Classification of income taxes, the rules of offering the corporate tax for beneficial purposes and the related presentation possibilities in the IFRS

06 September 2015

Classification of income taxes in the comprehensive income calculation of IFRS financial statements


Our previous newsletter presented the bases of determining deferred taxes. Partly continuing this subject, now we are going to scrutinise the classification possibilities of income-type taxes in financial statements prepared in line with the IFRS rules.


In connection with this, it is important to mention that the IAS 12 standard mentions income taxes, without comparison with the tax regime of any country. Therefore, concerning a type of tax, it always has to be considered whether it can be classified as an income tax. This question is clear in the case of corporate tax. At the same time, other income-dependent taxes may also be identified in the Hungarian tax system. In this regard, the situations of business tax and innovation contribution are the most debated ones. Experts’ views vary on this issue.


There are approaches that classify these types of taxes as turnover type ones, while others classify them as income-based ones. The best practical solution is to determine the classification of these types of taxes in close relationship with the activity of the economic agent. Namely, in the case of a company engaged in trading, business tax can be considered a quasi-income tax, as the net sales revenue is reduced, inter alia, by the cost of goods sold when the tax base is determined. And in terms of its content, it can be identified with a kind of profit on the activity. At the same time, in the case of a service provider firm, as normally most of its expenditures are personnel costs, the base of the business tax mainly depends on the size of the sales revenue.

According to the most consistent interpretation of the IAS 12 standard, the proposed solution is that taking into account the company’s activity, the portions represented by the cost items ‘material costs’, ‘cost of goods sold’ and ‘mediated services’, which can be deducted from the base of the business tax and the innovation contribution, within its total volume of costs should be assessed, and on this basis, it would be possible to decide on the classification of these types of taxes as turnover type ones or income type ones.

If the aforementioned cost items account for a significant portion (>50%), based on the company's activity, both the business tax and the innovation contribution may be considered as income tax in the IFRS; therefore, it is justified to include them in the profit and loss statement following the pre-tax profit/loss (IAS 12.3; IAS 12.5).

In the event that the items deductible from the base of the business tax and the innovation contribution do not dominate in the cost structure of the company, it is more advisable to classify these types of taxes as turnover type ones, and usually to present them as other expenditures and parts of the operating profit in the IFRS financial statements.


Based on the operative tax legislation, in addition to the business tax and innovation contribution detailed above, on the basis of the aforementioned method, experts may also consider the so-called Robin Hood tax as an income tax. Accordingly, on the basis of the above, it is important to pay attention to the presentation of these taxes upon compiling the statements according to the IFRS.


The rules of offering corporate tax for beneficial purposes and related presentation possibilities in the IFRS


In addition to the subject described above, a priority area may be the classification of corporate tax pledges for various beneficial purposes in the comprehensive income statements compiled in line with the IFRS rules. First of all, please, find below an overview of the relevant tax-related changes effective as of 1 January 2015.


According to the tax legislation effective as of 1 January 2015, the following possibilities exist in connection with offering the corporate tax to support motion pictures, performing art organisations and spectacular team sports:


  • companies provide support either within the framework of the currently operating corporate tax allowance system, or
  • the tax is pledged in a tax credit system, which is an option pursuant to the new rules that entered into force as of 1 January 2015 (‘disposal of the tax’).


The two systems may not be applied in parallel with one another in the same tax year; companies have to choose in any case, depending on which solution is more economical for them.


In the previous system, the company provided support to a selected organisation, and based on the confirmation of the support it could benefit from a tax allowance, while it was also possible to include the total amount of the support among the costs, i.e. to reduce its tax base with the amount of the support provided. It was possible to benefit from the tax allowance on the basis of the support up to 70% of the calculated tax in the year of the donation and in the following 6 years.


The allowance is limited by the obligation to pay supplementary support, which may be 75% of the tax benefit falling on the donation in the case of all the three purposes. This has to be calculated with the lower tax rate (10%) if the enterprise’s tax base reduced by the support as well is below HUF 500 million. In the case of incorrect calculation: at least 7% of the donated amount has to be spent on supplementary support within 90 day following the given tax year. As a result, the achievable tax benefit, i.e. the extent and ratio of the related tax saving, depends on the size of the enterprise and the amount of the support. Enterprises need to consider how the size of the amount intended to be donated will affect their tax base.


Pursuant to the change in legislation, as of January 2015, enterprises can support motion pictures, performing arts and spectacular team sports according to a new system as well, whose advantages compete with the previous ones. Namely, enterprises subject to corporate tax liability now already will be allowed to decide on pledging 50% of their corporate tax advance on a monthly or annual basis, and in exchange for that they will be entitled to a tax credit at the end of the year. They can amend the declaration about the offer five times within a tax year; accordingly, the beneficiary and the amount of support may change during the year. Until the end of the year they will be allowed to issue declarations about maximum 80% of the tax falling on the given year to the debit of the still available amount until the date of the topping-up at the end of the year and the final annual tax return the latest.


In the new system, tax advances will still have to be paid to the tax authority, and the tax authority will forward the pledged tax advances to the beneficiaries, while it will also check the accuracy of the offer, the submitted support confirmations and whether the sponsors and the beneficiaries have any tax arrears.


In the new system, companies will receive tax credits related to their tax pledges at the end of the year; this is how they will have a tax advantage.


Based on the above tax technique solutions, the question arises whether in the IFRS statements these supports can be stated as tax to be paid under the operating and financial results, or they should be shown as items reducing the operating profit upon determining the profit/loss.


Taking account of the principle of the primacy of content over form, in the case of those who apply the second, ‘new’ possibility of pledging it is completely clear that the whole amount of support can be stated as tax to be paid following the pre-tax profit in the profit and loss statement, as it is paid to the tax authority as a matter of course.


If the first option (which was valid previously as well) is chosen from the aforementioned methods of pledging, experts are of the opinion that the choice for classification between operating profit/loss or the tax to be paid is up to the company's judgement and accounting policy decision, with the remark that in any case the supplementary support part is recommended to be stated as part of the operating profit among the other expenditures.