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Welcome back. In this lesson,
we'll do a short example that explains how
a unit of account can affect accounting recognition.
So the unit of account again can lead to
differences in the amount of the benefit recognized,
because of the different ways that you can aggregate
the effects of uncertain tax position.
So we're going to look at the unit of account again from
the perspective of management and the perspective of the tax authority.
And remember, a change in facts or circumstances
can change the unit account in different periods.
So let's start with Modern Marvels anticipates claiming
a one-million-dollar R and D credit on its tax return for the current fiscal year.
Now the credit comprises equal spending on four separate projects.
So we're saying, there's $250,000 of tax credit in each of four separate projects.
So, the enterprise expects to have sufficient taxable income
in the current year to fully utilize the one-million-dollar credit.
What is the unit of account?
Do we look at all four together,
or do we look at each project individually?
If the unit of account is a total research credit,
we consider it's more likely than not that the enterprise
will ultimately sustain a benefit of $650,000,
which consists of approximately $200,000 per project for
the first three projects and $50,000 for the fourth project.
But we're going to aggregate those together and determine that the amount that's,
more likely than not,
is going to be $650,000.
If we look at the individual project unit of account,
the management determines that only three of
the projects meet the more likely than
not recognition threshold because the fourth project,
due to the nature of its activities,
doesn't quite cross that threshold.
So it would not be recognized in
the financial statements even though the tax credits will be included in the tax return.
So in that case,
the enterprise would recognize the
$600,000 benefit related to the first three projects only.
So for this examples,
now assume that management determines that it accumulates
information at the project level and they anticipate that
the Tax Authority will examine the issues at the level of individual projects.
The conclusion then would be that you would look at it at the level of
the individual project if that's what
the taxing authority is going to look at. So, let's look in year two.
The enterprise increases its spending on
research and experimentation projects and
anticipates paying a significantly larger research credit in year two,
the exam anticipate the taxing authority
will focus on examination on functional expenditures.
They're going to go below the level of the individual project.
Therefore, you're going to have to need to evaluate whether it should
change unit of account in subsequent years to
a more granular level to
reflect how they expect the tax authorities going to look at things.
So, in light of a significant increase in expenditures,
management may conclude the project level is no longer appropriate, and therefore,
they are going to look at that based upon the magnitude of spending,
anticipated claimed credits, previous experience,
and the advice of external tax advisors.
So, the lesson is,
the unit of account is important for determining
how much uncertain tax benefit may be recognized in the financial statements,
whether I aggregate things into a larger unit,
it's maybe more likely that I'll be including some items that,
if I looked at them individually, might not qualify.
So this is going to be an important consideration
for management in making the initial assessment,
and certainly for auditors and looking at it subsequently. Thank you.
John HeppClinical Assistant Professor of Accountancy
