IAS 12 paras 81(c), 81(g) tax reconciliation and deferred tax balances with detailed explanatory notes

Co-operative Group Limited – Annual report – 31 December 2018

Industry: retail, financial

8. Taxation
What does this show?
Our tax charge is made up of current and deferred tax – this note explains how those items arise. Additional explanatory footnotes are included to explain the key items. We were re-accredited with the Fair Tax Mark during 2018 and the additional disclosures we provide are in line with best practice guidance.

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The tax on the Group’s net loss before tax differs from the theoretical amount that would arise using the standard applicable rate of corporation tax of 19% (2017: 19.25%) as follows:

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*See general accounting policies section on page 192 for details of the restatement.

The net tax charge of £13m on a loss before tax of £143m gives an effective tax rate of -9% compared to the standard rate of 19%. The effective tax rate is negative as normally a loss before tax would lead to a tax credit rather than a tax charge. The main reason for this difference between the effective rate and the standard rate is the remeasurement adjustments recognised in arriving at the fair value of our insurance underwriting business following the decision to sell the business. The remeasurement
adjustments are not a deductible expense for tax purposes. Further information is provided about the remeasurement in note 9 (Loss on discontinued operations, net of tax).

Tax expense on items taken directly to consolidated statement of comprehensive income or consolidated statement of changes in equity

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Of the tax taken directly to the consolidated statement of comprehensive income, £36m charge (2017: £44m credit) arises on the actuarial movement on employee pension schemes. There is also a £1m credit representing the movement in deferred taxation on insurance assets held at fair value through other comprehensive income (2017: £1m credit). See note 14 for more details on deferred tax. A further £10m charge (2017: £nil) has been recognised in the consolidated statement of changes in equity arising from the impact of the adoption of IFRS 9 on liabilities.

The Finance Act 2016 will reduce the main rate of corporation tax to 17% from 1 April 2020. This will reduce our future current tax charge accordingly. Each deferred tax balance has been measured individually based on the tax rate at which it is expected to unwind (either 17% or 19%). This results in a blended deferred tax rate of 17.1% at the balance sheet date.

Tax policy
We publish our tax policy on our website (https://www.co-operative.coop/ethics/tax-policy) and we have complied with the commitments set out in that policy.

Footnotes to taxation note 8:
i) The Group is not tax-paying in the UK in respect of 2018 due to the fact it has a number of brought forward capital allowances (£170m gross claimed in 2018) and tax losses (£5m gross utilised in 2018) that are in excess of its taxable profit for the period. These allowances and losses are explained in more detail in note 14. An amount of current tax of £218k (2017: £265k) is in respect of a wholly-owned Isle of Man resident subsidiary, Manx Co-operative Society, a convenience retailing business in the Isle of Man. This is the Group’s only non-UK resident entity for tax purposes, which employs 265 out of our total Group headcount figure. All other colleagues are employed in the UK. The unaudited 2018 revenue of Manx Co-operative Society is £35m and all other revenue reflected in the consolidated income statement is generated by UK trading activities. The unaudited 2018 profit before tax of Manx Co-operative Society is £2m and all other income in the consolidated income statement is generated by UK trading activities. The unaudited net assets of Manx Co-operative Society at 5 January 2019 were £23m, compared to net assets of the consolidated Group of £3,069m. The Manx assets represent the only overseas assets within the Group. A full copy of the most recent accounts is available here https://www.co-operative.coop/investors/rules. The presence of this IOM resident subsidiary has resulted in this additional tax charge of £218k. If these activities had been carried out in the UK, any taxable profits would have been reduced to nil due to the availability of capital allowances and tax losses. In addition the Group has one company registered in the Cayman Islands, Violet S Propco Limited. This dormant company is UK resident for tax purposes as it is managed and controlled entirely within the UK. All tax obligations in respect of this company are therefore reported in the UK.
ii) The Group holds a creditor balance in relation to group relief claimed from The Co-operative Bank (‘the Bank’) (see note 21). Group relief is the surrender of tax losses made by one group company to another which made taxable profits. In 2012 and 2013, the Bank had tax losses that it was able to surrender to a number of Group companies which had taxable profits during those two years. This group relief payable is linked to and held at prevailing tax rates. The timing of the total group relief payable has further extended into periods when the tax rate will be 17% and a credit is required to be booked in the income statement in respect of this item.
iii) A payment for historic group relief has been received from The Co-operative Bank which reduces the tax charge by £2m as we did not have a debtor for this amount.
iv) Deferred tax is an accounting concept that reflects how some income and expenses can affect the tax charge in different periods to when they are reflected for accounting purposes. These differences are a result of tax legislation. The current year charge primarily relates to deferred tax arising on our pension assets and the tax consequences of adopting IFRS 15 (Revenue from Contracts with Customers). More information on IFRS 15 can be found in the general accounting policies section on page 192. Note 14 explains how each deferred tax balance has moved in the year. As the Group is not taxpaying in respect of 2018, the reconciling items between the tax credit at the standard rate and the actual tax charge mostly affect deferred tax as they will result in us having more capital allowances or losses to offset against future profits.
v) Adjustments to tax charges in earlier years arise because the tax charge in the financial statements is an estimate that is prepared before the detailed tax calculations are required to be submitted to HMRC, which is 12 months after the year end. Also, HMRC may not agree with a tax return some time after the year end and a liability for a prior period may arise as a result. Provisions for uncertain tax positions booked in previous years of £6m have been released in the year as a result of increased certainty gained through correspondence with HMRC during 2018.
vi) Some expenses incurred by the Group may be entirely appropriate charges for inclusion in its financial statements but are not allowed as a deduction against taxable income when calculating the Group’s tax liability. Examples of this include some repairs, entertaining costs and legal costs.
vii) The accounting treatment of depreciation differs from the tax treatment. For accounting purposes an annual rate of depreciation is applied to capital assets. For tax purposes the Group is entitled to claim capital allowances, a relief provided by law. Some assets do not qualify for capital allowances and no relief is available for tax purposes on these assets. This value represents depreciation arising on such assets (primarily Land and Buildings).
viii) In 2017 the Group disposed of its shareholdings in Gilsland Spa Ltd, White Mill Windfarm Ltd, Biggleswade Windfarm Ltd, TCCT UK Holdings Ltd and The Co-operative Bank. No tax arose on the accounting profit due to the availability of the Substantial Shareholding Exemption. This is a legislative exemption from capital gains for corporate entities who sell more than 10% of their shares in a trading entity.

In 2018, remeasurement adjustments have been recognised in arriving at the fair value of our insurance underwriting business following the decision to sell the business. We are not permitted to deduct the remeasurement adjustments when calculating our profits for tax purposes. Further information is provided about the remeasurement in note 9 (Loss on discontinued operations, net of tax).
ix) This represents the share of post-tax profits from associated companies that are not included in the Group’s tax charge, as tax is already included in the accounts of the associate.
x) During the year a number of assets were sold, where the taxable profit is in excess of the accounting profit.
xi) It is a requirement to measure deferred tax balances at the substantively enacted corporation tax rate at which they are expected to unwind. This figure represents the change in the tax rate at which these deferred tax balances are expected to unwind.

Accounting policies
Income tax on the profit or loss for the period is made up of current and deferred tax. Income tax is recognised in the income statement except to the extent that it relates to items recognised directly in reserves, in which case it is recognised in other comprehensive income. Current tax is the expected tax payable on the taxable income for the period, using tax rates enacted or substantively enacted at the balance sheet date, and any adjustment to tax payable in respect of previous years.

14. Deferred taxation
What does this show?
Our tax charge is made up of current and deferred tax as explained in note 8. We show an asset and a liability in the balance sheet to reflect our deferred tax. This note shows how those items are calculated and how they affect the income statement. Additional explanatory footnotes are included to explain the key items.

Deferred income taxes are calculated on all temporary differences under the liability method using an effective tax rate of 17.1% (2017: 17.1%). Temporary differences arise because sometimes accounting and tax requirements mean that transactions are treated as happening at a different time for accounting purposes than they are for tax purposes.

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The movements in the net deferred tax liability during the year are set out below:

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The Finance Act 2016 will reduce the main rate of corporation tax to 17% from 1 April 2020. This will reduce the company’s future current tax charge accordingly. Each deferred tax balance has been measured individually based on the tax rate at which it is expected to unwind (either 17% or 19%) by reference to forecast taxable profits for the Group. This results in a blended deferred tax rate of 17.1% at the balance sheet date, as the majority of the deferred tax assets and liabilities will be required and utilised in periods after April 2020.

*See general accounting policies section on page 192 for details of the restatement.

Footnotes:
i) This amount includes deferred tax liabilities in respect of the acquisition of Nisa Retail Limited and IFRS 9, see footnotes (viii) and (ix). These are offset by a deferred tax asset in respect of provisions. Certain expenses that have not yet been incurred are able to be recorded in the accounts as a provision. However, these expenses don’t receive tax relief until they have been paid for and so the related tax relief is delayed to a future period.
ii) This amount represents the theoretical amount of tax that would be payable by the Group on the wind up of the pension scheme. A £52m charge has been recognised during 2018. £36m of this charge has been recognised in other comprehensive income, with a further charge of £16m taken to the income statement.
iii) A deferred tax asset arises on capital allowances where the tax value of assets is higher than the accounts value of the same fixed assets. The reason the Group has a higher tax value for these fixed assets is due to the fact the Group has not made a full claim to its maximum entitlement to capital allowances since 2013 due to excess trading losses arising in recent years. However, impairment, disposals and depreciation have continued to reduce the accounts value for our assets. The Group expects to use these allowances to reduce future trading profits.
iv) This amount represents the theoretical amount of tax that would be payable by the Group on (a) the sale of all investment properties, (b) the sale of properties that have been restated at their fair value on historic mergers and transfers of engagements and (c) the sale of any property that has had an historic capital gain ‘rolled into’ its base cost (which is an election available by statute designed to encourage businesses to reinvest proceeds from the sale of trading properties into new trading properties and ventures).
v) This value arises from the claims equalisation reserve that is required by statute to be taxed in CIS General Insurance Limited, but no accounts value is required to be recognised for accounting purposes. From 1 January 2016 this balance no longer had to be held, and is being released evenly over a six year period. It also includes the amount of tax that is expected to be due on assets available for sale that are currently held on the balance sheet.
vi) The Group has incurred trading losses and interest losses that were in excess of taxable profits in the past. These losses can be used to reduce future trading profits and capital gains which are included in future tax forecasts for the Group. A provision of £2m included in this balance is in respect of uncertain tax positions, which is in respect of enquiries HMRC have opened in respect of March 1982 valuations used for capital gains purposes. In the event of an adjustment to the valuations used, an offset would arise in losses held by the Group.
vii) This movement is made up of current year movements as explained in footnotes (i) to (vi) above and a prior year adjustment. The net effect of the prior year adjustments in each of the above items is a credit of £6m, comprising a £1m charge on provisions, a £4m charge on capital allowances and a £11m credit on losses.
viii) This represents deferred tax arising on the acquisition of Nisa Retail Limited.
ix) This represents deferred tax arising from the impact of adoption of IFRS 9 on liabilities. More information regarding the adoption of IFRS 9 is provided in note 20 (Interest-bearing loans and borrowings).

Accounting policies
Deferred tax is provided for, with no discounting, using the balance sheet liability method, providing for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. The following temporary differences are not provided for: the initial recognition of assets or liabilities that affect neither accounting nor taxable profits, and differences relating to investments in subsidiaries to the extent that they will probably not reverse in the foreseeable future. The amount of deferred tax provided is based on the expected manner of realisation or settlement of the carrying amount of assets and liabilities, using tax rates enacted or substantively enacted at the balance sheet date. A deferred tax asset is recognised only to the extent that it is probable that future taxable profits will be available to use the asset against. Deferred tax assets are reduced to the extent that it is no longer probable that the related tax benefit will be realised.