Question

The consolidated financial statements of EFGH Ltd and OP Ltd were presented to the Board. The Board is alarmed that the economic entity’s balance sheet (consolidated balance sheet) shows a deferred tax balance when the accounts for EFGH Ltd had no deferred tax asset or deferred tax liability. EFGH management is also planning to acquire another entity XYZ Investments Ltd in the near future. Management pointed out to the Board that on the acquisition, the financial results of this new subsidiary (XYZ Investments Ltd) will also be consolidated in the economic entity financial statements. One of the Board members noted that the new business to be acquired by EFGH Ltd is an investment company. Its financial statements should not be consolidated because it is involved in the investments industry, whereas all of the other companies in the economic entity are involved in the retail industry.

Required: As the financial accountant you are requested to prepare a response to the following questions:

(a) Why does the economic entity have a deferred tax balance?

(b) Should the financial statements of proposed acquired business, XYZ Investments Ltd, be consolidated into the economic entity and why?

(Please note that in your response you must make reference to relevant paragraphs of the Accounting Standard and/or AASB Framework and to other sources of material(Australian), 600 words.)

Answer 1

a) Economic entities have deferred tax balance because of the following reasons :

- It is a tax expense a company recognises but postpones it for a later period due to accommodations in tax code.

- It doesn't mean company under paid its tax bill but it indicates the accounting difference in timing between when the tax was recognised in company financial statement relative to when the the tax is effective via tax code.

b)In the given case we cannot prepare consolidated balance sheet of the company because both are dissimilar in nature.One is totally dealing in retail sector and the other is in investment.Operations of both the companies are dissimilar that their combined financial statement are not meaningful.

- Various companies exclude investment companies subsidiaries as they fall into finance sector from consolidation.

- These subsidiaries reported under equity method as it suppress huge amounts of debts and overstating returns on assets of the consolidated group.

- It provides more realistic and relevant view of the business.