certain general and administrative expenses to inventories.

4. Depreciation methods and rates—Must be comparable to the useful lives of assets.

4a. Depreciation methods and rates—Accelerated methods can be elected.

4b. IRC Section 179 property—Listed property can be written off within limits.

5. Construction contracts—Only percentage of completion method may be used for long-term contracts.

5. Construction contracts—Large contracts on percentage of completion; small contracts on accrual or cash methods.

6. Rent received in advance—Deferred until it is earned.

6. Rent received in advance—Taxable in the year received under cash or accrual methods.

7. Estimated litigation expenses—Recognized when they become known and subject to estimation.

7. Estimated litigation expenses—Deductible when actual expenses are paid or accrued.

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My next blog will include more of the requirements of the deferred income tax method of accounting under the FRF for SMEs.  I’ll be presenting a four webcast series on the FRF for SMEs later this fall which can be accessed by clicking the box on the left side of my home page, www.cpafirmsupport.com.

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