Additionally the directors wish to know how the provision for deferred taxation would be calculated in the following
situations under IAS12 ‘Income Taxes’:
(i) On 1 November 2003, the company had granted ten million share options worth $40 million 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 ten million share options at 31 October 2004 was $16 million and at 31 October 2005
was $46 million. The increase in the share price in the year to 31 October 2005 could not be foreseen at
31 October 2004. The options were exercised at 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 $12 million 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 $3 million payable in arrears on 31 October and the effective interest rate is 8% per annum. 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 $7 million to Panel on
1 September 2005, and these goods had not been sold by Panel before the year end. Panel had paid $9 million
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 $6 million and purchased
goodwill was $1 million before any impairment loss. The company had no other assets or liabilities. An
impairment loss of $1·8 million had occurred at 31 October 2005. The tax base of the property, plant and
equipment of Nails was $4 million 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. (16 marks)
(The situations in (i) to (iv) above carry equal marks)
