ASC 740 and SSAP No. 101: Key Points for Income Taxes

ASC 740 (GAAP) – Key Points

  • Purpose: accounting for income taxes using an asset and liability approach; current year taxes plus future tax consequences of events reported in financial statements.
  • History & evolution:
    • APB 11 -> SFAS 96 -> FAS 109 -> ASC 740 (codification of FAS 109).
    • Major shift from matching current-year pretax income to recognizing the expected future tax consequences of temporary differences (balance sheet approach).
  • Objectives of ASC 740:
    • Recognize current taxes payable/refundable for the year.
    • Recognize deferred tax assets and liabilities for the future tax consequences of events recognized in financial statements or tax returns.
  • Scope: taxes currently payable and consequences of differences between book and tax bases, including carrybacks/carryforwards; excludes certain taxes (e.g., franchise taxes based on capital with no income base).
  • Basic principles (4):
    1) Current tax liability/asset for current year.
    2) Deferred tax asset (DTA) or deferred tax liability (DTL) for temporary differences and carryforwards; measured using enacted rates; DTAs require consideration of future realization (probability).
    3) Measurement based on enacted tax laws; effects of future changes in tax laws/rates are not anticipated in measurement (recognized when enacted).
    4) DTA is reduced by a valuation allowance if it is not more likely than not that benefits will be realized. Threshold: more likely than not ≫ >50% probability.
  • Temporary differences ( TDs ) & carryforwards:
    • Difference between tax basis of an asset/liability and its financial statement carrying amount that will reverse in a future period.
    • Can be taxable temporary differences (DTLs) or deductible temporary differences (DTAs).
    • Examples (types): revenue/expense timing differences, accelerations in depreciation, and other basis differences.
    • Some items are not considered temporary differences (APB 23 differences) and may not give rise to a DTL in some cases.
  • Measurement details:
    • Use enacted tax rates applicable to the period when reversing (the rate in effect when the temporary difference reverses).
    • Discrete measurement; changes in tax laws/rates are recognized in income in the period of enactment.
    • DTAs are reduced by a valuation allowance if realization is not more likely than not.
  • Balance Sheet Approach (the core):
    • Compare book and tax balance sheets to determine the amount of income taxes payable or recoverable for future differences.
    • Apply tax rates to cumulative temporary differences and carryforwards; consider valuation allowances.
    • Net DTAs/DTLs can be presented, but often shown as gross with a valuation allowance.
  • Permanent differences:
    • Do not reverse (e.g., tax-exempt interest, DRD, penalties).
    • Only affect current tax expense and current payable; not DTAs/DTLs.
  • Identifying temporary differences:
    • Build tax bases of assets and liabilities in each jurisdiction; review schedules (e.g., M-3) and tax records to capture all bases and gaps.
    • Distinguish between assets/liabilities that exist for tax purposes but not for book purposes and vice versa.
  • Intraperiod tax allocation (GAAP):
    • Allocate income tax expense/benefit among continuing operations, discontinued operations, extraordinary items, and items charged to equity.
    • Prioritize allocation to continuing operations, then allocate remaining to other components in proportion to their tax effect.
  • Interim financial reporting (ASC 740):
    • Use estimated annual effective tax rate to compute year-to-date tax provision.
    • Exclude effects of unusual or extraordinary items from interim estimates.
    • If changes in tax law occur, adjust DTAs/DTLs in period of enactment.
  • Disclosures (GAAP):
    • Components of current and deferred taxes, valuation allowances, carryforwards, rate reconciliations, and tax contingencies.
  • Illustrative framework (Exhibits):
    • Exhibit 16-3: classification of temporary differences and tax rates.
    • Exhibit 16-4 to 16-5: timing, measurement, and interim rate examples.
    • Exhibit 16-6: illustrative tax footnote disclosures.
  • SSAP No. 101 (Statutory) – Objective/Scope:
    • Establish statutory accounting principles for current and deferred federal/foreign income taxes for insurers.
    • SSAP No. 101 adopts ASC 740 concepts but with statutory modifications (state taxes, admissibility, nonadmitted assets, etc.).
  • SSAP No. 101 vs ASC 740 – key differences:
    • DTA realization: SSA uses statutory valuation allowance (SVA) on a separate company basis; realigned with statutory limits; may defer realization in surplus through SVA.
    • DTAs/DTLs are recognized as a separate surplus item for statutory purposes; not all DTAs are expensed in income.
    • State taxes: included differently (not in the same way as federal, often treated via SSAP 5R).
    • Nonadmitted assets: certain assets can create temporary differences that may affect DTAs/DTLs.
    • Some ASC 740 features not applicable to insurers; SSAP 101 includes intercompany tax allocation rules and tax sharing agreements.
  • Admissibility of DTAs under SSAP No. 101:
    • Three-part test (Paragraph 11):
    • 11.a: hypothetical carryback/recoverability under zero future income; determines recoverable amount.
    • 11.b: with/without test to determine whether future reversals would reduce taxes in the reversal window (RBC-based window: 3 years for >300% Ex-DTA RBC, 1 year for 200–300%, 0 years for <200%). Admitted DTA is limited (e.g., 15% of ACS for high RBC groups; 10% for 200–300%).
    • 11.c: offsetting DTAs and DTLs (character matters; capital DTAs may not offset ordinary DTLs).
    • Admissibility depends on RBC and surplus restrictions; not all gross DTAs are admitted.
  • Valuation allowance under SSAP 101:
    • A statutory VA adjustment reduces gross DTAs to the amount more likely than not to be realized; determined on a separate company basis and prior to admissibility testing.
    • Positive and negative evidence are weighed; planning strategies can be considered as positive evidence if prudent/feasible.
  • Tax planning strategies (SSAP 101):
    • Consider prudent, feasible strategies that would realize DTAs; may be used to support realization but not to reduce DTAs via non-admissibility.
    • Significant planned costs may affect the valuation allowance.
  • Intercompany tax transactions (SSAP 101):
    • Requires economic transactions, written tax allocation agreements, and ASC 740-based accounting with modifications.
  • Disclosures (SSAP 101):
    • Replaces some GAAP disclosures with statutory discharge requirements; includes nonadmitted DTAs, and specific statutory footnote disclosures.
  • Comprehensive example framework (Exhibits 16-7 to 16-9):
    • Demonstrates reversal patterns, admissibility testing, and statutory footnote disclosures.
  • Practical takeaway:
    • GAAP: focus on reliable measurement of DTAs/DTLs using enacted tax rates and valuation allowances; interperiod allocation and interim reporting are integral.
    • Statutory (SSAP 101): incorporate ASC 740 concepts with statutory modifications (admissibility, VA, nonadmitted assets, and surplus impact).
  • Quick formulas to remember:
    • DTA/DTL measurement: extDTAs/DTLs=extTemporarydifferencesimesextEnactedtaxrateatreversalext{DTAs/DTLs} = ext{Temporary differences} imes ext{Enacted tax rate at reversal}
    • Net tax asset/liability: ext{Net DTA/DTL} = ig( ext{Total DTAs}ig) - ig( ext{Total DTLs}ig)
    • Valuation allowance (concept): extNetDTA=extGrossDTA−extVA(ifrealizablenotmorelikelythannot)ext{Net DTA} = ext{Gross DTA} - ext{VA (if realizable not more likely than not)}
    • More likely than not: P( ext{realization}) > 0.5
    • Interim tax provision (ASC 740): extCurrenttaxprovision=extEstimatedannualrateimesextYear−to−datepretaxincomeext{Current tax provision} = ext{Estimated annual rate} imes ext{Year-to-date pretax income}
    • Intraperiod tax allocation (GAAP): allocate tax to continuing ops first, then to other items in proportion to tax effects.

SSAP No. 101 – Key Points (brief)

  • Objective: recognize current and deferred income taxes for insurers; includes DTA/DTL concepts but with statutory adjustments.
  • Major differences from ASC 740:
    • DTA realization is adjusted by statutory valuation allowance and admitted per 11.a/11.b/11.c processes.
    • Deferred tax expense is recognized as a component of surplus, not in the income statement.
    • State taxes treated differently; nonadmitted assets are part of the measurement framework.
  • Balance sheet approach retained, but with statutory balance sheet vs tax basis comparisons; grouping choices and net vs gross presentation allowed.
  • Admissibility framework governs how much of gross DTAs can be admitted to surplus; RBC windows constrain reversals.
  • Intercompany and disclosures align with statutory reporting, including nonadmitted DTAs and statutory footnotes.
  • Practical takeaway: SSAP 101 integrates ASC 740 concepts into statutory accounting with important restrictions on DTA realization and surplus impact.

Quick recall tips

  • DTS/DTL concepts: temporary differences that reverse in future periods create DTAs/DTLs; only realized benefits are recognized.
  • Threshold: more likely than not (greater than 50%) for realizing DTAs.
  • Valuation allowances reduce DTAs to the realizable amount; separate company basis in SSAP 101.
  • Interim periods use annual estimated rate; GAAP vs statutory treatments differ in where tax effects are recognized (income statement vs surplus).
  • SSAP 101 uses a three-part admissibility test for DTAs; RBC-based reversal windows limit how much can be admitted.
  • Permanent differences affect current tax expense but do not reverse.
  • Intercompany tax allocations require written agreements and accounting to reflect ASC 740 with modifications.