An early implementation guide to accounting for uncertain tax positions.

• Author: Sellner, Mark A.

On July 14, 2005 the Financial Accounting Standards Board (FASB) published an Exposure Draft of a proposed Interpretation of FASB Statement No. 109, Accounting for Uncertain Tax Positions, to address what was perceived as significant diversity in practice in accounting for income taxes related to uncertain tax positions. (1) An early observation by tax and accounting practitioners was that implementation conceivably could require more effort by and resources of corporate tax departments than the requirements of section 404 of the Sarbanes-Oxley Act, relating to the documentation of internal controls.

As originally proposed, the Exposure Draft would have required a "probable" standard for recognition of tax benefits in the financial statements. FASB received 118 comment letters on the proposal. Tax Executives Institute, like many commentators, felt that the proposed Interpretation would be unduly complex, prove difficult to apply in practice, and result in systematic overstatement of tax liabilities. (2)

On November 22, 2005, FASB changed course and adopted a "more likely than not" standard to replace the original "probable" standard for tax benefit recognition. (3) Two months later, on January 11, 2006, FASB announced that the effective date of the final Interpretation will be the beginning of the first annual period beginning after December 15, 2006, or January 1, 2007, for calendar-year companies. (4)

Accounting for Uncertain Tax Positions

The proposed Interpretation, Accounting for Uncertain Tax Positions, defines a minimum recognition threshold that a "tax position" must meet to be recognized in a company's financial statements.

Tax Position

The proposed Interpretation defines tax position as an individual filing position in a previously filed tax return or an expected filing position reflected in measuring current or deferred income tax expense or benefit for interim or annual periods prior to filing a tax return. The term tax position also encompasses a decision not to file a tax return, a decision to exclude reporting a tax position in a tax return, or the choice made in reporting a transaction in a tax return. A tax position ordinarily would relate to a tax benefit, but could include failing to take an otherwise valid tax deduction.

Tax positions may result in tax benefits that either (a) reduce income tax expense and the associated income taxes paid or payable (including deferred tax liabilities) or (b) increase an income tax benefit and the associated income tax receivable, deferred tax asset, or income tax refund. A tax benefit can result from a permanent reduction of income taxes or the deferral of income taxes otherwise currently payable to future years.

The appropriate unit of account for a tax position is a matter of the individual facts and circumstances of that position evaluated in light of all available evidence. It is based on the manner in which a company manages its business, and on the financial and operational systems that are used to control the business. An example in the proposed Interpretation of four separate research projects states that the unit of account is the individual research project.

Confidence Threshold for Recognition

FASB Statement No. 109 does not explicitly prescribe a confidence threshold to be met for the benefit of an uncertain tax position to be recognized. FASB concluded that this absence of...