Background
An entity’s income tax information remains critical for the users of financial statements in understanding how an entity’s operations, related tax risks, tax planning, and operational opportunities affect its tax rate and prospects for future cash flows. The users of financial statements currently rely on the rate reconciliation table and other disclosures, including total income taxes paid, to evaluate how an entity manages its income tax risks, including tax planning strategies and opportunities.
Currently, Topic 740, Income Taxes and SEC guidance in Regulation S-X 4-08(h)(2) (where applicable) prescribes disclosure requirements relating to reconciliation to statutory rate as applicable to reporting entities. It requires-
(a) A public entity shall disclose a reconciliation using percentages or dollar amounts of the reported income tax expense attributable to continuing operations for the year to the amount of income tax expense that would result from applying domestic federal statutory tax rates to pretax income from continuing operations.
(b) A non-public entity shall disclose the nature of significant reconciling items but may omit a numerical reconciliation.
To improve an entity’s income tax disclosure information in the financial statements and to address requests from the users of financial statements for greater transparency about income tax information, including jurisdictional information, the Financial Accounting Standards Board (“FASB” or “Board”), issued an Accounting Standards Update No. 2023-09 (ASU) on December 14, 2023. The ASU enhances annual income tax disclosures about the tax risks and opportunities in an entity’s worldwide operations. The two primary amendments resulting in incremental information include disaggregating existing income tax disclosures related to the effective tax rate reconciliation and income taxes paid. Further, this ASU also requires reporting entities to disclose Income (or loss) from continuing operations before income tax expense (or benefit) disaggregated between domestic and foreign, and Income tax expense (or benefit) from continuing operations disaggregated by federal (national), state, and foreign.
The amendments in this Update apply to all entities subject to Topic 740. Certain disclosures that are required by the amendments in this Update are not needed for entities other than public business entities (“PBEs”).
Highlights of amendments to Topic 740’s disclosure requirements
A. Enhanced disclosures relating to the rate reconciliation table and total income taxes paid.
The following summarizes the ASU’s new and enhanced annual income tax disclosure requirements for each period presented
- Effective Tax Rate Reconciliation
- Income Taxes Paid
B. Other amendments
- Other disclosures
- Disclosure no longer required
- Replacing public entity with PBE
Summary of the new guidance
A. Enhanced disclosures relating to the rate reconciliation table and total income taxes paid.
Guidance in the ASU
01. Rate reconciliation disclosures – PBEs
• The amendment in ASU requires PBEs to disclose, on an annual basis, tabular rate reconciliation (using both percentages
and reporting currency amounts) of (1) the reported income tax expense (or benefit) from continuing operations to
(2) the product of the income (or loss) from continuing operations before income taxes and the applicable statutory federal (national) income tax rate of the jurisdiction (country) of domicile1 using Specific categories with further
disaggregation based on a Specified Quantitative Threshold.
• Specific categories: The ASU requires using eight specific categories within the rate reconciliation table prescribed in ASC 740-10-50-12A(a).
(1) State and local income tax, net of federal (national) income tax effect
(2) Foreign tax effects
(3) Effect of changes in tax laws or rates enacted in the current period.
(4) Effect of cross-border tax laws
(5) Tax credits
(6) Changes in valuation allowances
(7) Nontaxable or nondeductible items
(8) Changes in unrecognized tax benefits.
• Further disaggregation based on Specified Quantitative Threshold:
– The quantitative threshold for certain designated categories {Specific categories item (2), (4), (5), and
(7)} requiring further disaggregation is 5%. That is, if the absolute value of the effect of the reconciling item is equal to or greater than the absolute value of 5% of the product of the income or loss from continuing operations before income tax and the applicable statutory federal income tax rate, the reconciling item must be separately disclosed. The FASB chose the 5% threshold to be consistent with the existing SEC requirement in Regulation S-X 4-08(h)(2).
– Reconciling item that does not fall into any specific category, the entity is required to disclose the reconciling item separately as an “other adjustment” in the tabular reconciliation if it meets the 5% threshold.
Rate reconciliation disclosures- Entities other than PBEs
The amendment in ASU requires entities other than PBEs to qualitatively disclose the nature and effect of the specific categories of reconciling items and individual jurisdictions resulting in a significant difference between the statutory and effective tax rates. The amendment does not require a numerical reconciliation consistent with existing guidance.
02. Disclosure for Income taxes paid-
• Existing guidance ASC 230-10-50-2, requires entities to disclose the total amount of income taxes paid during the period.
• The amendment in ASU requires all reporting entities to disclose the amount of income taxes paid (net of refunds received) disaggregated by federal (national) taxes, state taxes (i.e., those paid in the domicile country), and foreign taxes (i.e., includes both national, state, and local taxes paid within the foreign jurisdiction) for each annual reporting period presented.
• Further disaggregation based on Specified Quantitative Threshold: The amendment requires additional disaggregated information on income taxes paid (net of refunds received) to an individual jurisdiction equal to or greater than 5% of total income taxes paid (net of refunds received). An entity may identify a country, state, or local territory as an individual jurisdiction. The 5% quantitative threshold shall be applied by comparing (1) the absolute value of the net payment or net refund in each jurisdiction with (2) the absolute value of total income taxes paid (net of refunds received).
• Although the ASU requires disaggregation by jurisdiction for each annual period presented, it does not require disclosure of comparative information by jurisdiction for all years presented if quantitative threshold criteria for any particular year are not met. For example, suppose an individual jurisdiction is over 5% for the current annual period but did not meet the quantitative threshold in the prior annual period. In that case the income taxes paid for that jurisdiction in the prior annual period do not need to be disclosed currently.
B. Other amendments
Guidance in the ASU
03. The amendment in ASU requires that all reporting entities disclose the following information:
• Income (or loss) from continuing operations before income tax expense (or benefit) disaggregated between domestic and foreign, and
• Income tax expense (or benefit) from continuing operations disaggregated by federal (national)2, state or local, and foreign.
This disclosure requirement aligns with existing SEC guidance in Regulation S-X 4-08(h).
04. The amendment in ASU eliminates the following existing disclosure requirements in ASC 740:
• The nature and estimate of the range of reasonably possible increases or decreases in the unrecognized tax benefits balance in the next 12 months or to make a statement that an estimate of the range cannot be made. Because of the difficulty in predicting the changes reliably, the disclosure is no longer considered meaningful for the users of financial statements.
• The cumulative amount of each type of temporary difference for which a deferred tax liability has not been recognized because of the exceptions to comprehensive recognition of deferred taxes related to undistributed earnings of subsidiaries and corporate joint ventures.
05. The amendments in the ASU replace the term public entity, as currently used in Topic 740, with the term PBE, as defined in the Master Glossaryof the Codification.
Other application matters
(a) Materiality Considerations
ASC 105-10-05-06 states that the provisions of the Codification need not be applied to immaterial items. As concluded in the basis of the conclusion, the guidance in ASC 105-10- 05-6 about immaterial items also applies to the amendments related to this disclosure.
Therefore, the requirement to disclose-
• Reconciling items by specific categories with further disaggregation of reconciling items based on applying a quantitative threshold does not apply to immaterial items, even if the quantitative threshold is met.
• The income taxes paid for any jurisdiction (whether federal, state, or foreign groupings or individual jurisdictions) do not apply to immaterial items even if the quantitative threshold is met.
(b) Effective date and transition
• For PBEs, the amendments in ASU are effective for annual periods beginning after December 15, 2024. For non-PBEs, the amendments in ASU are effective for annual periods beginning after December 15, 2025.
• The amendment in ASU applies on a prospective basis. However, retrospective application in all prior periods presented is permitted.
