Just before Christmas, the SEC left a small present in the stocking of public companies: Staff Accounting Bulletin No. 118 (aka SAB 118). The bulletin is in response the Tax Cuts and Jobs Act, signed into law by the President on Dec. 22, 2017. As the SEC noted in its press release on SAB 118, the legislation is “one of the most significant overhauls to the United States federal tax code since 1986 and could have a significant impact on an entity’s domestic and international tax consequences.”
Given the scope of the tax code changes, the SEC recognizes that some companies won’t fully sort through their effects before they must issue financial statements for the reporting period in which the law goes into effect. For companies in that position, SAB 118 offers some welcome clarity—and relief.
The bulletin envisions three different scenarios, and provides guidance for each:
Scenario 1 – The issuer has finished accounting for the income tax effect of the new legislation (under FASB ASC 740) before its reporting is due: For companies in this position, the SEC affirms the fact that they must report the tax effect as they have determined it.
Scenario 2 – An issuer hasn’t completed its accounting of the tax effects of the new law, but it can provide a reasonable estimate: Under SAB 118, these issuers are allowed to (and, in fact, must) report their reasonable estimate of the income tax effect of the new law as a “provisional amount.” That amount can later be adjusted during a “measurement period.”
Scenario 3 – An issuer hasn’t completed its accounting of the tax effects of the new law, and cannot provide a reasonable estimate: Under SAB 118, when issuers cannot come up with a reasonable estimate of the income tax effects of the law, they are not required to provide one. Instead, they are guided to continue applying ASC 740 based on the law formerly in effect, until the first reporting period in which they can provide an estimate.
For scenarios 2 and 3, in which the issuer hasn’t completed its accounting, SAB 118 requires additional disclosures. Issuers must disclose why their accounting is incomplete and what additional information they need to complete the accounting, among other information.
Although it’s still early to ascertain the impact on businesses, we are starting to see disclosures around the new legislation, noting the benefit of the SEC’s new accounting guidance.
In its Dec. 29 10-K filing, ARK Restaurants wrote: “The new tax legislation contains several key tax provisions including the reduction of the corporate income tax rate to 21% effective January 1, 2018 as well as a variety of other changes including the limitation of the tax deductibility of interest expense, acceleration of expensing of certain business assets and reductions in the amount of executive pay that could qualify as a tax deduction. ASC 740 requires us to recognize the effect of the tax law changes in the period of enactment. However, the SEC staff issued SAB 118 which will allow us to record provisional amounts during a measurement period which is similar to the measurement period used when accounting for business combinations. We will continue to assess the impact of the recently enacted tax law on our business and our consolidated financial statements.”
SEC Director of the Division of Corporation Finance Bill Hinman noted that SAB 118 strikes a practical balance. “This guidance recognizes that investors demand and deserve high-quality information,” he said in a statement, “while also recognizing that entities may face challenges in accounting for one of the most comprehensive changes to the U.S. federal tax code since 1986.”
The SEC also issued Compliance and Disclosure Interpretation 110.02, which “gives the views of the SEC staff about the applicability of Item 2.06 of Form 8-K in terms of reporting the impact of a change in tax rate or tax laws in terms of the new Tax Cuts and Jobs Act.”