23 June 2016
What is the logic behind the Initial Recognition Exemption? When any land is purchased and recorded in the books, it does not affect both accounting profit and taxable profit. So, can it be considered that no DTA/DTL is to be created on it?
01 August 2024
### Initial Recognition Exemption (IRE) in Ind AS 12
The Initial Recognition Exemption (IRE) is a concept in Ind AS 12, "Income Taxes," which states that deferred tax assets (DTAs) or deferred tax liabilities (DTLs) should not be recognized at the time of initial recognition of an asset or liability in certain circumstances. Here's an in-depth look at the logic behind this exemption and its application:
#### **Logic Behind the Initial Recognition Exemption (IRE)**
The IRE aims to prevent the recognition of deferred taxes that would otherwise arise on the initial recognition of an asset or liability in cases where the transaction does not affect either accounting profit or taxable profit at the time of recognition. The primary rationale includes:
1. **Avoidance of Complexity and Confusion:** - The exemption simplifies the accounting for deferred taxes, avoiding the need to recognize a DTA or DTL when an asset or liability is first recognized, which would otherwise create unnecessary complexity.
2. **Relevance of Timing Differences:** - Timing differences that arise on initial recognition often do not reflect meaningful economic events. Recognizing deferred taxes on such differences may not provide useful information to the users of financial statements.
3. **Consistency with the Matching Principle:** - It aligns with the matching principle by avoiding the recognition of deferred taxes where no actual timing difference affects the accounting and taxable profits.
### **Application to Specific Scenarios**
#### **Land Purchase:**
When land is purchased and recorded in the books, it typically does not affect either accounting profit or taxable profit at the time of recognition. Here's how it applies:
- **Accounting Profit:** - The cost of the land is capitalized and not expensed immediately, so it does not affect the accounting profit at the time of purchase.
- **Taxable Profit:** - The purchase cost of the land is generally not deductible for tax purposes immediately, so it does not affect taxable profit at the time of purchase.
Since neither accounting profit nor taxable profit is affected at the time of initial recognition, no DTA or DTL is created. This aligns with the IRE, which exempts such initial recognition from deferred tax accounting.
#### **Investments:**
The treatment of investments can vary, but similar logic applies:
- **Initial Recognition:** - When investments are initially recognized, they are often recorded at cost. The initial recognition typically does not affect accounting profit or taxable profit.
- **Subsequent Measurement:** - Changes in the fair value of investments or impairment losses might lead to temporary differences in the future, which could result in recognizing DTAs or DTLs at that time. However, initial recognition does not trigger such differences.
### **Conclusion**
The Initial Recognition Exemption (IRE) under Ind AS 12 is designed to simplify the accounting for deferred taxes by avoiding the recognition of DTAs or DTLs on initial recognition of assets and liabilities when such recognition does not affect accounting profit or taxable profit. This rationale helps in maintaining the relevance and clarity of financial statements.
In the case of purchasing land or making investments, since the initial recognition typically does not impact accounting or taxable profits, no deferred tax is recognized at that stage, aligning with the logic of the IRE.
CAclubindia
