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TAXATION SUPPLEMENT
Taxation
Contents
Main types of taxation Corporate income tax and dividends Deferred taxation Transfer pricing Tax havens
Taxation as costs
Social Security charges
contributions from employer and employees contribution to pension schemes Private vs state pensions
Local/Regional Charges
Splitting corporate taxes: Municipality/council Regional political unit National Government
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Taxable profit
Reconciliation statement: Accounting profit before tax Add back: disallowed expenses Deduct: special tax allowances and non-taxable income = Taxable profit
Taxation of dividends
Problem of potential double taxation of dividends due to concurrent corporate and personal taxation Solutions:
Profits paid to shareholders are taxed at a lower rate than those retained in the company, or Tax credit on the dividend for shareholders
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Deferred taxation
Deferred taxes Income statement perspective on deferred taxes Balance sheet perspective on deferred taxes Presentation of deferred taxes in the financial statements
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Deferred taxes
Differences between objectives of measuring (accounting) profit for financial reporting purposes and basic tax raising motives of measuring taxable profit Accounting rules regarding income taxes:
Tax effects of transactions are recognised in the financial statements in the same period as the related business transactions themselves Current income tax cost (taxable profit * nominal tax rate) is only part of these tax effects
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Timing differences arise because the timing of income and expenses in the income statement occurs in different period from taxable profit Timing differences arise in one period and reverse in one or more subsequent periods
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Pre-tax profit of 20,000 in 2011 and 2012 and tax rate of 50 per cent
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Pre-tax profit
(includes depreciation expense)
2011 20,000
2012 20,000
Timing difference
(accelerated depreciation)
- 5,000
15,000 7,500
+ 5,000
25,000 12,500
Pre-tax profit
5,000 -10,000
15,000 7,500
+ 5,000 0
25,000 12,500
2012
20,000
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Deferred tax asset / liability is measured as the temporary difference multiplied by the tax rate (applicable when asset is realised or liability is settled)
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2012
5,000 0 -5,000 0 0 0 0 0 0
Reversal in 2012
Settlement of deferred tax liability Deferred tax income of 2,500
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Transfer pricing
Transfer prices are the prices at which goods and services change hands between subsidiaries of a group
Artificially fixing transfer prices is a way of determining where profits are taxed
Double tax treaties usually state that transfer prices must be at arms length or at market rates Intra-group charges (like royalties for use of intellectual property and interest charges) are also usually structured according to a tax treaty
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Tax havens
Tax havens typically offer low tax or flat rate tax for companies which are resident but whose activities are external to the haven (off-shore)
Frequently used by a MNC to provide international services (like finance, insurance) to the group Do not generally benefit from tax treaties with other countries
Costs are not negligible and substantial throughout is needed to create tax savings
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