Hard times for deferred tax

Deferred tax assets are only assets if they are expected to generate an inflow of benefits.  In the current environment, impairments are hurting lots of companies; one of the World’s most high profile electronics giants included.

In January 2009, Hitachi Corp (New York and Tokyo listed) issued a statement aimed at warning capital markets about group’s intention to book a valuation allowance in the amount of 200 Yen billion against its deferred tax assets as at 31/03/09.

IAS 12 requires recognition of deferred tax assets (that is, “receivables” due from the tax authorities, as arising from the temporary deductible differences between the accounting and the tax bases of reporting entity’s assets and liabilities as at the reporting date) only if the reporting entity can prove recoverability of such assets, in the form of tax savings by reducing taxes payable in the future.  This is done by deducting calculated temporary deductible differences at the current reporting date from future expected taxable profits. If such future profits can no longer be reliably foreseen (and that is supposed to happen pretty often in economic downturn times, as it was with Hitachi’s case), any previously recognised deferred tax assets are impaired, with the consequent adverse effect on the entity’s reported net income for the year.  This makes bad times worse, as disappointing profits are made worse by tax asset write-offs.  Ouch.

As the columnist Paul Davis put it in the one of the September 2009 issues of the “American Banker” magazine, “’Deferred Tax Assets’ May Be Next Bottom-Line Hit”