The directors of H Ltd. wish to recognise a material deferred tax asset in relation to 250 Cr of unused trading losses which have accumulated as at…

In relation to unused trading losses, the carrying amount is zero since the losses have not yet been recognised in the financial statements of H Ltd. A potential deferred tax asset does arise but the determination of the tax base is more problematic. The tax base of an asset is the amount which will be deductible against taxable economic benefits from recovering the carrying amount of the asset. Where recovery of an asset will have no tax consequences, the tax base is equal to the carrying amount. H Ltd. operates under a tax jurisdiction which only allows losses to be carried forward for two years. The maximum the tax base could be is therefore equal to the amount of unused losses for years 20X0 and 20X1 since these only are available to be deducted from future profits. The tax base though needs to be restricted to the extent that there is a probability of sufficient future profits to offset the trading losses. The directors of H Ltd. should base their forecast of the future profitability on reasonable and supportable assumptions. There appears to be evidence that this is not the case. H Ltd. has accumulated trading losses and there is little evidence that there will be an improvement in trading results within the next couple of years. The market is depressed and sales orders for the first quarter of 20X2 are below levels in any of the previous five years. The forecast profitability for 20X2 and subsequent growth rate therefore appear to be unrealistically optimistic. Given that losses can only be carried forward for a maximum of two years, it is unlikely that any deferred tax asset should be recognised. Hence, the contention of directors to recognized deferred tax assets in relation to 250 crores is not correct.