FIN 48 and Your Construction
Company’s Financial Statements
Like other businesses that prepare
financial statements in accordance with generally accepted accounting
principles (GAAP), construction firms need to become familiar with a new
accounting pronouncement known as “FIN 48.” The Financial Accounting
Standards Board (FASB) issued FIN 48, Accounting for Uncertainty in Income
Taxes, to interpret Statement of Financial Accounting Standards (SFAS) No.
109, Accounting for Income Taxes. The new accounting guidance applies to all
types of entities, including C corporations, pass-through entities such as S
corporations and partnerships and real estate investment trusts.
Overview
Very generally, FIN 48 establishes the accounting for uncertain “tax
positions” taken on a company’s tax returns and addresses how those
positions are to be reflected in the financial statements. The scope of the
pronouncement is extremely broad—FIN 48 governs the accounting for all
material income-tax return positions taken (or which will be taken) that are
reflected in measuring current or deferred income-tax assets and liabilities
for interim and annual periods.
Since federal, state and local tax laws are highly complex, many issues can
arise in preparing a tax return, including issues related to income
recognition, the allocation of income among taxing jurisdictions and the
deduction of expenses. Even the decision not to file an income-tax return in
a particular state is a tax position that must be evaluated in the context
of FIN 48.
The Nuts and Bolts of FIN 48
Meeting the complex requirements of FIN 48 will require businesses to
determine and assess all material positions taken on their income-tax
returns as of the date they adopt FIN 48, including uncertain positions, in
all tax years that remain subject to assessment or challenge by the tax
authorities.
According to FIN 48, businesses must undertake a two-step process in
evaluating a tax position:
Recognition: A business must determine whether it is “more likely than not”
that a tax position will be upheld upon examination of its technical merits,
including any related appeals or litigation. As part of this process, the
business should always assume that the appropriate taxing authority—operating with full access to and knowledge of all relevant information—will examine the position. If a tax position doesn’t meet the
more-likely-than-not threshold, no tax benefit from the position may be
reflected in the financial statements.
Measurement: If a position meets the more-likely-than-not recognition
threshold, it must then be measured to determine the amount of the benefit
to recognize in the statements. The business has to measure the tax position
based on the largest amount of tax benefit that is more than 50% likely to
be realized upon final settlement with a taxing authority that has full
knowledge of relevant tax information.
Differences between tax positions taken on a company’s tax returns and
amounts recognized in its financial statements will typically result in an
increase in a liability for income taxes payable, a reduction in an
income-tax refund receivable, a reduction in a deferred tax asset or an
increase in a deferred tax liability.
Ongoing compliance with FIN 48 will require businesses to track their tax
positions based on any new information that may become available. This
includes monitoring tax laws and court decisions (typically with the help of
the company’s professional advisors) to determine if changes or new laws
could alter the recognition or the measurement of a tax position.
Interest and Penalties
A business must accrue interest and penalties that, under relevant tax law,
would be incurred if an uncertain tax position were rejected. Under FIN 48,
interest would begin accruing for financial statement purposes in the period
in which it would begin accruing under relevant tax law. Any applicable
penalties generally would be accrued in the first period in which the
business claims or expects to claim the position on its return.
Disclosures
FIN 48 requires a reconciliation of the total amounts of unrecognized tax
benefits at the beginning of the period to the total amounts of unrecognized
tax benefits at the end of the period. Other disclosures required by FIN 48
include:
-
Total amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate
-
Total amounts of interest and penalties recognized in the statement of operations and in the statement of financial position
-
For positions in which there is a reasonable possibility that the total amounts of unrecognized tax benefits will significantly increase or decrease within 12 months of the reporting date:
(1) The nature of the uncertainty
(2) The nature of the event that could occur in the next 12 months that
could cause the change
(3) An estimate of the range of the reasonably possible change or a
statement that an estimate of the
range can’t be made
-
A description of tax years that remain subject to examination by major tax jurisdictions
Action Steps
For public companies, FIN 48 became effective for fiscal years beginning after December 15, 2006. The date for implementing FIN 48 requirements for private companies and nonpublic pass-through entities was recently delayed. Private firms not already implementing FIN 48 will have to comply for periods that begin after December 15, 2007. Implementing the requirements of FIN 48 may require a review of:
-
Accounting policies
-
Prior year financial statements for open tax years
-
The results of prior income-tax audits
-
Tax returns for all tax years where the statute of limitations has not expired
-
Detailed trail balances for all legal entities for all open tax years
-
All major acquisitions and dispositions in open tax years
Please contact us with questions regarding FIN 48 and to discuss its potential impact on your contracting firm’s financial statements.
Work-In-Process is provided by
Somerset for our clients and other interested persons upon request.
Since technical information is presented in generalized fashion, no
final conclusion on these topics should be made without further review.
For additional information on the issues discussed,
please contact
Ken
Hedlund,
Jay Feller,
Steve George,
Chris
Mayfield or
Rebecca Ogle
of our
Construction & A/E Team.
This document is not intended or written to be used, and cannot be used,
for the purpose of avoiding tax penalties that may be imposed on the
taxpayer.
Somerset CPAs,
P.C.
3925 River Crossing Parkway, Third Floor
Indianapolis, Indiana 46240
317.472.2200 • 800.469.7206 • FAX 317.208.1200
www.somersetcpas.com
