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Tax Law May Lead to Changes in U.S. GAAP

The FASB plans to discuss at its upcoming meeting whether it needs to make a change to its accounting standard for income taxes to minimize the effect on reported earnings from the Tax Cuts and Jobs Act. The FASB also plans to discuss several implementation questions about applying the new tax law to its guidance for income tax accounting.

The FASB at its first meeting of 2018 plans to address the financial reporting ramifications for one of the top headlines from 2017 — tax reform.

The board at its January 10, 2018, meeting plans to discuss whether the overhaul of the U.S. tax code necessitates updates to Topic 740, Income Taxes . Signed into law by President Donald Trump on December 22, 2017, the Tax Cuts and Jobs Act reduces the corporate income tax rate from 35 percent to 21 percent, among other changes.

Topic 740 requires businesses to adjust the value of deferred tax assets and liabilities upon enactment of a change to the tax code. Changes must be presented in current earnings, even when the corresponding deferred taxes relate to items presented in accumulated other comprehensive income. Items such as pension adjustments, gains or losses on cash flow hedges, and foreign currency translation adjustments, are typically recorded in other comprehensive income.

In recent weeks, banks and insurers have raised alarm bells to the FASB about the consequences of adjusting such deferred assets and liabilities in current earnings.

Businesses in financial services are especially concerned about the deferred taxes because net income is used to determine regulatory capital — totals required to meet laws about liquidity and stability. Banks’ regulatory capital typically excludes items recorded in other comprehensive income.

Banks and insurance companies hold sizeable investment portfolios and have significant unrealized gains and losses recorded in other comprehensive income, the American Council of Life Insurers wrote to the FASB. Comerica Inc. also told the FASB that the bank held $252 million in deferred tax assets, of which $206 million pertained to items originally recorded in other comprehensive income.

Given the magnitude of the tax rate change, the adjustments could have a significant effect on many companies’ financial position.

“I would say it is going to create a big dent, if you wish, or one-time noise and disconnect in what they have in OCI and the balance sheet. It’s a big adjustment,” said BDO USA LLP National Assurance Partner Yosef Barbut. “For certain industries, their deferred tax inventory is fairly significant. This could be a big number for them.”

The American Bankers Association, some banks, and several insurance trade groups called on the FASB to allow the use of “backwards tracing,” which would let businesses use OCI to record the effect of the tax rate change on the items in OCI.

“This is an unprecedented time in U.S. tax history, and the magnitude of the ‘dangling debits and credits’ that will remain in AOCI due to a significant reduction in the U.S. corporate tax rate requires immediate modification and clarification in the accounting guidance on the part of the FASB,” the American Council of Life Insurers wrote to the accounting board.

If the FASB agrees to make a change, it will have to float a proposal for public comment before making the final update to U.S. GAAP.

In addition to the issues raised by bankers and insurers, the FASB plans to discuss several questions it received about the application of Topic 740 to the new tax law’s provisions.

The board plans to discuss whether to require businesses to record the liability associated with the law’s “deemed repatriation” in today’s dollars, a common financial calculation called discounting. The tax law levies a one-time tax on accumulated foreign profits. The FASB also plans to discuss whether alternative minimum tax (AMT) credits that become refundable should also be discounted.

In addition, the FASB plans to discuss how to apply Topic 740 to accounting for the base erosion anti-abuse tax and accounting for global intangible low-taxed income.

Finally, the FASB plans to discuss the applicability of SEC Staff Accounting Bulletin (SAB) No. 118, (Topic 5.EE), Income Tax Accounting Implications of the Tax Cuts and Jobs Act, by private companies and not-for-profit organizations. Shortly after the law was signed by President Trump, FASB Chairman Russell Golden said the accounting board’s initial concern had to do with the law’s effect on private companies. SEC Staff Accounting Bulletins are addressed to public companies, but privately held businesses often apply the guidance in them.

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