Deferred tax assets on unused tax losses
When a client may recognise a deferred tax asset for an assessed loss under IAS 12, what evidence the file should hold, and how to book or reverse it.
By Achekam · · 4 min read · For Accountants & audit firms in South Africa, Nigeria, Kenya
A client has made losses for several years. Its tax returns carry an assessed loss forward, and the director has read somewhere that tax losses are "an asset". Could the statements show a deferred tax asset for them and strengthen the balance sheet at a stroke?
Sometimes. IAS 12 allows it, but subject to conditions, and the very losses that create the asset are themselves evidence against recognising it.
Unused losses can create a deferred tax asset
Under IAS 12, a deferred tax asset arises if an entity will pay less tax when it recovers the carrying amount of another asset or liability, or if it has unused tax losses or unused tax credits. IAS 12 requires an entity to recognise a deferred tax liability or, subject to specified conditions, a deferred tax asset for all temporary differences, with some exceptions.
Unused losses sit slightly apart from temporary differences. IAS 12 defines temporary differences as differences between the tax base of an asset or liability and its carrying amount in the statement of financial position. A carried-forward loss has no carrying amount in the statements at all; it exists only in the tax computation. That is why IAS 12 names unused losses separately as a source of deferred tax assets.
For the current year, a loss-making client usually has little or no current tax to pay, measured under IAS 12 at the rates and laws enacted or substantively enacted by year end. The deferred tax question is about the years ahead.
Reading the conditions against the client's forecasts
IAS 12 attaches specified conditions to recognising a deferred tax asset, and the firm should read them in the standard itself rather than rely on a summary. In practice, the question that decides most files is whether the client will earn enough taxable profit, while the losses can still be used under the tax law, to absorb them.
That question has a hard edge for a loss-making client. The track record points one way and the director's forecast usually points the other. A reviewer will weigh:
- Why the losses arose. A one-off event, such as a fire or a lost contract since replaced, is different from a business model that has not yet worked.
- The forecast's credibility. Has the client met its forecasts before? Are the assumptions backed by signed contracts or only by optimism?
- Taxable temporary differences. Deferred tax liabilities that will reverse in the same periods may support the asset without relying on forecasts.
- The tax law's limits. Each country sets its own rules on carrying losses forward and using them against later profit. Check the current position with SARS, the NRS or KRA at the time of writing.
- Going concern. A client whose going concern is in doubt is a poor candidate for an asset that depends on future profits; see going concern disclosure.
Evidence a reviewer will ask for
- The tax computations and assessments showing the loss carried forward, by year.
- A forecast of taxable profit prepared and approved by management, covering the period over which the losses are expected to be used.
- Evidence for the main assumptions: contracts, orders, cost savings already achieved.
- A comparison of past forecasts with actual results.
- The calculation of the asset, showing how much of the loss is recognised and how much is not.
- Management's written representation on the forecast.
Booking, reversing or not booking the asset
Achekam's Financials Studio lets staff post a year-end adjusting entry for the deferred tax asset, debiting the asset and crediting the deferred tax line in profit or loss, with the working attached. A wrong adjusting entry is reversed with a record of who and why, never deleted.
Each year brings one of three outcomes:
- Recognise the asset, in full or in part, to the extent the conditions are met.
- Do not recognise it, and consider the disclosures IAS 12 asks for about unrecognised amounts.
- Reverse an asset recognised in an earlier year when the evidence no longer supports it, through the tax charge.
Partial recognition is common and sensible: the forecast supports using part of the loss within a reasonable horizon, and the rest stays unrecognised until the evidence improves. The mechanics of the wider deferred tax calculation are covered in working out deferred tax from temporary differences.
Automated review is advice, not a decision
Staff can run an automated review of a draft in Achekam that lists findings for a person to accept, resolve or dismiss. It is advice only and does not block signing. The Validation & Math Engine runs separate fixed, non-AI checks such as double entry and note ties.
A finding about the deferred tax asset is a prompt, not a conclusion. Whether to recognise the asset depends on evidence no automated check holds: the client's contracts, its history and management's plans. Resolve the finding by pointing to that evidence, or dismiss it with a reason a reviewer can read.
The IFRS Foundation's IAS 12 summary explains the accounting treatment for income taxes, including current and deferred tax.
Revisit the position every year, not only when the client asks. Circumstances change in both directions: a new long-term contract may justify recognising losses that were left out last year, and a lost customer may undo an asset that looked secure.
The best files on this topic are short and candid: here are the losses, here is why we believe they will be used, here is the part we are not yet confident about. A reviewer can work with that. What a reviewer cannot work with is an asset booked because the director asked for it.
General guidance only, not advice on your own circumstances. Tax and payroll rules change: check the current position with the authority or your adviser.
