Tax Allocation and Financial Reporting

Abstract

This paper considers the various treatments proposed for accounting for income taxes and the consequence of income taxes where assessable incomes and commercially calculated incomes diverge.Divergences have existed since the introduction of income taxation, but they have been given particular attention in the last twenty five years.The primary causes of divergence are provisions of the tax codes relating to depreciation and similar charges and the spreading of losses.We contend that the doctrine of deferred tax credits is unnecessary; that it has been supported on grounds which are inconsistent with well established principles;that it disregards the disclosure provisions of the laws relating to the fair representation, year by year, of what has transpired.We find that the deferred credit idea has obtained what popularity it has by default of argument, rather than on its merits; and that it rests mainly on the specious belief in the usefulness of annual income net of taxes as a guide to performance and prospects.We show that income tax is not an expense like other expenses; and that, to avoid confusion, it is better to treat it as an appropriation of net profits as determined by commerciaI accounting principles, than to treat it as other expenses.We claim that the deferred credit idea entails an implicit forecasting of future profits, which forecasting has long been considered improper among accountants.And we claim that to show deferred taxes as a liability does not fairly represent financial position, that it may be detrimental to present shareholders, and that it may be inimical to future loan financing and hence also to future shareholders.At the outset, it was our intention to cover the official statements, recommendations and cross argument of a number of countries; the United Kingdom, Canada, Australia and New Zealand as well as the United States of America.Substantially the same view, however, is expressed in the literature of these countries.It would have lengthened the analysis considerably to include the references and the particular forms of explanation or recommendation used.We have therefore chosen to limit the analysis to materials of the U S A . , without

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