Project Updates

Uncertain Tax Positions (Recognition of Tax Benefits)

Project Summary

Last Updated: June 20, 2006 (Updated sections are indicated with an asterisk *)

The staff has prepared this summary of Board decisions for information purposes only. Those Board decisions are tentative and do not change current accounting. Official positions of the FASB are determined only after extensive due process and deliberations.

Objective
Exposure Draft
*Decisions Reached at the Last Meeting
*Immediate Plans
*Summary of Decisions Reached
*Board Meetings/Public Meeting Dates
History and Background
Contact Information

Objective

The objective of this project is to clarify the criteria for recognition of tax benefits in accordance with FASB Statement No. 109, Accounting for Income Taxes. This project seeks to clarify what criteria must be met prior to recognition of the financial statement benefit of a position taken in a tax return.

Diverse accounting practices exist in the accounting for uncertain tax positions. Some entities recognize tax benefits for uncertain tax positions as they are filed on the income tax return; other entities recognize tax benefits for uncertain tax positions using gain contingency accounting; and finally other entities use a probable threshold to recognize tax benefits for uncertain tax positions. This project will result in more consistency in the reported amounts of income tax expense, and current and deferred tax assets and liabilities.

The Board’s plan in this project is to issue an Interpretation of Statement 109.

Exposure Draft

On July 14, 2005, the Board published the Exposure Draft, Accounting for Uncertain Tax Positions—an interpretation of FASB Statement No. 109 (Proposed Interpretation)

The 60-day public comment period for the proposed Interpretation ended on September 12, 2005. The target effective date for the proposed Interpretation is for fiscal years beginning after December 15, 2006. Earlier application is encouraged for periods for which financial statements have not been issued.

Comment Letter Summary Analysis

Comment Letters

*Decisions Reached at the Last Meeting

See the summary of decisions reached section for decisions made at the May 10, 2006, Board meeting.

*Immediate Plans

The Board will issue a final Interpretation, which will include amendments to Statement 109, by July 15, 2006.

*Summary of Decisions Reached

Beginning in November 2005, the Board redeliberated its decisions on the uncertain tax positions project. This section summarizes the Board’s decisions.

Scope

  1. The provisions of the final Interpretation will broadly apply to all tax positions taken by an enterprise.
     
  2. The Board will not specifically deliberate issues concerning the uncertainty over new legislation in this project.
     
  3. The term tax position includes a decision to exclude reporting income in a tax return or the decision to classify a transaction, enterprise, or other position in a tax return as tax exempt. 

Unit of Account

  1. The final Interpretation will not prescribe a specific unit of account to be used by an enterprise. Instead, the final Interpretation will indicate that the appropriate unit of account is a matter of facts and circumstances and should be based upon the manner in which the enterprise supports and documents its tax return and the level at which the enterprise’s issues are addressed with taxing authorities. 

Examination Risk

  1. An enterprise should presume that a taxing authority will examine a tax position when evaluating the position for recognition and measurement; therefore, consideration of the risk of examination is not appropriate. 

Initial Recognition and Measurement

  1. A benefit recognition model with a two-step approach, a more-likely-than-not recognition criterion, and a measurement attribute that measures the position as the largest amount of tax benefit that is greater than 50 percent likely of being ultimately realized upon ultimate settlement, will be adopted. In applying the provisions of the proposed Interpretation, there will be distinct recognition and measurement evaluations. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not, based on the technical merits, that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the appropriate amount of the benefit to recognize. The amount of benefit to recognize will be measured as the largest amount of tax benefit that is greater than 50 percent likely of being ultimately realized upon ultimate settlement.  The tax position should be derecognized when it is no longer more likely than not of being sustained.
     
  2. The following example illustrates the application of the Board’s tentative decision on measurement of uncertain tax positions as the largest amount of tax benefit that is greater than 50 percent likely of being ultimately realized. The example presumes the following:
     
    1. An enterprise takes a deduction in a tax return that results in a tax benefit of $100.
       
    2. The position is just more likely than not. In other words, it is only 50.1 percent likely based on the technical merits that the enterprise will prevail in litigation with the taxing authority.
       
    3. After the enterprise determines the position has met the recognition threshold, it estimates the following distribution of potential outcomes (after considering for example, prior history and the enterprise's and taxing authority’s settlement postures):
       
Amount of as filed tax position that management anticipates will be sustained
Percentage likelihood the tax position will be sustained
Cumulative probability the tax position will be sustained
$100
15%
15%
    80
20%
35%
    60
20%
55%
    40
30%
85%
    20
15%
100%
  1. Thus, in the example above, the Board’s current tentative decision would recognize the largest amount that is greater than 50 percent likely of being ultimately realized, which would be $60 (with a cumulative probability of 55 percent). However, the statistical mode, or single best estimate, is $40, which would have been recognized in the financial statements based on the Board’s previous decision.
     
  2. The final Interpretation will:
     
    1. Remove the recognition and measurement guidance relating to uncertainties in income taxes that predate or result from a purchase business combination from Question 17 of the FASB Special Report, A Guide to Implementation of Statement 109 on Accounting for Income Taxes
       
    2. Nullify the guidance in EITF Issue No. 93-7, “Uncertainties Related to Income Taxes in a Purchase Business Combination,” relating to uncertainties in income taxes that predate or result from a purchase business combination.
       

Subsequent Recognition, Derecongnition, Measurement and Changes in Judgment

  1. On subsequent recognition and measurement the largest amount that is greater than 50 percent likely of being realized at each reporting date will represent management’s best estimate given the information available at the reporting date, even though the outcome of the tax position is not absolute or final. Additionally, subsequent recognition, derecognition, and measurement should be based on new information.
     
  2. The guidance in APB Opinion No. 28, Interim Financial Reporting, and FASB Interpretation No. 18, Accounting for Income Taxes in Interim Periods, will apply in accounting for changes in judgments about the recognition and measurement of tax benefits during interim periods, unless other United States Generally Accepted Accounting Principles (U.S. GAAP) apply to the situation. 

Interest and Penalties

  1. A liability for interest or penalties or both will be recognized as deemed to be incurred based on the provisions of the tax law, that is, the period for which the taxing authority will begin assessing interest or penalties or both.
     
  2. The amount of interest expense recognized will be based on the difference between the amount recognized in the financial statements and the benefit recognized in the tax return. That estimate will not consider examination risk.
     
  3. The final Interpretation will not provide guidance on the classification of interest or penalties in the income statement. Enterprises will be required to:
     
    1. Establish a policy for classification of such amounts
       
    2. Disclose that policy in the summary of significant accounting policies
       
    3. Disclose the amount of interest or penalties or both recognized in the financial statements. 

Classification

  1. The liability recognized pursuant to the final Interpretation will be classified as a current liability to the extent that cash payment is expected to occur within 12 months or the operating cycle, if longer.
     
  2. The final Interpretation will not address classification and presentation issues that are currently addressed in Issue 93-7 regarding uncertainties in income taxes that predate or result from a purchase business combination in the final Interpretation. Those issues will be addressed in the Board’s joint project with the IASB on business combinations. 

Disclosures

  1. The final Interpretation will amend FASB Statement No. 5, Accounting for Contingencies, to exclude contingencies relating to income taxes, and require the following disclosures as part of the final Interpretation:
     
    1. A tabular reconciliation of the beginning and ending amount of unrecognized tax benefits in a manner similar to that prescribed in other recent guidance that addresses estimates with significant uncertainty
       
    2. For items in which it is reasonably possible that the estimate of the realized tax benefit for the tax uncertainty will significantly change in the next 12 months: 

        (1) The nature of the uncertainty

        (2) The nature of the event that could occur in the next 12 months that would cause the change

        (3) An estimate of the range of the reasonably possible change or a statement that an estimate of the change cannot be made

    3. A description of open tax years by major tax jurisdictions.
       
  2. The final Interpretation will require the following transition disclosures:
     
    1. The nature of the change in accounting principle
       
    2. The cumulative effect of the change on retained earnings in the statement of financial position as of the date of adoption. 

Transition and Effective Date

  1. The change in net assets as a result of applying the provisions of the final Interpretation will be considered a change in accounting principle with the cumulative effect of the change treated as an offsetting adjustment to the opening balance of retained earnings in the period of transition.
     
  2. The final Interpretation will be effective as of the beginning of the first annual period beginning after December 15, 2006. Earlier application is encouraged provided the enterprise has not publicly issued financial statements for the period of initial application. 

Other

  1. The final Interpretation will use the administrative practices and precedents concept. Administrative practices and precedents apply where there is broad understanding among taxpayers, tax practitioners, and taxing authorities that the authority will not take issue with a position, presuming the taxing authority has access to all the relevant information.
     
  2. The final Interpretation will not provide any differential recognition and measurement, disclosure (other than that which currently exists in Statement 109), or transition guidance for nonpublic enterprises, including not-for-profit entities.
     
  3. The Board directed the staff to proceed to a draft of a final Interpretation for vote by written ballot. 

*Board Meeting and Public Meeting Dates

The Board meeting minutes are provided for the information and convenience of constituents who want to follow the Board’s deliberations. All of the conclusions reported are tentative and may be changed at future Board meetings. Decisions become final only after a formal written ballot to issue a final Statement, Interpretation, or FSP.

The following are links to the minutes for each meeting.

*May 10, 2006 Board Meeting—Disclosure and Sweep Issues
March 1, 2006 Board Meeting—Measurement Issues—Application of the Best Estimate Measurement Attribute
January 11, 2006 Board Meeting—Subsequent Recognition and Measurement, Change in Judgment, Interest and Penalties, Classification, Transition, and Effective Date
November 22, 2005 Board Meeting—Scope and Accounting Model
October 24, 2005 Joint Board Meeting—Convergence
October 18, 2005 Comment Letter Summary
October 10, 2005 Roundtable
February 16, 2005 Board Meeting—Alternative Approaches to Account for Uncertain Tax Positions and Transition Alternatives
November 17, 2004 Board Meeting—Transition Date and Measurement Issues
September 23, 2004 FASAC Meeting Handout
July 27, 2004 Board Meeting—Recognition of Tax Benefits

History and Background

Diverse accounting practices have developed with respect to what level of confidence is required to recognize a tax benefit in an enterprise's financial statements for all transactions and has resulted in noncomparability of amounts of recorded tax assets and liabilities. For example, some issuers recognize tax benefits for all positions taken in tax returns and reduce any resulting deferred tax asset using a valuation allowance. Other issuers have identified a number of complex transactions and use gain contingency accounting to account for the tax benefits of those transactions. Accordingly, definitive guidance will reduce diversity in practice and make financial statements more representationally faithful and comparable.

Contact Information

Donald Thomas
Project Manager
dbthomas@fasb.org