Accounting for possible tax law changes

Oct 07, 2021
Audit Accounting for income taxes Financial reporting Income taxes

As the U.S. Congress ponders possible significant tax law changes for corporate taxpayers, financial statement preparers already may be wondering about the related financial reporting implications.

Tax law changes should not be reflected in the provision for income taxes for financial statement periods ending prior to the date of enactment of the law. In accordance with Financial Accounting Standards Board Accounting Standards Codification (ASC) 740-10, the effect of a change in tax laws or rates should be recognized at the date of enactment. When deferred tax accounts are adjusted for the effect of a change in tax laws or rates, the effect should be included in income from continuing operations for the period that includes the enactment date. Companies that anticipate benefits related to prior periods or a change in deferred taxes as a result of the tax law changes should record these effects as a discrete item in the period of enactment.

For interim tax provisions, there has been diversity in practice regarding in which interim period the effect of a change in tax law (or change in rates) should be recognized. Before adoption of FASB Accounting Standards Update (ASU) 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, some believed ASC 740-270 required that the effect on taxes payable or refundable for the current year should be recognized in the period of enactment, which is similar to the treatment given deferred taxes. Others believed that ASC 740-270 required an entity to wait to recognize the current effects on taxes payable or refundable until the interim period that included the effective date of the change. For example, if a law change that increased the income tax rate was enacted on the first day of a company’s fiscal year but was not effective until the entity’s third quarter, the estimated annual effective tax rate (AETR) for the first two quarters would have used the lower (pre-tax-law-change) tax rate without any consideration given to the change in tax law. The higher tax rate would then be incorporated into the AETR in the third quarter, when the law became effective. ASU 2019-12 clarifies that all tax effects, both deferred and current, arising from changes in tax laws or rates should be accounted for in the first interim period that includes the enactment date of the new legislation. ASC 740-10-65-8 addresses the effective date and transition requirements of ASU 2019-12.

The tax effect of a change in tax laws or rates on taxes payable or refundable for a prior year should be recognized as of the enactment date of the change as tax expense (benefit) for the current year.

To the extent the tax law changes would result in a significant change in a company’s financial statements for periods ending prior to the enactment date that have not yet been issued, the impact and nature of the change should be disclosed.