ASC 740 and Valuations of Deferred Tax...

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ASC 740 and Valuations of Deferred Tax Assets Tackling Tough Valuation and Disclosure Challenges and Recovering Prior Allowances

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TUESDAY, MAY 3, 2011

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Charles Chubb Managing Director WTAS PhiladelphiaCharles Chubb, Managing Director, WTAS, Philadelphia

David Bussius, Managing Director, Tax Group, CBIZ Tofias, Providence, R.I.

Mark Siegel, Senior Tax Manager, BDO USA, Atlanta

Patrick Tuley, Partner, Porter Keadle & Moore, Atlanta

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Patrick Tuley, Partner, Porter Keadle & Moore, Atlanta

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ASC d V l ti f D f d T ASC 740 and Valuations of Deferred Tax Assets Seminar

May 3, 2011

David Bussius, CBIZ [email protected]

Charles Chubb, WTAS [email protected]

Patrick Tuley, Porter Keadle & Moore [email protected]

Mark Siegel, BDO USA [email protected]

Today’s Program

Introduction[Charles Chubb]

Slide 7 – Slide 10

Drill-Down On ASC 740/FAS 109 Rules[David Bussius and Charles Chubb]


Tax-Related Challenges[Mark Siegel]


Valuation-Related Challenges[Patrick Tuley]


INTRODUCTIONCharles Chubb, WTAS LLC

INTRODUCTION

ASC 740 (formerly FAS 109) Balance sheet perspective

Current payable/current receivable

R t h t i d t f th to Reports what is owed to or from the government on a income tax return

Deferred tax liabilities

o Reports what may be owed in the future

Deferred tax assets (today’s focus)

o Reports what may reduce taxes in the future

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ASC 740: Basic principles (Cont.)

B l h t ti Balance sheet perspective

FIN 48 liability

o Reports unrecognized tax benefits for uncertain taxo Reports unrecognized tax benefits for uncertain tax positions

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ASC 740: Basic principles (Cont.)

GAAP (generally accepted accounting principles): Provide the GAAP (generally accepted accounting principles): Provide the guidelines in evaluating the amounts reported in the financial statements

Key point: FAS 109 is governed by accounting standards and Key point: FAS 109 is governed by accounting standards, and many of the important principles in FAS 109 are similar to other elements of the financial statement accounting.

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D id B i CBIZ T fi

DRILL DOWN ON ASC 740/FAS

David Bussius, CBIZ TofiasCharles Chubb, WTAS LLC

DRILL‐DOWN ON ASC 740/FAS 109 RULES

Overview

• Valuation allowance defined

– Financial accounting principle that reduces a deferred tax asset– Financial accounting principle that reduces a deferred tax asset to its net realizable value

The conceptual framework is similar to evaluating other assets– The conceptual framework is similar to evaluating other assets on the balance sheet.

• Accounts receivable• Intangibles

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Overview (Cont.)

• A deferred tax asset must be reduced by a valuation allowance ifbased on:based on:

– … the weight of all the evidence available it is more likely than not (a likelihood of > 50%) that some portion or all of thenot (a likelihood of > 50%) that some portion or all of the deferred tax asset will not be realized

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Overview (Cont.)

• Valuation allowances do not deal with the existence of the asset; instead, they address the realizability of an asset.

– This is an important distinction from ASC 450 (formerly FAS 5) and ASC 740-10 (formerly FIN 48), which determine whether an asset is recognizable (meets the criteria to be benefitted)asset is recognizable (meets the criteria to be benefitted).

• For example: A net operating loss (NOL) created through an aggressive tax position on a tax return may not beaggressive tax position on a tax return may not be recognizable.

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Overview (Cont.)

• All available evidence, both positive and negative, needs to be considered.needs to be considered.

• Assessing the need for and amount of a valuation allowance for DTAs requires significant judgmentDTAs requires significant judgment.– Early coordination with the F/S auditors is important to

avoid/reconcile inconsistencies between the company’s and auditor’s judgmentsauditor s judgments.

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Key Concepts

• Realizability: The question is:– “Will the company have enough future taxable income to realize

a cash benefit?a cash benefit?

• More likely than not (> 50%) standard

• Positive and negative evidence: Weight given based on objective verifiability– Key concept: Must be based upon documentation that supports

conclusion reached by company and also provide adequate financial statement audit support

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Key Concepts (Cont.)Key Concepts (Cont.)Evaluation

Analysis is done on a separate, jurisdiction-by-jurisdiction basis

Important concept in evaluating multi-national or multi-state groups

o Winners-and-losers issue

Often missed in groups that are profitable overall but have some loss companieshave some loss companies

o Other positive or negative evidence may be different among the jurisdictions.

Scheduling out the reversal of temporary differences may be required.

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Key Concepts (Cont.)Key Concepts (Cont.)

Other considerations

Evaluation of the valuation allowance

Changes in judgment: P&L impact considerations

Be mindful of events that could cause release of the valuation allowance

Confusion with ASC 740-10; ASC 740-10 is applied first Confusion with ASC 740 10; ASC 740 10 is applied first

If the DTA is determined not to exist under ASC 740-10, then no realizability evaluation is required.

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Positive EvidencePositive Evidence

ASC 740-10-30-18 identifies four sources of taxable income that are to be considered as positive evidence:

1) Future reversal of existing taxable temporary differences

2) Taxable income in prior carryback year(s)

3) Future taxable income exclusive of reversing temporary3) Future taxable income, exclusive of reversing temporary

differences and carryforwards

4) T l i t t i4) Tax planning strategies

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Positive Evidence (Cont.)Positive Evidence (Cont.)

How many factors need to be considered?

If one of the factors is sufficient to indicate that a valuation allowance is not necessary, then the other factors do not need to be evaluated.be evaluated.

However if a valuation allowance is required then all the factors However, if a valuation allowance is required, then all the factors must be considered to determine the amount of the valuation allowance.

Key point: Evaluating tax planning strategies is not optional.

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Which factors should be given the most weight?

Typically, the factors given the most weight are the least subjective, resulting in the following order from strongest to weakest evidence:weakest evidence:

Carrybacks

Reversal of temporary differencesp y

Tax planning strategies

Future taxable income exclusive of temporary differences

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Positive Evidence (Cont.)

• Future reversal of existing taxable temporary difference

– Consideration must be given to the timing of the reversal of the temporary differences into taxable income.Assumes zero book income– Assumes zero book income

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• Future reversal of existing taxable temporary difference (Cont.)– Many timing differences based on current reserves (i e payroll– Many timing differences based on current reserves (i.e. payroll

accruals) reverse in one year.– Other DTAs are more challenging.

Warranty reserves• Warranty reserves• Depreciation

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• Future reversal of existing taxable temporary difference (Cont.) -Future reversal of existing taxable temporary difference (Cont.) Example

DTAsDTAsBad debt reserve - 10NOL expires in 3 years - 380

DTLMACRS depreciation 5-year property - $4,000 Cost (1st year) - (400)

(assume purchased mid-year and GAAP depreciation is straight-line)

The net DTA/DTL is zero but scheduling is requiredThe net DTA/DTL is zero, but scheduling is required.

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Future reversal of existing taxable temporary difference (Cont.) - ExampleSchedule of change

Yr0 Yr1 Yr2 Yr3 Yr4 Yr5Bad Debt 10 -10 - - - -NOL 380 +490 -32 -339 -339 -170Depr. -400 -480 +32 +339 +339 +170

(assume FIFO methodology for applying changes to NOL)

Schedule of reversing DTA and DTL amounts Yr0 Yr1 Yr2 Yr3 Yr4 Yr5

Bad Debt 10 - - - - -NOL orig 380 380 348NOL - orig 380 380 348 - - -NOL - new 0 490 490 490 151 -Depr. -400 -368 -29 - - -– Year 3 had 9 of original 380 NOL expire (348 less 339).– Note: Without scheduling, it would have appear no V/A was required

net DTL (10)

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• Future reversal of existing taxable temporary difference (Cont.)

– DTLs related to indefinite lived intangibles cannot be used to– DTLs related to indefinite lived intangibles cannot be used to benefit most deferred tax assets (Exception: Federal AMT credits).

• Re-enforces the gross DTA vs net DTA requirement of ASC• Re-enforces the gross DTA vs. net DTA requirement of ASC 740

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Future reversal of existing taxable temporary difference (Cont.)

Example of indefinite lived intangible - DTLExample of indefinite lived intangible DTL

DTL – Goodwill (1,000)DTA – NOL 1,000Net before V/A 0

V l ti ll (1 000)Valuation allow. (1,000)Net deferred (1,000)

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Future reversal of existing taxable temporary difference (Cont.)

– ASC 740-10 liabilities (formerly FIN 48)• Scheduling of the reversal of ASC 740-10 liabilities caused by

anticipated realization of the actual liability (i.e. adjustment by p y ( j ythe government) is required.

• The result of the scheduling may indicate that certain DTAs (i.e. NOLs) may have value by offsetting potential ( ) y y g punrecognized tax benefits.

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Taxable income in prior carryback yearsTaxable income in prior carryback years

Evaluate tax law of appropriate jurisdiction (federal, state and foreign)

Current carryback periods available under U.S. law:

Two years for NOLs

Three years for capital losses

One year for general business credits

One year for foreign tax credits

Consider AMT implications from the carryback

Election to forgo carr back considerations

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Election to forgo carryback considerations


Future taxable income, exclusive of reversing temporary differences and carryforwards

Anticipates new permanent and temporary differences

Th i f hi t i t diff i t d The reversing of historic temporary differences is accounted for in a separate evaluation.

In practice, book income is often used, when permanent and p pfuture temporary items are not a significant factor.

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Future taxable income, exclusive of reversing temporary diff d f d (C t )differences and carryforwards (Cont.) Projections of future years pre-tax book income

Needs to be consistent with other projections used by Needs to be consistent with other projections used by company (i.e. goodwill impairment analysis)

Considerations related to how many years to project

Ch t d t f hi t i l Character and nature of historic losses

Quality of future projections

o History of performance against prior plano History of performance against prior plan

As this is the most subjective area, often a relatively short period is allowed.

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Future taxable income, exclusive of reversing temporaryFuture taxable income, exclusive of reversing temporary differences and carryforwards (Cont.)

Character of DTA may affect analysis

Capital losses

Foreign tax credits

o May be planning idea to elect to expense foreign taxes rather than taking the credit to avoid valuation allowance

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Tax planning strategies

Tax planning strategies that could accelerate income, so that the company can take advantage of future deductible differencesdifferences

ASC 740-10-30-19 provides criteria:

Prudent and feasible

Company ordinarily might not take, but would take to prevent an operating loss or tax credit carryforward from expiring unusedexpiring unused

Would result in realization of deferred tax assets

o Not the minimization of DTLs

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Tax planning strategies (Cont.)

The company does not have to actually implement the strategy.

In practice, some auditors have attempted to apply a higher t d d di th lik lih d f i l ti thstandard regarding the likelihood of implementing the

strategy.

Significant expenses to implement a tax-planning strategy or g p p p g gyany significant losses that would be recognized if that strategy were implemented (net of any recognizable tax benefits associated with those expenses or losses) shall be included in the valuation allowance.

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Positive examples

Sale-leaseback of operating assets Sale leaseback of operating assets

(Substitution Issue)

Sale of appreciated marketable securitiespp

Sale of loans with bad debt to reduce reversal period

Changing of filing methods – elect to file consolidated

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Examples that do not qualify

Sale of core assets

Cost reduction initiatives

Change of filing status from C corp. to S corp.

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Other positive evidence

Existing contracts or sales backlog

Appreciated asset value over tax value

Strong earnings history

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Negative EvidenceNegative Evidence

Examples of negative evidence

Cumulative losses in recent years (generally use a three-year

period)p )

History of operating loss or tax credit carryforwards expiring

unusedunused

Expectation of future losses

Contingencies with material adverse long-term affects

Short carryover periods

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Financial Statement Considerations

Recording and releasing a valuation allowance differ, based on how the deferred tax assets were recorded.– Operating activitiesOperating activities– Other comprehensive income (appreciation of securities in

current period)It is important to tag the deferred tax asset to which the valuationIt is important to tag the deferred tax asset to which the valuation

allowance relates, to verify that it reverses properly.– In some cases, an NOL created through stock option deductions

(APIC-related) is co-mingled with operating NOLs (P/L-related)(APIC-related) is co-mingled with operating NOLs (P/L-related). An election is available to deem which is assumed to be used first.

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Financial Statement Considerations (Cont.)

The valuation allowance for a particular jurisdiction will be allocated between current and non-current deferred tax assets on a pro-rata basis, determined by the ratio of current and non-current DTAs over total DTAs) (ASC 740-10-45-5).

In general, DTAs and DTLs are classified on the balance sheet asIn general, DTAs and DTLs are classified on the balance sheet as current or long-term, based on how the related assets and liabilities are classified for financial reporting purposes. If the DTA or DTL does not relate to a specific asset or liability, then it will be classified based on when the difference is expected to be realized.

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Business Combinations

• Acquired company’s establishment of a valuation allowance at acquisition– Recorded as part of purchase price accountingRecorded as part of purchase price accounting

• Acquired company valuation allowance subsequent to acquisition– Recorded through income tax expense Acquiring company V/A reduction caused by an acquisition• Acquiring company V/A reduction caused by an acquisition– Affects provision expense

• Acquiring company V/A increase caused by an acquisition– Affects provision expense

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Interim Considerations

ASC 740-270 approach for quarterly provisions– Annual projected effective rate

• Effect of valuation allowance• Effect of valuation allowance– Reduction in valuation allowance related to current-year

projected income increase is accounted for in the projected annual effective rateannual effective rate.

– Changes in judgment related to historic valuation allowance requirements are a discrete item accounted for in that period.

Judgments regarding recording or reversing valuation• Judgments regarding recording or reversing valuation allowances should be considered EVERY quarter.

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Disclaimer

The opinions and analyses expressed herein do not necessarily reflect those of WTAS LLC or any affiliate thereof. Any suggestions contained herein are general, and do notLLC or any affiliate thereof. Any suggestions contained herein are general, and do not take into account an individual’s specific circumstances or applicable governing law, which may vary from jurisdiction to jurisdiction and be subject to change.

No warranty or representation, express or implied, is made by WTAS LLC, nor doesNo warranty or representation, express or implied, is made by WTAS LLC, nor does the WTAS LLC accept any liability with respect to the information and data set forth herein. Distribution hereof does not constitute legal, tax, accounting or other professional advice. Recipients should consult their professional advisors prior to acting on the information set forth herein.acting on the information set forth herein.

© COPYRIGHT 2008 WTAS LLC ALL RIGHTS RESERVED.

No part of this presentation may be reproduced, stored in a retrieval system, or transmitted, on any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of WTAS LLC.

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TAX‐RELATED CHALLENGESMark Siegel, BDO USA

AGENDA FOR THIS SECTIONAGENDA FOR THIS SECTION• Overview/perspective/goals

D i i ff i • Determining effective tax rate

- Law changes

Taxes not based on net income- Taxes not based on net income

- Blended vs. separate rates

- ApportionmentApportionment

- Filing methodologies

• State net operating lossesp g

• Nexus

• Opportunities

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OVERVIEW/PERSPECTIVE/GOALSOVERVIEW/PERSPECTIVE/GOALS

Tax accounting is complicated with many standards and rules that • Tax accounting is complicated, with many standards and rules that must be applied.

• In addition to the provisions of ASC 740, thorough knowledge of 50 states’ income tax laws is required to properly report state income taxes.

• With the implementation of ASC 740-10 (formerly FIN 48), companies p ( y ), phave been forced to scrub their uncertain positions and effective rates like never before.

• State and local income tax issues require a lot of the time that • State and local income tax issues require a lot of the time that companies dedicate to addressing their tax accounting.

• This is a continuing process that never ends.

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DETERMINING EFFECTIVE TAX RATE: IN GENERALDETERMINING EFFECTIVE TAX RATE: IN GENERAL

Certain factors complicate the computation of an effective state tax • Certain factors complicate the computation of an effective state tax rate, including law changes, affiliated groups with many legal entities, the impact of non-income based taxes and apportionment formulae.

• Materiality must be considered.

• Different industries have different issues: Apportionment example.

• Review common complexities, and address

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DETERMINING EFFECTIVE RATE: LAW CHANGESDETERMINING EFFECTIVE RATE: LAW CHANGES

• Every quarter, new law changes must be considered in computing an effective tax rate.Th t h ff ti th t i l d St t t t • The most common changes affecting the rate include: Statutory rate, imposition of mandatory combined reporting, apportionment factor weighting, sales sourcing, sales or purchases of new entities, and NOL suspensionssuspensions.

• While all changes should be considered, most companies use a practical approach and choose to only incorporate material changes.

F l A ith l th 1% ti t i - For example: A company with less than 1% apportionment in Connecticut may not consider the 10% surcharge in its effective tax rate.

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DETERMINING EFFECTIVE RATE: LAW CHANGES DETERMINING EFFECTIVE RATE: LAW CHANGES EFFECTIVE IN 2011

• Statutory rates: Connecticut (10% surcharge) Illinois (9 5% until 2015) • Statutory rates: Connecticut (10% surcharge), Illinois (9.5% until 2015), Massachusetts (rate reduced to 8% by 2012), West Virginia (rate reduced to 6.5% by 2014)

• Apportionment: California (SSF election), Indiana (SSF), Minnesota (SSF phased in by 2014), Utah (SSF phased in by 2013)

• Combined reporting: District of Columbia

• Net operating loss limitations: California (suspended 2010-2011), Colorado (limited to $250k for 2011-2013), Illinois (suspended 2011-2014), Maine (suspended 2009-2011)

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DETERMINING EFFECTIVE RATE: NON-INCOME-DETERMINING EFFECTIVE RATE: NON INCOMEBASED TAXES

• Trend in states moving to non income based taxes to “maintain steady • Trend in states moving to non-income-based taxes to maintain steady revenue stream”: Texas (margin tax), Ohio (commercial activity tax), Michigan (modified gross receipts tax)

• Question as to whether these are considered “income taxes,” for purposes of ASC 740

• Depends on the nature of the tax computation and whether deductions are allowed,.

• Of the states imposing the above-mentioned taxes, Texas’ and Michigan’s are considered income taxes; Ohio’s is not.

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BLENDED VS SEPARATE ENTITY RATES: BLENDED VS. SEPARATE ENTITY RATES: IN GENERAL

• Many companies use a blended effective rate for their affiliated group and use that rate for all deferred balances.

• While this approach may be simple in practice, it can result in significant differences if separate entity deferred balances and significant differences if separate entity deferred balances and effective rates are not considered.

• Best practice: Use separate entity rates for separate reporting states and blended rates for combined reporting states.

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BLENDED VS SEPARATE ENTITY RATES: BLENDED VS. SEPARATE ENTITY RATES: NET OPERATING LOSSES

• Separate company, separate state NOLs are generally determined based on the apportionment in the state in which the NOL is being carried forward.

To the extent a deferred tax asset is recorded for separate state NOLs • To the extent a deferred tax asset is recorded for separate state NOLs, a separate entity effective tax rate must be recorded for that entity.

• If a company computes a blended effective state tax rate and applies it to all company deferred items, then the deferred tax asset may not be correctly valued.

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correctly valued.

BLENDED VS SEPARATE ENTITY RATES: BLENDED VS. SEPARATE ENTITY RATES: NET OPERATING LOSS EXAMPLE

• Facts

- A member of an affiliated group has a federal NOL of $1 million.

- It has 75% apportionment to Florida and 25% to Georgia.

- The affiliated group’s single blended rate is 5%, based on the company’s calculationscompany’s calculations.

• Result

- The same blended rate is used for all companies in the group: DTA for - The same blended rate is used for all companies in the group: DTA for state NOLs is $50,000 ($1m * 5% blended rate).

- A separate entity rate is used: DTA for state NOLs is $56,250 ($1m * 5 625 ff ti t )

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5.625 effective rate).

DETERMINING EFFECTIVE RATE: APPORTIONMENTDETERMINING EFFECTIVE RATE: APPORTIONMENT

• Regardless of whether a company uses the regular statutory apportionment formula, an industry specific formula or an alternative formula affects effective rates.

• Some states have a general formula but have elections to use alternative formulas.

• Sales sourcing is one of the most common items done incorrectly, and this affects apportionment.

• If apportionment is incorrect, so are NOLs and effective rates.

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DETERMINING EFFECTIVE RATE: DETERMINING EFFECTIVE RATE: FILING METHODOLOGIES

• Many states require or allow combined or consolidated reporting.

• Using the proper methodology ensures that apportionment and • Using the proper methodology ensures that apportionment, and therefore effective rates, are computed correctly.

• To determine whether filing methodologies are correct, you must know: What companies are included in a combined group whether a know: What companies are included in a combined group, whether a single or separate company apportionment is appropriate, whether income is combined on a pre- or post-apportionment basis, etc.

• Effective rates for combined reporting states are generally applied to deferred balances of the entire group, in addition to applying each company’s separate effective rates to its own deferred balances.

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NET OPERATING LOSSES/VALUATION ALLOWANCESNET OPERATING LOSSES/VALUATION ALLOWANCES

• If future taxable income is uncertain, then companies are required to offset their net operating losses with a valuation allowance.

• Common observation: Companies with full valuation allowances against their state NOLs don’t take the time to ensure the NOLs are correcttheir state NOLs don’t take the time to ensure the NOLs are correct.

• The true value of the NOLs should be reflected regardless of whether • The true value of the NOLs should be reflected regardless of whether there is a valuation allowance.

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NEXUSNEXUS

Nexus (i e activity creating a state’s right to impose tax) is commonly • Nexus (i.e., activity creating a state s right to impose tax) is commonly a company’s biggest exposure area.

• The likelihood of establishing nexus has increased with gross receipts taxes that are considered income taxes, and with the assertion of economic nexus.

• Compliance has become more difficult.p

• Having nexus in states where a company is not filing distorts income tax liability, because that liability is most likely shifted to those non-filing statesstates.

• Nexus deficiencies also could trigger a misstatement of NOL carryforwards.

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OPPORTUNITIESOPPORTUNITIES

• Reduce effective rate through use of alternative apportionment formulas and sales-sourcing

• Shift operations in high-tax states to entities with fewer deferred items

• Decrease valuation allowances by merging companies or shifting profitable businesses to entities with NOLsprofitable businesses to entities with NOLs

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OPPORTUNITIES: APPORTIONMENTOPPORTUNITIES: APPORTIONMENT

Some states have options/elections with respect to the apportionment • Some states have options/elections with respect to the apportionment formula used (e.g., California SSF election beginning 2011).

• Assumption of apportionment formula when election is available, and valuing of NOL DTAs (e.g., MO)

• Each state has specific rules for sourcing of sales from services and other sales of non-TPP items.

• Some states have combined or consolidated return elections that use a combined apportionment factor.

• A more favorable sales weighting, sourcing methodology or combined apportionment factor can reduce overall apportionment and therefore reduce a company’s effective state tax rate.

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OPPORTUNITIES: HIGH-TAX STATESOPPORTUNITIES: HIGH-TAX STATES

• Sample facts

- XYZ has a large deferred tax liability primarily related to depreciationXYZ has a large deferred tax liability primarily related to depreciation.

- XYZ has a high effective rate, because its operations are concentrated in State A, a high-tax state.

- XYZ has a subsidiary, ABC, that is in a net deferred tax asset position.

• Opportunity: Move State A operations to ABC to reduce XYZ’s deferred tax liability and increase ABC’s deferred tax assettax liability and increase ABC s deferred tax asset.

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OPPORTUNITIES: NET OPERATING OPPORTUNITIES: NET OPERATING LOSSES

• Sample facts:

- XYZ has state NOLs and a full valuation allowance due to its income XYZ has state NOLs and a full valuation allowance, due to its income projections.

- XYZ has a subsidiary, ABC, that is highly profitable.

• Opportunity: Merge ABC into XYZ

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DISCLAIMERDISCLAIMER

• To ensure compliance with Treasury Department regulations, we wish to inform you that any tax advice that may be contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax-related penalties under the Internal Revenue Service Code or applicable state or local tax law provisions or (ii) promoting, marketing, or recommending to another party any tax-related matters addressed herein.

• Material discussed in this presentation is meant to provide general information and should not be acted on without professional advice tailored to your firm’s i di id l dindividual needs.

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VALUATION‐RELATED Patrick Tuley, Porter Keadle & Moore

CHALLENGES

Show me (the asset)

Consistency in application Consistency in application

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Key areas to considerIs evidence objective or subjective?What is the process you utilize with evidence?▪ Weighting of evidenceOther factors to disclose▪ Key assumptions and estimates

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S f t bl i Sources of taxable incomeTaxable income in prior carryback year(s), if carryback is

permitted under the tax lawf ffFuture reversal of existing taxable temporary differences

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S f t bl i (C t ) Sources of taxable income (Cont.)Tax-planning strategies that would, if

necessary, be implemented to, for lexample:

▪ Accelerate taxable amounts to utilize expiring carryforwardsCh h h f bl▪ Change the character of taxable or deductible amounts from ordinary income or loss to capital gain or lossS it h f t t t t bl▪ Switch from tax-exempt to taxable investments

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Sources of taxable income (Cont.)( )Future taxable income exclusive of reversing temporary

differencesBoard or management endorsed budget as a starting pointg g g pIndicate operating trends/ratios that support projectionsIncorporate any strategic initiatives that affect the projectionsPlant closingsPlant closingsPersonnel reductionsRestructuringsOther cost cutting initiativesOther cost-cutting initiatives

Time horizon and weightingDifferent confidence levels/income scenarios

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Negative evidence (or lack thereof)C m lati e losses in recent earsCumulative losses in recent yearsA history of operating loss or tax credit carryforwards

expiring unusedL t d i l f t (b tlLosses expected in early future years (by a presently

profitable entity)Unsettled circumstances that, if unfavorably resolved,

would adversely affect future operations and profit levels onwould adversely affect future operations and profit levels on a continuing basis in future yearsA carryback or carryforward period that is so brief that it

would limit realization of tax benefits if (1) a significantwould limit realization of tax benefits if (1) a significant deductible temporary difference is expected to reverse in a single year, or (2) the enterprise operates in a traditionally cyclical business

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cyclical business

Negative evidence: Cumulative losses in recent yearsTh f l ti lThree years of cumulative losses▪ Pre-tax book income?▪ Other facts that may soften this evidence?Taxable income calculations, including current taxable income▪ Could at least present a lagging effect on the three-year

analysisCan you look at longer timeframes?Impact of going concern issuesImpact of goodwill impairmentp g p

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A history of operating loss or tax credit carryforwards expiring unusedunusedAre these limited to certain jurisdictions?

f f Unsettled circumstances that, if unfavorably resolved, would adversely affect future operations and profit levels on a continuing basis in future years

Limited carryback or carryforward periods

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Documentation/discussion requiredIf h ti l l ti llIf you have a partial valuation allowanceIf you are decreasing (or increasing) your valuation allowance

(whether at year-end or during an interim period)Provide rationale for instance:▪ Provide rationale, for instance:▪ Changes in estimates or assumptions▪ Changes in business operations

Ch i i t l f t▪ Changes in environmental factors

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Valuation allowance determinationRequires extensive judgmentDocumentation is a mustConsider all perspectivesAnticipate changes in circumstances/business environment

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