Accounting Today - February 2011

Tax reporting vs. financial reporting
assurancenews

BY EDWARD R. JENKINS JR.

No, that’s not a typo. I am referring to the “tax GAAP,” an increasing difficulty in establishing and maintaining best practices regarding tax accruals arising from the headlong collision of taxation and financial reporting.

The pace of change in tax law and financial reporting has left the business of tax accruals a mess. Some companies try to migrate to software that integrates with general ledger systems and tax returns, but software vendors are struggling with the pace of change too. Some vendors have added financial reporting to remain competitive, but it certainly adds to their challenges. Many companies continue to rely on tax provision templates and general ledger downloads, but those “offline” processes are difficult to keep current, and even more difficult to audit. Throw in the constant changes in state income and franchise taxes, and the goal of a stable system seems like a cruel joke.

Let’s face it: Some companies continue to struggle with creating FASB Accounting Standards Codification 740 tax provisions. The reason is not rocket science: It is because of the dynamic status of tax law, the ever-chang-ing nature of reporting and auditing, and the constantly shifting business environment and economy. It’s tough to set up best practices when the system is constantly in flux.

Beware the tax GAAP.
Frequent changes in reporting rules have created chaos

TURBULENT ENVIRONMENT The pace of federal legislation that affects taxation has been breathtaking over the past few years. The states have been busy too, with a plethora of legislation and tax-framing court cases. Don’t forget foreign tax laws if your clients or company have foreign investments. Numerous regulations also have been issued (or sometimes worse, not issued) that imple-

Edward R. Jenkins Jr., CPA, is managing member of Jenkins & Co. LLC in Spring Grove, Pa., an instructor of business at Pennsylvania State University — York, and a member of the Pennsylvania CPA Journal Editorial Board. Reach him at erj2@psu. edu. Reprinted with permission from the Pennsylvania CPA Journal, a publication of the Pennsylvania Institute of CPAs.

ment and interpret legislation. Forms have been created with their related instructions; case law is still evolving with respect to earlier laws; and there is even talk of repealing laws recently passed.

When organizations are operating with lean staffing to reflect the challenging economy, accommodating that pace of change is nearly impossible. In addition to the general tumult of the tax environment, a few developments deserve special attention.

Consider Internal Revenue Service access to tax provision work papers. The IRS has always had access to the tax reconciliation work papers that reconcile the differences between balances in the financial statements and those on the tax return. The IRS had maintained a policy of restraint with respect to tax accrual papers, except in certain circumstances. That policy of restraint seemingly has changed. In IRS Announcement 2010-09, the IRS said that it had the right to compel the production of taxpayer risk assessments and reserve amounts, citing United States v. Arthur Young and a series of cases up to U.S. v. Textron Inc.

Also consider the migration from the “ realistic possibility” standard to the “more likely than not” standard for recording tax positions. American Institute of CPAs Statement of Standards of Tax Services No. 1 previously relied on the one-in-three likelihood embodied in the realistic-possibility standard. For tax return purposes, IRC Section 6662(d)( 2)(B) used a “substantial authority” standard that roughly correlated to 40 percent likely to be sustained. FASB Interpretation No. 48 initiated the “more likely than not” (greater than 50 percent) likelihood of being sustained for financial reporting purposes. That standard was low-hanging fruit for Congress, so IRC Section 6694 was modified to uphold the more-likely-than-not standard (Small Business and Work Opportunity Tax Act of 2007), and then back to the substantial authority standard (Tax Extenders and Alternative Minimum Tax Relief Act of 2008) to harmonize the tax preparer standard with the taxpayer standard.

If you combine a road map like that im-
posed by FIN 48/ASC 740 with legal precedent
established under case law, the inevitable
happens — Schedule UTP. IRS Announce-
ment 2010-9 stated that the IRS intended
to continue its restraint toward tax accrual
work papers, but it indicated a requirement to
disclose uncertain tax positions on Schedule
U TP. Once the IRS imposes these disclosures,
states surely will follow suit, perhaps with
some specific states requiring documenta-
tion on positions.

GASB UPDATES ‘BLENDED’
ENTITIES STANDARDS

NORWALK, CONN. — The Governmental Accounting Standards Board has issued revisions to its financial reporting entity standards to better account for business-type activities at government-run institutions such as state universities.

Statement No. 61, The Financial Reporting Entity: Omnibus, is designed to improve reporting for governmental entities by amending the requirements of Statements Nos. 14 and 34, which were issued in 1991 and 1999, respectively. The new standards aim to improve the information presented about the financial reporting entity, which comprises a primary government and related entities or component units. The amendments to the criteria for including component units allow statement users to better assess the accountability of elected officials by ensuring that the reporting entity includes only organizations for which the officials are financially accountable or that the government determines would be misleading to exclude.

In addition, the statement amends the criteria for blending — that is, reporting component units as if they were part of the primary government — in certain circumstances. The amendments to the criteria for blending will help ensure that the primary government includes only those component units that are so intertwined with the primary government that they are essentially the same as the primary government, and will clarify which component units have that characteristic.

For primary governments that are busi-ness-type activities reporting in a single column (for example, a state university), the new guidance for reporting blended component units will require condensed combining information to be included in the notes to the financial statements.

Lastly, the new requirements for reporting equity interests in component units help ensure that the primary government’s statements do not understate financial position and provide for more consistent and understandable display of those equity interests.