No Break on FIN 48

The Financial Accounting Standards Board shocked the green-eyeshade crowd in mid-January by refusing to postpone the effective date of its Interpretation No. 48, “Accounting for Uncertainty in Income Taxes.” Despite some 400 comment letters from corporations, many urging the board to give them a little more time, the FASB decided that companies whose fiscal years began on Dec. 15, 2006, or later will have to comply by the end of the first quarter.

Known as FIN 48, the rule means more work for audit committees, whose oversight duties include ensuring that their companies are in compliance. That means querying the CFO, comptroller or tax specialist about what has been done to bring the books up to par.

FIN 48, which applies only to income taxes, has two main parts. The first step says businesses must determine whether it is “more likely than not” that a tax position would be sustained under examination by tax authorities, after any appeals or litigation are resolved. In the second step, the business measures the tax position to determine the amount of benefit recognized in its financial statements. That benefit should be the largest amount likely to be realized upon “ultimate settlement,” which essentially refers to what the company and the IRS would agree on after an inquiry.

Companies have Enron and WorldCom to thank for FIN 48, because it is designed to make sure that transactions (such as the spinoff of nebulous offshore “entities”) have economic substance and aren’t just tax shelters. Your audit firm can’t help with this rule. “The audit companies are conflicted out from doing FIN 48,” says Michael Wolff, a partner at New York accounting firm Eisner LLP.

Also, in this as in other matters, under Section 404 of Sarbanes-Oxley, “the audit committee has to act independently of the CFO,” says Thomas J. Kenny, a tax partner at law firm Varnum, Riddering, Schmidt & Howlett in Grand Rapids, Mich. “Members must use their own business judgment.”

The good news is that FIN 48 applies to aggressive or unusual tax positions. Only three or four transactions a year are likely to be considered material for its purposes—not uncertainty over, say, a $100,000 deduction. Still, audit committees have a fresh responsibility to know how transactions were put together and why. “FIN 48 should go on the checklist,” says Wolff. “That’s why you need a financial person on the audit committee now.”