Tax losses present a relatively complex financial modelling problem. Imagine that our Excel model were in a stress case, and the business was making losses. If the tax charge in the model is calculated as the corporate tax rate (%) multiplied by Profit Before Tax, then the model will end up forecasting that a loss making business is going to receive income from the tax authorities. However, in most tax jurisdictions a loss making business would expect to pay no tax. Instead tax losses would be ‘banked’. Once the business was profitable again, profits would be offset against the bank of accumulated tax losses, with the business paying no tax until past tax losses were used up. Once tax losses were used up, the business would start paying tax again at the corporate tax rate.
Elements of the financial modelling problem
To solve the problem we need to model a bank of tax losses. If the business is making a loss, then the business pays no tax and the bank of tax losses increases. If the business is making a profit, then the business doesn’t pay any tax until the bank of tax losses is utilised. Once the bank of tax losses is fully utilised, the business starts paying tax again. It’s a reasonably complicated financial modelling problem.
Modelling tax losses: an example
This Excel spreadsheet: tax losses gives you an overview of how to solve the problem. Instinct might drive you towards solving the problem with a group of IF functions. In the example though, you will find the problem broken into a series of short steps, with Max and Min functions used as a shorter alternative to IF functions.
About this free online training material
You’re looking at free online material on Excel functions extracted from our financial modelling course training.