A company has taken a tax position on its return that its tax advisors believe has approximately a 55 percent chance of being sustained on examination by the taxing authority, based on the position's technical merits. Under ASC 740, and separately under IFRIC 23, how does this likelihood affect whether and how much of the related tax benefit is reflected in the financial statements?
- Both ASC 740 and IFRIC 23 apply the identical two-step framework, first requiring a more-likely-than-not recognition threshold and then measuring the benefit using only the most likely amount method
- Under IFRIC 23, the benefit is recognized only once it becomes probable, defined the same way as ASC 740's more-likely-than-not threshold, that the taxing authority will accept the position
- Under ASC 740, the position's technical merits are irrelevant, since only the amount of cash tax actually paid determines what is recognized; under IFRIC 23, no benefit can ever be recognized before the statute of limitations expires
- Under ASC 740, because the position exceeds the more-likely-than-not recognition threshold, a benefit is recognized and then measured as the largest amount more than 50 percent likely of being realized; IFRIC 23 does not apply this two-step recognition threshold at all, instead requiring the effect of the uncertainty to be reflected using whichever of the expected value or most likely amount method better predicts the resolution
Why D? And why not the others?
Correct answer: D. Under ASC 740, because the position exceeds the more-likely-than-not recognition threshold, a benefit is recognized and then measured as the largest amount more than 50 percent likely of being realized; IFRIC 23 does not apply this two-step recognition threshold at all, instead requiring the effect of the uncertainty to be reflected using whichever of the expected value or most likely amount method better predicts the resolution
Under ASC 740, a tax benefit is recognized only if it is more likely than not, meaning a likelihood of more than 50 percent, that the position will be sustained on its technical merits; because 55 percent clears that threshold here, the entity recognizes a benefit and then measures it as the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement, a distinct second step from the recognition decision. IFRIC 23 does not use this two-step more-likely-than-not recognition gate at all: whenever there is uncertainty over how a tax treatment will be resolved, the entity reflects the effect of that uncertainty in its taxable profit, tax bases, unused losses, or tax rates by using whichever of the expected value method, a probability-weighted average of possible outcomes, or the most likely amount method better predicts the resolution of the uncertainty, without first asking whether a 50 percent-plus threshold has been cleared. The option asserting an identical two-step, most-likely-amount-only framework under both standards is wrong because IFRIC 23 has no recognition threshold step and allows either measurement method depending on which better predicts the outcome. The option describing IFRIC 23's threshold as matching ASC 740's more-likely-than-not test is wrong because IFRIC 23 does not impose a binary recognition threshold before reflecting the uncertainty at all. The option claiming technical merits are irrelevant under ASC 740 and that IFRIC 23 waits for the statute of limitations is wrong because ASC 740's entire recognition test turns on the position's technical merits, and IFRIC 23 requires reflecting uncertainty in the current period rather than deferring recognition until the statute of limitations expires.
Source: FASB Accounting Standards Codification ASC 740-10-25 and ASC 740-10-30 (more-likely-than-not recognition threshold; measurement at the largest amount more than 50 percent likely of being realized); IFRS Interpretations Committee, IFRIC 23 Uncertainty over Income Tax Treatments, paragraphs 9-11 (measurement using the expected value or most likely amount method)