Deferred taxation on investment properties

In this blog post, we take a look at accounting for deferred tax on investment properties under FRS 102.

 

The requirements of the standard

FRS 102 requires investment properties to be measured at fair value at each reporting date with changes in fair value recognised in profit or loss. It also requires a deferred tax provision to be recognised on investment property that is measured at fair value irrespective of whether the entity is likely to sell the asset and rollover any relief. Such deferred tax is measured using the tax rates and allowances that apply to the sale of the asset except where the asset has a limited useful life and all of the economic benefits are expected to be consumed.

 

An example

The easiest way to understand deferred taxation is to have a look at some simple figures.

Client ABC Ltd has a year end of 31 December and owns an investment property which was originally purchased for £1m. The fair value of the investment property at 31 December 2018, 2019 and 2020 was £2m, £2.5m and £2.2m respectively.

When calculating the deferred taxation for the investment property we use the tax rates and allowances applying to the sale of the asset which have been enacted or substantially enacted by the balance sheet date. As such, we look at the difference between investment property’s fair value and its indexed cost. Indexed cost has been calculated at £1.6m at end of 2017 which remains frozen thereafter.

 

 

	2018	2019	2020
Fair value (reflected in accounts)	2,000,000	2,500,000	2,200,000
Indexed cost	1,600,000	1,600,000	1,600,000
	400,000	900,000	600,000
Deferred tax rate used	17%	17%	19%
Deferred tax (liability)	68,000	153,000	114,000

 

 

NB. The changes from the 2021 budget, wouldn’t have been substantially enacted by the balance sheet date of 31 December 2020 so would not be in the calculations.

 

The 2019 accounts

In the 2019 accounts the following entries will be required:

Dr Investment property £500,000

Cr P&L £500,000

To reflect the increase in the fair value of the investment property.

 

Dr P&L £85,000

Cr Deferred tax liability £85,000

To reflect the increase in the deferred tax liability required.

 

Where a separate non-distributable reserve is maintained in respect of the investment property, the net £415k credit to the P&L would be transferred from the P&L reserve into the non-distributable reserve.

 

The 2020 accounts

In the 2020 accounts the following entries will be required:

Dr P&L £300,000

Cr Investment property £300,000

To reflect the decrease in the fair value of the investment property.

 

Dr Deferred tax liability £39,000

Cr P&L £39,000

To reflect the decrease in the deferred tax liability required.

 

Where a separate non-distributable reserve is maintained in respect of the investment property, £261k would be transferred from the non-distributable reserve to the P&L reserve to reflect it becoming realised.

 

How Mercia can help?

Our ‘Accounting and Compliance for OMBs – Problems and Practical Solutions’ course cover the most common issues that arise in practice and include investment properties and deferred taxation. Please see here for an overview of the content.