Accounting Standards Codification (ASC) 740 Income Taxes provides a conceptual and practical framework of accounting for income taxes. This Study Group session will serve to introduce and illustrate the basic rules and computations associated with applying ASC 740.
In brief, ASC 740 addresses how companies should account for and report the effects of taxes based on income. In general, when a tax is based on income, most items that enter into pre-tax accounting income also enter into taxable income in the same year, and vice versa. Some events, however, are recognized for book purposes and for tax purposes in different periods. Over time, as these basis differences reverse, they eventually offset each other. The tax effects of these basis differences, referred to as deferred taxes, should be accounted for in the intervening periods.
Temporary differences are the basis of the deferred tax calculation. A temporary difference exists when any difference between the tax basis of an asset or a liability and its reported amount in financial statements will result in taxable income or deductions upon the reversal of the difference. If a basis difference will not affect future taxable income, it is not a temporary difference. Whatever the event or circumstance, a temporary difference will arise when a basis difference is expected to result in taxable or deductible amounts when the reported amount of an asset or liability in the financial statements is recovered or settled, respectively.
In order to achieve the objectives stated in ASC 740, entities must compute deferred taxes to account for the expected future tax consequences of events that have been recognized in the financial statements or tax returns.