Uncertain Tax Positions: Navigating Accounting Policy Choices
The conversion to international financial reporting standards (IFRS), which is now complete, has led to some indecision when it comes to reporting and disclosing uncertain tax positions (UTPs). Organizations should develop a well-documented accounting policy for UTPs and ensure the consistent application of the policy.
A UTP is an item for which the tax treatment is unclear or is a matter of dispute between the organization and the taxation authority. International accounting standard (IAS) 12, "Income Taxes," addresses the reporting and disclosure requirements associated with accounting for income taxes, but it contains no specific guidance on recognizing or measuring tax assets or liabilities that are subject to uncertainty.
Currently, two approaches are being used in practice. The first is a "one-step" approach whereby all UTPs are recognized regardless of the probability of economic outflow. Under this approach, the probability of economic outflow will be taken into account when the liability is measured.
The second approach is the "two-step" approach, whereby a UTP is recognized only when it is probable that the obligation will result in an economic outflow (similar to FIN 48 under US GAAP). This approach mimics IAS 37, "Provisions, Contingent Liabilities and Contingent Assets," in that it uses a "probable" threshold to determine whether a UTP should be recognized. "Probable" in this context is accepted to mean that the probability of the event occurring is greater than the probability that it will not occur (that is, more than a 50 percent chance of occurrence). The question then is whether each UTP should be considered in isolation or as part of the tax liability as a whole. This decision can affect the accounting analysis, since IFRS imposes a much higher recognition threshold for uncertain assets than for uncertain liabilities.
Under either approach, after it is determined that a UTP will be recognized, the liability must be measured. This introduces further choices for practitioners, since measurement alternatives may include (1) the average weighted probability of outcomes, (2) the most likely single outcome, and (3) an all-or-nothing approach. Based on professional judgment, the "weighted average probability" approach assigns a probability of occurrence to several potential outcomes and includes all potential outcomes in the measurement of the liability. The "most likely single outcome" approach uses a similar method, except that the outcome that is considered the most likely to occur is used to quantify the liability, rather than an average of all potential outcomes. Under the "all-or-nothing" approach, no liability is recorded for UTPs with a probability below a selected threshold, and full liability is recorded for UTPs with a probability exceeding the threshold.
Typically, a UTP that affects current tax is presented as a current tax liability. In some circumstances, however, the UTP affects the tax base of an asset or liability, and is presented as a deferred tax asset or liability. IAS 12 contains no provision that allows or requires the offset of current tax and deferred tax.
With respect to the disclosure of specific tax-related contingent liabilities and assets, IAS 12 refers to IAS 37. With respect to contingent liabilities, IAS 37 specifies that a brief description of the nature of the liabilities is required to be disclosed unless the possibility of any outflow of resources embodying economic benefits in settlement is remote. Where practicable, the disclosure is to be extended to provide certain additional information, including an estimate of the financial effect of the contingent liabilities. However, IAS 37 also includes a provision that allows an entity not to disclose some of the required information if it can be expected that the disclosure of the information would seriously prejudice the position of the entity in a dispute with another party--for example, the CRA. On this basis, the standard practice appears to be non-disclosure.
Jim Martin and Lydia Giles
Ernst & Young LLP, Calgary