What happens when a business shuts down a product line or sales office? These operations still need to be accounted for in any relevant financial records. Find out how to report income from discontinued operations below, both for accounting and tax purposes.
What does discontinued operations mean?
Discontinued operations refer to any aspect of a business’s operations that are no longer required or profitable.
Examples of discontinued operations could include:
Closure of unprofitable division
Redundancy due to merger
Sale of a product line
Discontinuation of outdated services
Though the operations are discontinued, if there’s any related income and/or expenses these must still be reported on the company’s financial statements. The income statement discontinued operations information is listed on a separate line from continuing operations.
Reasons for discontinued operations
There are numerous reasons why businesses might list discontinued operations. It’s normal for a company to change and grow as time goes by. Certain product lines might no longer be profitable due to market trends or outdated technology, for example. Obsolete machinery and equipment might no longer be useful, or the company might need to shut down a branch in a region that’s no longer a viable market. Segments of the business might be sold to another company, or the business model might shift entirely.
These are all examples of typical changes that a company goes through in its lifespan, all of which could qualify for discontinued operations.
Discontinued operations accounting practices
There are a few rules to keep in mind when recording expenses or income from discontinued operations. The first is that these items must be kept separate from continuing operations on the income statement, to avoid any confusion among investors or shareholders.
Discontinued operations accounting procedures should follow regulatory standards, either in line with the International Financial Reporting Standards (IFRS) or Generally Accepted Accounting Principles (GAAP). If you’re based in the US, you’re likely to be using GAAP.
Reporting under IFRS
According to IFRS regulations, discontinued operations should be reported on the income statement provided they meet the following criteria:
The asset or division should already have been disposed of by the company or reported as being up for sale.
The component is recognised as a separate business, and it must be either removed intentionally or there must be intent to sell it in the near future.
Reporting under GAAP
The discontinued operations GAAP reporting criteria is similar to IFRS, but there are a couple of differences in wording and intent. Like IFRS, two main criteria must be met:
When the component is discontinued from the business, this eliminates all operations and cash flow from the company’s overall operations. Discontinued means discontinued, with no new income generated after the sale.
The discontinued operation can no longer have any involvement with the original company. The original company can’t hold any continuing influence over the operations after they’ve been sold.
Also, unlike the IFRS requirements under GAAP the component cannot be listed for sale; the transaction must be completed.
Is income from discontinued operations taxable?
We’ve touched on the income statement discontinued operations rules above, but how must this type of transaction be reported for tax purposes? The situation will depend on the timing of the sale. For example, if the component ceases operations at the end of an accounting period, it will still yield a gain or loss which needs to be reported.
One thing to take into account is that discontinued operations often operate at a loss, which is why they’re discontinued in the first place. This might lead to tax relief, but be sure to weigh the losses against the company’s continuing, revenue-generating operations. As long as the company’s still generating revenue overall, this will probably balance out the loss of discontinued operations. Be sure to consult with an accounting professional if in doubt.
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