X Ltd. has 2 wholly owned subsidiaries A Ltd. and B Ltd. The company had acquired 100% equity of these companies as at 1 st April, 20X1. The…

(a) For investment in subsidiaries, branches and associates and interests in joint arrangements, paragraphs 38 and 39 of Ind AS 12 states that temporary differences arise when the carrying amount of investments in subsidiaries, branches and associates or interests in joint arrangements (namely the parent or investor's share of the net assets of the subsidiary, branch, associate or investee, including the carrying amount of goodwill) becomes different from the tax base (which is often cost) of the investment or interest. Such differences may arise in a number of different circumstances, for example: (a) the existence of undistributed profits of subsidiaries, branches, associates and joint arrangements; (b) changes in foreign exchange rates when a parent and its subsidiary are based in different countries; and (c) a reduction in the carrying amount of an investment in an associate to its recoverable amount. In consolidated financial statements, the temporary difference may be different from the temporary difference associated with that investment in the parent's separate financial statements if the parent carries the investment in its separate financial statements at cost or revalued amount. Further, an entity shall recognise a deferred tax liability for all taxable temporary differences associated with investments in subsidiaries, branches and associates and interests in joint ventures, except to the extent that both of the following conditions are satisfied: (a) the parent, investor, joint venturer or joint operator is able to control the timing of the reversal of the temporary difference; and (b) it is probable that the temporary difference will not reverse in the foreseeable future. Further, paragraph 44 of Ind AS 12 provides that an entity shall recognise a deferred tax asset for all deductible temporary differences arising from investments in subsidiaries, branches and associates, and interests in joint arrangements, to the extent that, and only to the extent that, it is probable that: (a) the temporary difference will reverse in the foreseeable future; and (b) taxable profit will be available against which the temporary difference can be utilised. Applying the above guidance, (i) In consolidated financial statements of X Ltd., the investment in subsidiary is eliminated and the net assets including goodwill are recorded. For comparing the tax base of investment with the books in case of a consolidated financial statements the carrying value of investment is replaced with the net assets (including goodwill). Thus, book base of A Ltd. in consolidated financial statements of X Ltd. is Nil (i.e.5,00,000 less losses amounting to 1,80,000 less impairment of 3,20,000). The impairment on investment in subsidiary-A Ltd. recognised in standalone financial statements (amounting to 5,00,000) was disallowed under the Income tax laws of X Ltd.'s jurisdiction. The entire cost of investment of 5,00,000 is deductible upon sale of investment under the applicable tax laws. Thus, the tax base of investment in A Ltd. is 5,00,000. Thus, there is a temporary difference of 5,00,000. In practice, such temporary differences are commonly referred to as 'outside basis differences'. A deferred tax asset should be recorded for this outside basis difference only if the conditions specified in paragraph 44 of Ind AS 12 mentioned above are met. (ii) In consolidated financial statements of X Ltd., the investment in subsidiary is eliminated and the net assets including goodwill are recorded. The book base of B Ltd. in consolidated financial statements of X Ltd. is 6,80,000 (i.e.5,00,000 add profits amounting to 1,80,000). The entire cost of investment of 5,00,000 is deductible under tax upon sale of investment. Thus, the tax base of investment in B Ltd. is 5,00,000. The difference in the book base and tax base lead to an outside basis difference of INR 1,80,000. Paragraph 40 of Ind AS 12 provides that as a parent controls the dividend policy of its subsidiary, it is able to control the timing of the reversal of temporary differences associated with that investment (including the temporary differences arising not only from undistributed profits but also from any foreign exchange translation differences). Furthermore, it would often be impracticable to determine the amount of income taxes that would be payable when the temporary difference reverses. Therefore, when the parent has determined that those profits will not be distributed in the foreseeable future the parent does not recognise a deferred tax liability. The same considerations apply to investments in branches.” In the given scenario, for B Ltd., the company proposes to repatriate the surplus to its holding company in the foreseeable future and it cannot be repatriated in a tax-free manner. Thus, it is probable that the temporary difference would reverse in the foreseeable future. Thus, a deferred tax liability would be recorded for this temporary difference at the tax rate applicable to the repatriation of surplus by B Ltd. to its holding company on such portion which will reverse in the foreseeable future. To illustrate, if X Ltd. expects that out of the temporary difference of 1,80,000, X Ltd. expects to repatriate only - 1,00,000 and would re-invest the balance - 80,000 in B Ltd. itself or requires it for its working capital requirements. Thus, deferred tax liability would be recorded on 1,00,000 only as this is the amount which is reversible in the foreseeable future and not the entire amount. However, if it is probable that the temporary difference will not reverse in the foreseeable future (e.g. by way of dividend distribution or sale of investment), then no deferred tax liability is recognised on outside basis difference of 1,80,000 in the consolidated financial statements of X Ltd.