Adhere to the matching principle when using accrual accounting. According to this principle, expenses are to be recognised when obligations are incurred and offset by revenues that stem from those expenses. But this relatively simple concept can become more complicated in some instances, such as an acquisition with resulting tax amortisation benefits. A tax amortisation benefit is the cash flow generated from an asset as a result of being able to write off the full fair value of that asset for tax purposes. This benefit can affect the fair value of an asset by as much as 20 to 30 per cent. For example, assume an asset worth £260 that will produce £6 a year for a period of 10 years and also has a useful life of 10 years.

- Skill level:
- Easy

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## Instructions

- 1
Determine the discount rate (Dr). This is generally the market interest rate. For example, Dr equals 10 per cent.

- 2
Discount all projected cash flows from the asset using the discount rate and using the formula PVCF = Payment Value ((1-(1/(1+Dr)^Number of Periods))/Dr). PVCF is the present value of cash flows from the asset.

For example, PVCF = £6 ((1-(1/(1+.10)^10)) / .10. Therefore, PVCF = £39.9.

- 3
Identify the amortisation period (n). This is the same as the useful life of the asset. For example, n equals 10 years.

- 4
Identify the applicable tax rate (T). For example, T equals 30 per cent.

- 5
Calculate the present value of an annuity of 60p (PVA) over the amortisation period, at the discount rate. Use the following formula: PVA = 60p ((1-(1/(1+Dr)^n))/Dr).

For example, PVA = 60p ((1-(1/(1+.10)^10))/.10). Therefore, PVA = £3.90.

- 6
Calculate the tax amortisation benefit (AB) using the following formula: AB = PVCF * (n/(n-(PVA

*T))-1). For example, AB = 61.45 * (10/(10-(6.14*.30))-1). Therefore, AB = £55.8.

#### Tips and warnings

- Account for tax amortisation benefits when determining the fair value of an asset, as benefits can be significantly large for valuable assets that produce large amounts of cash flow.
- If you don't take into account tax amortisation benefits when determining fair value, you may violate the matching principle by recording deferred tax liabilities.