FASB Releases Proposed ASU Targeting Income Tax Disclosures

On March 15, 2023, the Financial Accounting Standards Board (FASB) published a proposed Accounting Standards Update (ASU), “Income Taxes (Topic 740): Improvements to Income Tax Disclosures,” aimed at providing greater transparency into entities’ global operations. The proposed amendments seek to enhance disclosures providing more useful information to users regarding the effective tax rate and statement of cash flows. In addition, the ASU addresses several other areas that had been previously exposed for public comment. These disclosure changes will provide for more extensive disclosure requirements as well as additional control considerations for Companies as they seek to implement.

RATE RECONCILIATION

Public entities

The ASU substantially expands out public company rate reconciliation reporting. Under the proposed update, public business entities will be required to disclose the following categories, within a tabular format, using both percentages and reporting currency amounts within their effective tax rate disclosure:

• State and local income tax, net of federal (national) income tax effect
• Foreign tax effects
• Enactment of new tax laws
• Effect of cross-border tax laws
• Tax credits
• Valuation allowances
• Nontaxable or nondeductible items
• Changes in unrecognized tax benefits

Furthermore, any reconciling items discussed below would be required to be separately broken out to the extent the impact is greater or equal to 5% of the amount computed by multiplying income (or loss) by the applicable statutory federal income tax rate. For entities parented in the U.S., this amount is effectively any item with an effect of 1.05% (21% US federal rate x 5%) or greater:

• If the reconciling item relates to the effect of cross-border tax laws, tax credits, and nontaxable or nondeductible items categories, it must be disaggregated by nature.
• If the reconciling item relates to the foreign tax effects category, it must be disaggregated by jurisdiction (country) and by nature.
• If the reconciling item does not fall within any of the categories listed in listed above, it must be disaggregated by nature.

Finally, public business entities will be subject to certain qualitative disclosures in addition to the quantitative disclosures noted above. These include:

• A description of the states and local jurisdictions that contribute to the majority of the effect of the state and local income tax category.
• An explanation of the nature, effect, and significant year-over-year changes on reconciling items if not otherwise evident.
• For interim purposes only, a narration of any reconciling items that result in significant changes in the estimated annual effective tax rate from the effective tax rate of the prior annual reporting period.

The proposed ASU provided the following public entity sample disclosures as an illustrative guide:

Private entities

Private entities are subject to less onerous reporting.  The entities are only required to include qualitative disclosures in their financials statements that describe the items noted above but are exempt from the requirement of providing the quantitative disclosures.

Private entity disclosure example:

The difference between Entity W’s effective tax rate and its statutory tax rate is primarily attributed to tax credits, state taxes, and foreign taxes. More specifically, the foreign tax effects of Entity W’s operations in Ireland had a decreasing effect on its effective tax rate, while the foreign tax effects of Entity W’s operations in France had an increasing effect on its effective tax rate. Entity W received federal research and development tax credits, which decreased its effective tax rate, while state taxes in California increased its effective tax rate.

A&M Insight: While the amount of time to prepare disclosures under the proposed ASU may take more time in the past, Companies ought to have this level of detail readily available.  Preparers of tax provisions should ensure that they are able to gather this information and start determining ways to appropriately disaggregate this within their existing provision models.

INCOME TAXES PAID

Under the existing codification, companies are required to disclose a single line item on their statement of cash flows enumerating the amount of cash paid for income taxes in a given reporting period. The proposed ASU provides for more granularity. Companies will be required to disaggregate cash paid (net of refunds received) for federal, state, and foreign taxes on both an annual and interim basis. Within the disaggregated line items, further disaggregation will be required to be made based on individual jurisdiction if the tax paid is 5% or more of the total balance of each category. The FASB’s proposed ASU subjects both public and private business entities to this change.

A&M Insight: Similar to the changes to the ETR, we expect Companies should generally have this level of detail available within their existing income tax provision schedules. Companies should ensure that they can readily produce this information to produce timely tax disclosures.

DISCLOSURES PREVIOUSLY EXPOSED FOR COMMENT

The proposed ASU incorporates items that have previously received public comment as part of its effort to improve disclosures surrounding income taxes:

• Requirement for all 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, state, and foreign.
• Elimination of the requirement for all entities to disclose:
• The nature and estimate of the range of the possible change in unrecognized tax benefits in the next 12 months and;
• An estimate of the range of the possible change or a statement that an estimate of the range cannot be made.

A&M Insight: These changes largely align the ASC 740 codification with existing SEC regulations. As such, we do not anticipate that these changes would result in additional work for tax departments. Further, the elimination of certain unrecognized tax benefits disclosures we view as positive as there was diversity in practice of reporting and the requirement generally would not provide meaningful information to the financial statement readers.

TRANSITION

In order to maintain comparability, the FASB has proposed that this ASU will be adopted on a retrospective basis. Therefore, companies will need to modify their comparative period disclosures to adjust for these changes in the period of adoption.

WHAT A&M Tax SAYS:

In contrast to prior simplification initiatives, the proposed changes to tax disclosures would require increased overall reporting efforts on behalf of companies and their advisors.  Companies should assess their reporting processes to ensure that they are proper systems in place to gather this information in preparation of  the final ASU upon adoption.

FASB encourages stakeholders to provide comments on the proposed ASU by May 30, 2023.

Please contact our experts if you have any questions on how these disclosure changes might impact your financial reporting process.