Accounting Final Notes 3120

Session 1: Chapter 12

Liabilities:
- Characteristics of a liability:
o Expected future sacrifice of assets or services
o Present and unavoidable obligation
o Result past transaction or event
- Legal vs constructive obligation
- Constructive – “past pattern or established policy”

Categories Liabilities:
- Financial liabilities
o Financial instrument
- Non-financial liabilities: Provision
o Unearned or deferred revenue
o Warranty liability

Financial Liabilities
- Financial instrument
- “Any contract that gives rise to financial asset of one party and a financial liability or
equity instrument another party”
- Financial liability
- “Any contract that gives rise to a financial liability of one party and a financial asset of
another party”

Financial Liabilities – Categories

- Other Financial Liabilities (most)
o Recorded at fair value initially at the “PV future cash payments discounted
market interest rate”
o Debt of similar term & risk
o Amortized cost – effective interest method
o Capitalize transaction costs
- FVTPL (required or option)
o 3 circumstances:
 If sold in short term, “held for trading” (HFT)
 Derivatives with no hedge accounting
 Designated FVTPL
o Recorded at fair value each reporting period
o Expense transaction costs
- If FVTPL either because HFT or derivative without hedge accounting
o Revalue to FV each reporting period
 o Gains and losses to net income
o If designated FVTPL
 Fair value each reporting period
 Changes related to change in credit risk in OCI
 Other changes in net income

- Example:
o Co ABC issued a bond payable which It designated at FVTPL. Originally, the FV =
$1000, at the year end, the credit risk of Co ABC increased so the interest rate
increased. The new FV = $800.
o It makes sense that the FV decreased since the credit risk increased.

Common Financial Liabilities:

- Accounts Payable
- Notes Payable
o Often interest and collateral
o Interest or non-interest bearing
o Initially valued at fair value
o Discount if stated rate different market
- Loan Guarantee
o Financial liability of the guarantor
o Record at fair value based on probability of payout – may be zero
- Cash Dividends Payable
- Monetary Accrued Liabilities e.g., wages
 - Advances and Returnable Deposits
o Current or long-term depending time deposit and termination
- Taxes
o Sales Taxes e.g., HST
o Payroll Taxes e.g., CPP, EI
o Property Taxes
- Conditional Payments
o Income Tax Payable
o Bonus based on earnings

Foreign Currency Payables

- Originally, accounts or notes payable in a foreign currency recorded in Canadian dollars
at a FX rate on transaction date
- Each year, revalue into Canadian dollars at year end FX rate
- Exchange gain or loss in net income

Non-Financial – Provisions:
- Provision
- “Liability of uncertain timing or amount”
- Legal or constructive obligation
- If probable, then record
- If not probable, then a contingency and disclosed no provision
- Contingent asset is recorded only if virtually certain

Provisions – Measurement
- Record at best estimate
- If small population of potential outcomes – use most likely outcome
- If large population – use expected value (sum of outcomes by probability factors)
- If range and each point equally likely use midpoint range
- Re-estimate annually
- Discount using current market interest rates reflect specific liability
- Disclosure always required unless probability of payout is remote

Examples – Provisions
- Lawsuits
o Probability assessed by lawyer
o Contingent assets record if virtual certainty
- Executory Contracts
o Neither party performed
o Not liabilities until executed
o E.g., employee contracts future
- Onerous Contracts
o Unavoidable costs meeting contract exceed economic benefits
 o Provision recorded at the expected loss
- Restructuring
o Liability recorded if detailed formal plan and has started implement or
announced specifics of the plan
- Warranty – if cost deferral (standard warranty comes with product)
o Expense total of all expected future claims at time recognize future claims at
time recognize revenue
o Adjust each year
o When record sale and corresponding expense
 Dr. Warranty Expense XXX
Cr. Provision XXX
o When record claims
 Provision XXX
Cr. Cash/Parts XXX
o Warranty liability current if one year or less
o Longer warranty split between current and long-term
- Restoration / Environmental
o Measure at management estimate
o PV discount rate reflects risks
o Initial entry to set up liability and add to value of related asset
o Each period record amortization expense and interest (accretion) expense
o Adjust liability for changes in estimate
o Need review discount rate each period
- Sales Returns and Refunds
o Legal or constructive
o If returns predictable estimate at time sale (IFRS 15)
o Only recognize revenue up to extent not expected to be returned
- Coupons and Gift Cards
o Coupons recorded limited circumstances
o Key is if economic benefits transferred
o If product still hold at profit after coupon then provision has no value
o Provision if cash sold for coupons or sold at loss
o If right to cancel anytime no enforceable obligation, no liability recorded
o Provision considers breakage (unused) rate
o Gift cards unearned revenue usually unlimited life
o Must estimate cash refunds for returns
- Loyalty programs
o Separate performance obligation
o Unearned revenue or provision for rewards
o Provision reduced as loyalty points redeemed
- Self-insurance
o Provision for losses experienced and expected losses where incident occurred
- Compensated Absence
 o Accrue if can carryover to next period

Lawsuits Examples:
- Pending lawsuit, where lawyers have assessed maximum payout of $100,000 with a
probability of 60% that the max amount will be paid, and 40% that no amount will be
paid
- We set up the accrual for 100,000 since it is virtually certain (60%):
o Dr. Lawsuit Expense 100,000
Cr. Lawsuit Provision 100,000

- 80% chance of payout, range of payout: 350,000 – 500,000 equally likely (use mid-
range)
o Dr. Lawsuit Expense 425,000
Cr. Lawsuit Provision 425,000

Onerous Contract Examples:

- Agreement to buy 100 lbs of grain in 3 months. Market price on date the contract $2/lb
and contract price is $2/lb. Year-end price is $1/lb

Entry on date of signing:

N/A

At year end:

Dr. Loss on purchase commitment 100

Cr. Provision for loss on purchase commitment 100

Warrant Example:
- 30% chance of 50,000
- 30% chance of 30,000
- 30% chance of 20,000
- 10% chance of 0

(50,000*0.3) + (30,000*0.3) + (20,000*0.2) = 30,000

Dr. Warranty Expense 30,000

Cr. Warranty Provision 30,000

Site Restoration or Decommissioning Example:

- Jan 1 installed new gasoline tank
- At the end of 5 years, tank must be removed, disposed of and a new tank must be
installed
- FV: 100,000, i/y = 8, n = 5, PV = 68,058
Dr. Storage Tank 68,058
Cr. Decommissioning Liability 68,058

Impact of Discounting:
- Market rate or effective interest rate or yield = rate for debt similar term, security and
risk
- Nominal rate = interest rate stated for liability

No Interest Note Payable:

- Short period no discount
- If longer than year discount required
- Effective interest method
- Use of discount account or show net

Equipment XX
Discount on note payable XX
Note payable XX

Or

Equipment XX
Note Payable (net) XX

Different Market & Stated Rate:

- PV of note maturity and interest
- Difference between PV and maturity
- Use of discount account or show net

Inventory XX
Discount on note payable XX
Note Payable XX

Or

Inventory XX
Note Payable (Net) XX

Classifying Liabilities
- Current vs non-current
- Notes payable
o Due on demand – current
o Due within year – current unless refinancing completed by year-end
o Covenant violation – current unless arrangement with lender before year-end
ASPE:
- The term “provision” not used “estimated liability” or “contingent liability”
- Estimated liability not same as unearned or deferred revenue
- If range low end of the range
- No term onerous contract
- Contingent liabilities
o Accrue if likely and measurable
o Disclosure if likely and cannot measure
o No disclosure if not likely
- Estimated liabilities not same as contingent liabilities
- Liabilities
o Amortized Cost
o Effective interest or straight-line method

ASPE – Lawsuit Example

- Pending lawsuit, 80% chance of payout. Range of payments equally likely
- Set up accrual for 350,000

Session 2: Chapter 13

Sources of Financing:
- Short term
o Trade credit
o Short term bank loans e.g. operating loans credit, commercial paper
- Long term
o Term loans
o Notes payable
o Bonds
- Covenants – actg based or restrictive

Long-term loans:
- Advantages
o Short term financing often at higher interest rates
o No votes, no concern over loss over control
o Debt easier to obtain than equity (especially for private co)
o Interest tax deductible
- Disadvantages
o Leverage is risky, interest payments mandatory
o If floating rate increases, could be more expensive
o Less attractive to potential investors

Long-term Debt:
 - Market rate or effective interest rate or yield – rate for debt similar term, security and
risk
- Contract rate or nominal rate = interest rate in loan agreement

Bonds

- Formal promise made by issuing company to pay principal (@ end of term) & interest
throughout term in exchange for cash now
- Need to determine the PV (present value) of the expected cash flows discounted at the
market rate of interest (PV of principal + PV of interest)
- Bonds may sell at:
o Par (equal to face value)
o Premium (above face value)
o Discount (below face value)

Bond Prices

BOND ISSUED (SOLD) AT BOND ISSUED (SOLD) AT BOND ISSUED (SOLD) AT

PAR DISCOUNT PREMIUM
Market Rate
Market Rate = Contract
Compared to Market Rate > Contract Rate Market Rate < Contract Rate
Rate
Contract Rate
DR Cash XX
DR Discount Bonds Payable XX* DR Cash XX
DR Cash XX
Issuance CR Bond Payable XX CR Premium Bonds Payable XX
CR Bonds Payable XX
*contra account to bonds CR Bonds Payable XX
payable on SFP
DR Interest Expense XX DR Interest Expense XX
Subsequent DR Interest Expense XX
CR Discount Bonds Payable XX DR Premium Bonds Payable XX
Recognition CR Cash XX
CR Cash XX CR Cash XX
Derecognition DR Bonds Payable XX DR Bonds Payable XX DR Bonds Payable XX
(Maturity) CR Cash XX CR Cash XX CR Cash XX

- Contract rate determines interest payment (cash out); market rate is for discounting
- Annual or semi-annual interest rate
- Bonds payable is the face value of bond – does not change
- If cash received < Bond Payable = Discount
- If cash received > Bond Payable = Premium

Amortization of Discount or Premium

- Straight line method
o Allowed as option in ASPE only
o Constant amount of interest expense each period
- Effective interest method (pg. 904 / 905)
 o Required method IFRS
o Constant rate of interest over life of the bond

Bonds at Discount:
- As discount is amortized, the book value of the bonds payable increase towards the
maturity value
- At maturity book value = maturity value

Discount Vs Premium:
- Issue price for bonds @ discount less than face value
- Amortization of discount increases interest expense to market rate
- Issue price for bonds @ premium more than face value
- Amortization premium reduces interest expense to market rate

Bonds Between Interest Dates:

- Could be issued between interest payment dates
- Sold @ later time than issue date, price should reflect future cash flows discounted to
date of sale
- Accrued interest added to cost since holder of the bond receives full amount interest
payment

Debt Issue Costs:

- Legal costs, accounting, printing, upfront fees
- Deduct cost from net proceeds if classified as other liabilities
- Results in a DECREASE in the liability
- Amortize addition all expense, usually included interest expense or other financing

Debt in Foreign Currency:

- Exchange risk – if FX rate becomes less favourable, debt increases
- May use hedging to protect
- Loan remeasured at spot rate on reporting date
- Gain / loss in net income
- Interest expense at average exchange rate

Borrowing Costs:
- Normally expensed unless part qualifying asset then must capitalize
- Qualifying asset
o “takes substantial amount time to complete”
o Inventory, intangible asset, PP&E
- Capitalize specific borrowings and then capitalize general borrowings
- No capitalization of imputed interest on equity
- Capitalization starts:
o When interest incurred
 o Payment made on asset
o Activities begin make asset ready to use
- Capitalization ends:
o When asset put in use
o Ready for intended use
- Capitalization ceases:
o Unplanned work stoppage e.g. strike
- Capitalization Rate:
o Specific loans – based on specific rate
o General loans – weighted average rate (excludes cost of capital for equity
financing)

Derecognition:
- Remove when extinguished
o At maturity, carrying value = face value
- Early extinguishment
o If market rate increases, PV less than book value -> retire at a gain
o If market rate decreases, PV above book value -> retire at a loss

Early retirement:
- Update interest expense and any discount or premium amortization
- Remove liability
- Record transfer cash or other resources
- Record gain or loss

Substitution or Modification Debt

- If exchange substantially different terms:
o Debt considered extinguished and derecognized
o Gain or loss recorded
o Unamortized transaction costs on old debt recognized in income statement
o “Substantially different terms” – more than 10% different in PV
- If exchange not substantially different terms:
o Not considered extinguishment
o No gain or loss recognized
o Remaining transaction costs on old debt added to new transaction costs,
amortized over remaining term of modified debt

ASPE:
- Long-term liabilities
o Amortized cost unless elect fair value
o Effective interest or straight-line method
o Capitalization borrowing costs
 Not required to capitalize
  If capitalize only specific borrowings allowed to be capitalised not general
borrowings

Session 2: Chapter 14

Subscription Shares:
- What if shares not paid off?
o Options
 Return Cash Paid to Individual
 Company Keeps Cash (not common)
 Issue Shares Paid in Full
 Option Available Depends on Agreement with Shareholder
o No Dividends or Votes until shares fully paid

Concepts Share Equity:

- Separate Legal Entity
- Sources:
o Separate Each Type Share
o Contributed Surplus
o Retained Earnings
o Accumulated Other Comprehensive Income (Part One – IFRS not in Part Two –
ASPE)
o Cost Based Actg – Not Market Value
o Shared Transactions No Impact on Income

Issuance Shares:
- Accounting emphasizes source
- If only one type share, all in share capital if many types shares then segregate
- When authorized – memo entry
- Shares issued for cash:
o Debit Cash
o Credit Common Shares

Non-Cash Sale of Shares:

- Share based capital
- IFRS:
o Record at fair value of asset or service received
o Use fair value of shares in rare circumstances
- ASPE:
o Start with fair value of shares
o Look at which fair value more reliable
- Issue shares for land – debit land; credit shares
Basket Sales:
- Sell two or more classes for lump sum
- Need to allocate total proceeds
- Proportional method based on relative market values
- Incremental method market value for one security as basis and rest to other type share
- Arbitrary allocation – BOD temporary value until FV corrected

Basket Purchase Example 1:

- Company’s shares sell at $50 per common share and $30 per preferred share. Company
issues 1000 common shares and 500 preferred shares. Buyer pays 62,500 for shares

50* 1000 = 50,000 -> 50,000/65,000 = 0.77 * 62,500 = 48,125 for common shares
30*500 * = 15,000 -> 15,000/65,000 = 0.23 * 62,500 = 14,375 for preferred shares

Basket Purchase Example 2:

50 * 1000 = 50,000 for common shares

62,000 – 50,000 = 12,000 for preferred shares

Share Issue Costs:

- E.g., registration fees., printing, underwriting, commission
- If share issuance abandoned, expense costs incurred
- Two methods:
o Offset Method:
 Reduction of amount received from sale 0 more common method in
practise
o Retained Earnings Method:
 Charge directly to R/E

Retirement of shares:
- Retractable – can be redeemed at option of shareholder
- Redeemable (callable) – can be redeemed at option of company
- On retirement, debit to contributed capital first, and remainder to R/E
- No income effect of buying back shares to avoid manipulation
Example:
- Company repurchased 20,000 shares at a price of $7/share. Shares were initially issued
at $4 per share. Before the repurchase, the company had a contributed capital of
$10,000 and retained earnings of $120,000

Dr. Common Shares 80,000

Dr. Contributed Capital 10,000
Dr. Retained Earnings 50,000
Cr. Cash 140,000
Conversion of Shares:
- Conversion one class into another class
- Accounted for at book value – transfer from one account to the other

Retirement Shares:
- Treasury Shares
o Buy Own Stock Back for Resale
o No Vote or Dividends
o Not common in Canada because companies must retire shares then if sell at a
later date reissue
o If buy treasury shares – record as deduction at ending shareholders’ equity

Dividends:
- Distribution of earnings in cash or shares
- Dividends are not paid out capital
- Dividends are not expenses
- Declare Dividends:
o Dr. Retained Earnings
Cr. Dividends Payable

Stock Dividends:
- Reasons:
o Signal firms plan to retain portion of earnings
o Increase number of shares
o Continue dividend distribution with no cash impact
o Allow shareholders to get additional shares without transaction costs
- Accounting method depends jurisdiction
- Option 1 – fair value method – use market value on date of declaration
o Fair value method required CBCA
- Option 2 – stated value method – stated amount per share
- Option 3 – memo entry – treaded as stock split

Fractional Share Rights:

- If entitled to a fraction of a share
- Either issue:
o Fractional share rights – buy or sell until have enough for a share
o Cash payment

Stock Split:
- Stock split done if shares selling too high price
- Reduce market value shares to facilitate trading
- Does not require journal entry just memo entry
- Record new number of shares
 - Reverse stock split decrease #

Contributed Capital or Surplus:

- Contributed capital from shareholder transactions:
o Receipt of donated assets from owners
o Retirement of shares – gains and losses
o Treasury stock transactions
o Financial restructuring
o Stock options

Comprehensive Income:
- Includes components:
o Net Income (No Change from Past)
+
o Other Comprehensive Income (Includes items excluded from Net Income and
does not reflect changes arising from transactions with shareholders)
=
o Comprehensive Income
- Items between net income and comprehensive income called other comprehensive
income (OCI)
- New section in shareholders equity called accumulated other comprehensive income
- Net income closed out to R/E
- OCI closed out to accumulated OCI
- Must split between items that will be reclassified to net income and those that will stay
in equity
- In some cases, gain/loss in OCI are temporary and eventually close out to net income
- In other cases, OCI goes directly to AOCI
- Changes in revaluation surplus of PP&E and intangibles
- Certain changes defined benefit plans
- Gains/losses on transaction of foreign operations
- Gains/losses on equity and debt financial assets classified as FVTOCI
- Gains/losses on cash flow hedges
- Own credit gains/losses debt measured at fair value

ASPE:
- No OCI
- No Statement of Changes in Equity only Statement of Retained Earnings

Session 3: Chapter 15

Debt Vs Equity:
- Substance over form
- Classification does not change tax classification
Impact of Classification:

Event Liability Equity

Issuance Long term liabilities go up Equity goes up
Payment Interest expense goes up Retained earnings goes down
Higher BV retire Loss in income Equity goes down
Repayment Long term liabilities go down Equity goes down

Classification:
- To determine classification as debt or equity:
o Is periodic return on capital (interest) mandatory? – Liability
o Is debtor legally obligated to repay principal at fixed date or option creditor? –
liability
- Factors to consider:
o Redemption contractually required
o Redemption at option investor
o Payments cannot be deferred or for limited time
o Convertible bond – number of shares fixed or based on market rate

Retractable Preferred Shares:

- Classify as debt if:
o Redemption contractually required
o Redemption at option investor
o Redemption terms e.g. dividend escalation will force redemption
- If classified as debt dividends, reported I/S

Preferred Shares:
- Preferred shares not a liability if:
o Redeemable at company’s option – company cannot be forced to pay cash
o Converted into common shares

Convertible Bond:
- General characteristic management expects conversion and principal not to be paid
back
- Traditionally shown as debt until conversation
- Characteristics of debt vs equity
- Can be convertible @ investor or company’s option

Convertible Bond – Investor’s Option

- Bonds issued and can be converted by holder into shares at specified price or ratio of
exchange
- Two elements:
 o Promise to pay interest/principal
o An option to buy shares
- Proceeds part equity part debt
- Initial Recording:
Dr. Cash XX
Dr. Discount on BP XX
Cr. Bonds Payable XX
Cr. Common Stock XX
Cr. Conversion Rights XX
- Would net bond payable and discount
Convertible Debt Example:

Convertible 5 year bond, FV = 100,000; issue price of 106,000, stated interest 7%, and market
interest rate 9%

Journal entry issuance:

- IFRS measure PV debt first, remainder goes to conversion rights
- ASPE measure most measurable component first

PV = 92,221

Dr. Cash 106,000

Dr. Discount 7,779 (100,000 – 92,221)
Cr. Bond Payable 100,000
Cr. Conversion Rights 13,779 (106,000 – 92,221)

Convertible Debt – Investor’s Option:

- On conversion:
o Update any accounts relating to bond premium or discount

Dr. Bonds Payable XX

Dr. Common Share XX
Dr. Conversion Rights XX
Cr. Discount on Bonds Payable XX
Cr. Common Shares XX

- On conversion, the common shares would end up being recorded at value of bond +
conversion rights
- If rights are exercised
o Equity account transfer to shares
- If rights lapse
o Equity account transfer to contributed surplus

Convertible Debt – Conversion Mandatory Or @ Company’s Option:

 - Principal must be settled (or at company’s option) into fixed number of shares or fixed
amount per share
- Interest – debt
- Principal – equity
- When issue
Dr. Cash XX
Cr. Interest liability XX
Cr. Share equity XX

- Liability – PV interest payments

- Equity – difference between issuance proceeds and PV interest payments

Convertible Debt:
- If there is option to pay interest in shares at fixed price instead of cash, interest portion
equity
- If conversion based on current value of shares on conversion, then bond all debt since
risk stays with company

Convertible Debt – Conversion Mandatory Or @ Company’s Option:

- Interest expense calculated on outstanding balance of interest liability

Dr. Interest expense XX

Cr. Interest Liability XX

- Interest paid reduces liability

Dr. Interest Liability XX

Cr. Cash XX

- At maturity

Dr. Share equity XX

Cr. Common Shares XX

Example:
- Company issues FV = 100,000, PMT = 8,000, PV = 100,000; repayable at maturity in fixed
number of common shares at option of company

Dr. Cash 100,000

Cr. Interest Liability 68,058 (PV or principal, no value input for PMT)
Cr. Share Equity 31, 942 (100,000 – 68,058 or PV of interest)

Recognition and Measurement (ASPE):

- Compound financial instruments with both debt and equity
 o Option to measure equity component at zero value; or
o Measure most measurable component first then allocate residual to other
component

Rights:
- Existing shareholders given rights to maintain proportionate ownership
- Right to buy new share at market price
- No proceeds when rights issued – memo entry
- If rights exercised

Dr. Cash XX
Cr. Common Shares XX

Warrants:
- Detachable contract with right to purchase share at fixed price, sold with another
security – bought and sold on own
- Warrants characteristics
o Detachable – can be traded separate from debt
o Can be exercised without having to trade or redeem debt
o Exercise of warrants results in cash paid for shares
- On issuance, portion of bond price allocated to warrants
- Proportionate method
- Fair value debt based on PV using market interest rates
- Warrants based on trading values

- Issuance Date
Dr. Cash
Cr. Bonds Payable
Cr. Contributed Capital

- Exercise Date
Dr. Cash XX
Dr. Contributed Capital XX
Cr. Common Shares XX

- Expiry – stays in contributed capital transfer from warrants to lapse of warrants

Share Based Payments:

- Entity receives goods or services for shares (equity-settled plans) or referenced to price
of shares (cash-settled plans)
- Non-employees
- Equity-based recognize when goods or service received at fair value

Dr. Rent Expense XX

 Cr. Common Shares XX

Stock Option:
- Measured at fair value – most common method Black Scholes

Non-Employee:
- Announcement date – memo entry
- Issuance date

Dr. Cash XX
Cr. Contributed Capital XX

- Exercise date

Dr. Cash XX
Dr. Contributed Capital XX
Cr. Common Shares XX

- Expiry date – stays in contributed capital transfer from stock rights outstanding to lapse

Employee Stock Options:

- Vesting – when employee entitled to exercise options
- Forfeit – if leave before vest individual gives up options
- Vesting Date

Dr. Compensation Expense XX

Cr. Contributed Capital XX

- When Exercise

Dr. Cash XX
Dr. Contributed Capital XX
Cr. Common Share XX

*If lapse to contributed capital

Employee Stock Options – Vest Four Years After Granted:

- Annual entry

Dr. Compensation Expense XX

Cr. Contributed Capital XX

- If no risk forfeiting, then expense one-quarter each year

 - Amortization over vesting period

Forfeiture:
- Forfeiture during vesting period must be estimated annually
- Accrual is adjusted based on level of expected forfeiture on an annual basis
- ASPE account for forfeitures when they occur no estimates when making accruals

Stock Options ASPE:

- If no historical stock price volatility use calculated value method for measuring stock
price volatility
o Use price index for industry
o If no industry index use general price index

Cash Settled Plans – SARS:

- Employees receives SARS
- Right to cash payment equal to appreciation in share price based on a reference price
- Based on a new fair value every period

Dr. Compensation Expense XX

Cr. LT Compensation Liability XX

- If fair value SARS is zero balance liability is zero and compensation expense reversed
- Consider forfeitures

Derivatives:
- Three Characteristics:
o Value changes in response to underlying instrument e.g. Gold Future
o Requires no to little initial investment
o Settled at a future date
- Initially not recorded since zero value
- Value changes as underlying instrument changes
- Often used as a hedge – hedge actg is optional

Derivatives – Hedge Actg not elected:

- Recognize on b/s when company becomes a party to a contract
- Classify in FVTPL (IFRS) fair value ASPE
- After initial recognition measure at fair value
- Recognize gains or losses from holding or settling in net income in current period
- When enter into forward contract value is zero – memo entry
- When changes gain or loss into net income

Dr. Derivative instrument XX

Cr. Gain XX
Derivatives – Hedge Actg Elected
- Recognize on b/s when co becomes a party to a contract
- Fair value hedge or cash flow hedge (IFRS)
- After initial recognition measure at fair value
- Recognize gains or losses from holding or settling
o Fair value hedge in net income in current period
o Cash flow hedge in OCI
- ASPE critical match of key terms to hedge
- No impact on net income until hedge over
- No OCI

Shares Issued in a Tax Planning Arrangement (ASPE):

- Old standard (textbook) – redeemable preferred shares part of tax planning
arrangement must be in equity but become debt once payment demanded
 - New standard (Effective Jan 1, 2021) – any type of redeemable shares in tax planning
arrangement qualify – not just preferred
- Shares in substance are liability but may classify as equity if meet ALL three conditions:
o Retention of control after receiving shares
o No other arrangement requires redemption – shares are due on demand
o No consideration other than shares

Financial Instruments – Presentation:

Classification as Financial Liability Classification as Equity

Initial and • Measured at redemption amount • Measured at stated value on balanc

Subsequent • Adjustments result in charges to
Measurement equity (either to R/E or as
separate component of equity)

Reclass • Once as a financial liability, can • If conditions for classification as equ

never be reclassified to equity
• When shares called for
redemption, amount reclassified
to retained earnings
longer met, shares reclassified to fin
liability
• Reassess classification if an event or
transaction indicates one or more co
not met

Presentation Financial Liability shown separately on Equity shown separately on Balance Sheet
Balance Sheet

Session 4: Chapter 16

Allocations:
- Intraperiod – Allocation within F/S
- Interperiod – amount of taxes payable over different period

Intraperiod Tax Allocation:

- Allocation between lines on f/s
- In Chapter 3, we discussed discontinued items and they are shown net of tax
- Income tax expense for continuing operations shown separately
Approach that will be used is the balance sheet approach

Step One: Calculate Taxable Income

- Start with GAAP net income before taxes and adjust permanent and temporary
differences
o Permanent differences – one adjustment
o Temporary differences – two adjustments (but one may be zero)

Issue: Extent of Allocation:

- No allocation – taxes payable method choice ASPE
- Full allocation – comprehensive allocation (liability method) – required under IFRS –
choice ASPE
- Taxes Payable Method
o Income tax expense = current income tax owing
o Correspond to actual cash flows
- Comprehensive Tax allocation
o Individual differences reverse
o Violate matching unless use this method

Issue: Measurement Rate:

- Rate?
o If tax enacted or substantially enacted by end current year use future rate
o If tax rate is not enacted or substantially enacted by end current year use tax
rate current year

Issue: Discounting:
- If liability should consider time value of money
- Problems?
o No market rate for deferred taxes
o Hard to know time period since CCA on group of assets
- Specifically disallowed in textbook

Temporary Differences:
- Deductible = asset (DITA)
o E.g., Warranty provision
- Taxable = liabilities (DITL)
o E.g., Capital Assets

Deferred Income Tax Liability:

- Recognition for all taxable temporary differences
- Probability of payment not considered always recorded

Example DITL – Year One:

 - Carrying Value $500,000
Capital Asset
- UCC $350,000
- Tax Rate %40
- Taxable Temporary (150,000)
- Difference
- DITL (60,000)

Deferred Income Tax Asset:

- Recognized for all deductible temporary differences, unused tax losses
- Limited to probable (IFRS) more likely than not (ASPE) criteria – not recorded unless
criteria met

Deferred Income Tax Asset:

- Recognized for all deductible temporary differences, unused tax losses
- Limited to probable (IFRS) likely than not (ASPE) criteria – not recorded unless criteria
met

DIA Example – Year One

- Warranty Liability 40,000
- Tax Basis 0
- Tax Rate 40%
- Deductible Temporary 40,000
Difference
- DITA 16,000

Steps in Calculations:
- Step 1: calculate taxable income and income taxes payable
- Step 2: determine change in deferred income tax
o Prepare tax B/S and compare GAAP B/S
o Calculate DITA / DITL
- Step 3: Prepare journal entry
o Combine income tax payable with deferred balances to get income tax expense

Note:
- Two things could change the amount of the DITL/A
o Temporary difference
o Tax Rate

B/S Presentation:
- Deferred taxes all non-current (IFRS)
- May net in single amount if same taxable company and same taxing government
- Same in ASPE and IFRS – Recent change in ASPE since textbook written
Disclosure:
- General
- Sources temporary differences
- Reconciliation effective tax rates

Reassessment:
- Able to review B/S date
- If probability “probable or more likely than not” drops below 50% write down asset
- Now able to recognize benefit if meet criteria “probable or more likely than not”

Is Deferred Income Tax really a liability?

- Some may not reverse e.g. CCA vs/ depreciation if continue to expand
- Having to pay out cash depends:
o Asset base must shrink
o Company must be earning taxable income
- Government does not consider amount as DITL as amount owing

Part 1 (IFRS) and Part 2 (ASPE):

- Liability method required in Part 1 and choice in Part 2
- Taxes payable method choice in Part 2
- Part 1 uses terminology deferred taxes Part 2 uses future income taxes but in practise
term deferred taxes often used in both

Part 1 (IFRS) and Part 2 (ASPE) – B/S Presentation:

- Previously classify as current or non-current in part 2 (ASPE)
- Amendment to standard made June 2019 (ASPE) now all non-current same as part 1
(IFRS)

Session 5: Chapter 17

Tax benefits of losses:

- Carried back three years
- Carried forward twenty years
- Issues carryforward:
o Amount of loss
o Realization of loss

Key Words:
- Tax loss – final number of taxable loss on tax return
- Tax benefit – present and future benefit through reduction income taxes paid to
government or recovery of taxes previously paid.

Tax Loss Carrybacks:

- Recover taxes previously paid
 - Tax recovered at rate originally paid
Income Tax Receivable XX
Income Tax Expense XX
(Income Tax Recovery)

Temporary Differences:
- Existence of loss has no impact on the actg for temporary difference
- Tax strategies:
o If no taxable income prior period do not claim CCA which will increase taxable
income – CCA is optional deduction
o Look at tax rates in carryback period to maximize carryback
- Future uncertain therefore where possible want carryback loss

Example 1:
2011 2012 2013
Taxable Income 400,000 280,000 100,000
Tax Rate 32% 34% 36%

2014: taxable loss of 1,000,000, how much can be recovered:

780,000 can be recovered & total recovery will be for: (400,000 * 0.32) + (280,000 * 0.34) +
(100,000 * 0.36) = 259,200

Dr. Income Tax Receivable – CB Benefit 259,200

Cr. Income Tax Expense (Recovery) 259,200

Example 2:
2011 2012 2013
Taxable Income 400,000 280,000 100,000
Tax Rate 32% 34% 36%

Loss of 500,000
Dr. Income Tax Receivable – CB Benefit 162,000
Cr. Income Tax Expense (Recovery) 162,000

Example 3:
2011 2012 2013
Taxable Income 400,000 280,000 100,000
Tax Rate 32% 34% 36%

Dr. Income Tax Receivable – CB Benefit 162,000

Cr. Income Tax Expense (Recovery) 162,000
Or if they want to max it

Dr. Income Tax Receivable – CB Benefit 169,600

Cr. Income Tax Expense (Recovery) 169,600

Tax Loss Carryforward:

- Carrybacks realized and recognized – “probable or more likely than not provision not
provision” not considered
- Carry forwards realized in future years
- When to recognize?
o “probable (IFRS) or more likely than not” (ASPE) considered
- Whether you set up a DITA for the loss carryforward or not makes no difference on the
ability to use the loss carryforward to reduce income taxes payable in the future
- Difference is in the debit:
o If set up DITA – reduce DITA
o If not set up – debt tax expense

Example 4:
2011 2012 2013
Taxable Income 400,000 280,000 100,000
Tax Rate 32% 34% 36%

Dr. Income Tax Receivable – CB Benefit 259,200

Dr. Deferred Income Tax Asset – CF Benefit 79,200
Cr. Income Tax Expense (Recovery) 338,400

1,000,000 – 780,000 = 220,000 * 0.36 = 79,200

Example 5:

2014 2015
Taxable Income (220,000) 150,000
Tax Rate 36% 34%
DITA 79,200

150,000 * 0.34 = 51,000 -> credit DITA by

DITA Balance 2015: 79,200 – 51,000 = 28,200

Probable (IFRS) or More Likely than not (ASPE):

- Probability greater than 50%
- Use professional judgement
- Favourable evidence
o Strong earnings history
 o Unusual event caused loss not likely to reoccur
o Enough accumulated temporary differences to absorb unrealized losses
o Tax planning opportunities that will create taxable profit in c/f period
- Unfavourable evidence
o History tax losses expiring before being used
o Expectation losses in carryforward period
o Unsettled circumstances that could adversely impact future operations

Reducing CCA:
- Eliminate loss by not claiming CCA until after loss used up
- Amend prior years tax return to not claim CCA
- Key need to use loss within time limit – don’t want loss to expire

Reassessment of loss carryforward:

- Criteria not met anymore: loss c/f benefit wholly or partially removed
- Criteria met: loss c/f/ benefit wholly or partially recognized

Steps Calculate Tax Loss and Benefit:

- Step 1: Calculate Taxable loss according to tax act
o Begin with net loss f/s and add / deduct reconciling items
o Existence of loss has no impact on temporary differences
o Amortization added back – CCA optional deduction
- Step 2: Take the taxable loss and carryback up to three years to recover taxes previously
paid
o Recovery is of taxes paid in previous years independent of tax rate in year of loss
- Step 3: Multiply the loss by the tax rate paid and in previous three years to arrive at
income tax expense (recovery)

Dr. Income Tax Receivable XX

Cr. Income Tax Expense (Recovery) XX

- Step 4: Carry any remaining loss carryforward to future tax benefits

o Apply probable or more likely than not criteria
o Tax planning reduce or eliminate CCA year loss, future, amend prior years
returns
- Step 5: Prepare tax b/s/ and compare to actg b/s
o Deferred tax asset subject to review every b/s date
- If do not record DITA in carryforward period you still in future years:
o Reduce any taxable income in future by amount of remaining loss
o Consider setting up DITA if probable or more likely than not provision met

ASPE:
- If taxes payable method no DITA, recognizable benefit when realized
- Term more likely than not instead probable