Deferred taxes in business acquisition with international operations
FINANCIAL REPORTING INSIGHTS |
An acquisition of a business that is comprised of or includes international operations causes additional complexities in determining the proper opening balance sheet accounting for deferred taxes beyond those typically associated with a domestic acquisition.
While Topic 805, Business Combinations, of the FASB’s Accounting Standards Codification (ASC) provides recognition and measurement guidance for assets acquired and liabilities assumed in a business combination, it does not explicitly require the acquirer to push down the fair value of all assets acquired and liabilities assumed to each separate acquired entity, division or branch. However, ASC 740-10-30-5 provides the following guidance: “Deferred taxes shall be determined separately for each tax-paying component (an individual entity or group of entities that is consolidated for tax purposes) in each tax jurisdiction.” As a result, amounts assigned for financial reporting purposes to the individual assets acquired and liabilities assumed must be theoretically pushed down to each tax-paying component in the relevant functional currency to properly apply ASC 740, Income Taxes.
Deferred taxes are provided for differences between amounts assigned to assets and liabilities for financial reporting purposes and their associated tax basis (i.e., inside basis differences). The resulting temporary differences from properly pushing down (either directly in the books or by maintaining memo accounts or schedules) the portion of the acquisition price related to each foreign tax-paying component should be multiplied by the appropriate foreign tax rate and then translated into the reporting currency at the spot rate on the date of acquisition.
In addition to inside basis differences, the difference between the acquirer’s tax basis in shares of the acquired entity (including its lower tier subsidiaries) and the financial reporting carrying amount of the investment in the subsidiary is also a temporary difference (i.e., outside basis difference), even though the investment may be eliminated in consolidation. ASC 740 provides for certain exceptions to recording deferred taxes on the outside basis differences resulting from investments in foreign subsidiaries. Note that both the acquirer’s permanent reinvestment exception assertion and deferred tax determination should be made without regard to the previous assertions and determinations made by the acquired entity.
Further complexity also can arise in an acquisition involving a foreign branch whose income or loss is included as part of the U.S. entity’s U.S. tax return. Foreign branch basis differences may result in deferred tax consequences in both the foreign and U.S. tax jurisdiction, both of which impact the opening balance sheet amounts recorded as a result of the business combination. To properly determine the total tax effect of such basis differences, the acquirer should consider all relevant provisions of both foreign and U.S. tax laws.
When acquiring a business with international operations, consultation with subject matter experts will help ensure the deferred taxes related to that acquisition are appropriately recognized.