Amid tax season, CPAs should take heed of Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) No. 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures. The standard, which was updated in December 2023, made a significant stride toward enhancing income tax disclosures in financial statements and will provide investors with crucial information for better decision-making.

According to FASB Chair Richard R. Jones, “It requires enhanced disclosures primarily related to existing rate reconciliation and income taxes paid information to help investors better assess how a company’s operations and related tax risks and tax planning and operational opportunities affect the company’s tax rate and prospects for future cash flows.”

Newly Required Disclosures

Rate Reconciliation for Public Entities

For public business entities, CPAs should be aware that the ASU significantly expands rate reconciliation reporting. The update mandates the disclosure of various categories in a tabular format within the effective tax rate disclosure. This includes:

• State and local income tax
• Foreign tax effects
• Enactment of new tax laws
• Effect of cross-border tax laws
• Tax credits
• Changes in valuation allowances
• Nontaxable or nondeductible items
• Changes in unrecognized tax benefits

Reconciling items need to be separately broken out if their impact is greater or equal to 5% of the applicable statutory federal income tax rate (1.05% = 5% X 21% U.S. corporate tax rate).

Public entities are also required to provide qualitative disclosures, such as a description of state and local jurisdictions contributing to the majority of the state and local income tax category, and an explanation of the nature and effect of significant year-over-year changes on reconciling items.

Rate Reconciliation for Private Entities

Private entities are required to disaggregate rate effects similar to public entities but are allowed to do so in a qualitative manner as a disclosure, rather than the quantitative impact within the rate reconciliation.

Income Taxes Paid

The ASU aligns guidance for both public and private entities, requiring the disaggregation of income taxes paid on the statement of cash flows between federal, state and foreign taxes paid. Further disaggregation is required based on individual jurisdiction if the tax paid is 5% or more of the total balance of each category.

Other Updates

Finally, the ASU addresses certain disclosures to conform with Securities and Exchange Commission (SEC) standards, as well as to simplify reporting around disclosures where there was diversity in practice:

• Income (or loss) from continuing operations before income tax expense (or benefit) disaggregated between domestic and foreign.
• Income tax expense (or benefit) from continuing operations disaggregated by federal (national), state and foreign income.
• Elimination of requirement to disclose, such as:
  • The nature and estimate of the range of the possible change in unrecognized tax benefits in the next 12 months
  • A statement that an estimate of the range cannot be made

Next Steps for CPAs and Their Clients

The FASB’s ASU introduces additional requirements for income tax disclosures, necessitating companies to gather and report more information. While this may initially be burdensome, most companies are expected to have access to the required information, making the adjustment primarily a one-time effort at adoption. Establishing frameworks to compile and report this additional data within financial statements will be crucial for ongoing compliance.

The guidance is prospective, with retrospective application being optional. Public companies need to comply with the new standards for annual reporting periods beginning after Dec. 15, 2024. For all other entities, the amendments are effective for annual periods beginning after Dec. 15, 2025. Early adoption is permitted, providing companies with time to plan and implement the necessary frameworks.

With this change, stakeholders, including investors, will now have access to more comprehensive information about a company’s tax position, sources of cash flows and the jurisdictions in which it operates. While the benefits are evident, company management should be prepared for potential stakeholder inquiries based on the dissemination of more robust tax data, particularly around jurisdictional and cash tax information. Overall, this move by FASB aligns with the broader industry trend of increasing transparency in financial reporting to better serve the needs of investors and stakeholders alike.