Impact of Accounts in Taxation including ICDS

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1 Impact of Accounts in Taxation including ICDS CA K Gururaj Acharya, Bengaluru Various judicial authorities in India, including the Supreme Court, have recognized the accounting principles and accounting standards while deciding tax disputes. There have also been instances when Courts have purposefully synchronized the statements / Guidance Notes / Accounting Standards issued by the institute while deciding about certain issues from the taxation point of view. The Hon ble Supreme Court in Challapali Sugars Ltd. V/s. CIT (98 ITR 167) and again in CIT vs. Bokaro Steel Ltd (236 ITR 315) has accepted the principle that pronouncements of accounting bodies are relevant in determining commercial profits. However, there have also been occasions when appellate and judicial forums have not followed the accounting principles and Accounting Standards for determining certain issues under the tax laws. This is for the reason that the courts, having recognized the authenticity of accounting principles and Accounting Standards, have felt that in the matter of Computation of Income, effect should be given to the specific provision of the tax laws. The Hon ble Supreme Court in Tuticorin Alkali Chemicals and Fertilizers Ltd. V. CIT (227 ITR 172) has decided that the argument based on accountancy practice has little merit if such practice cannot be justified by any provision of the statute or contrary to it. What appears to emerge from the above scene is that, whenever there is a specific provision in the Act, that provision would over ride the Accounting Principles and Accounting Standards. For example, the expenses specified u/s 43B of the Act would be added back to profits, if it is not paid within the due dates for filing the income tax returns, although such expenses are to be considered on accrual basis as per the Accounting principles. In the absence of any specific provision in the Act, profits for the purpose of taxation have to be determined as per commercial principles. Accounting practices and standards, which are widely accepted and adopted, would be a good guide for determination of commercial profits. ICAI being the official body of accountants, any pronouncement or Accounting Standard issued by the Institute are relevant for determining the commercial income. WEF December 7 th 2006 all the Accounting Standards [from AS-1 to AS-29] issued by ICAI have been statutorily recognized by bringing it under The Companies Accounting Standard Rules CBDT under the power conferred U/s. 145(2) of the Income Tax Act has notified 10 Income Computation and Disclosure Standards ICDS, which is applicable to All assessees following mercantile system without any thresholds; Having Income under Business & Profession or Income from other Sources For computation of Income and not for the purpose of maintenance of books of accounts. ICDS was to be applicable WEF 1 April [AY ] but has been deferred by one year thro press release dated 6 th July 2016 Notification awaited!! A pointer to the major differences and agreement for various business transactions between that prescribed by the Accounting standards with its corresponding treatment in Income Tax and applicable ICDS is summarized below:

2 AS-1 Disclosure of Accounting Policy S.128 of Cos Act- Books to be on accrual basis and according to Double entry system of accounting. - NAS WEF substituted as Income Computation and Disclosure Standards - S.145(1) Either Cash or Mercantile System of Accounting. - 44AD, 44AE, 43B Prudence & Materiality not considered. AS-2 Valuation of Inventories - S. 145A -Valuation of Purchase & sale of goods & inventory - include any tax, duty, cess or fee Cost Formula as per AS-2, but - Standard Cost Technique not acceptable - Distribution expenses also to be included in cost of inventory - Recording Inventories is now required for service providers AS-3 Cash Flow Statements AS-4 Events occurring after the BS date S. 43B, S.36(1)(viia), S.40(a)(i) & S.40(a)(ia) AS-5 NP/L for the period, Prior period Items & changes in AP Charging S.4, 28 & 56, NAS-2, S.145, S.40A(3) AS-6 Depreciation (Merged with AS 10 as Property Plant and Equipment) S. 32, Rule 5 r/w Appendix - 1A AS-7 Construction Contracts Case Laws, S. 44AD, S.50C,S.43CA, S.56(2)(vii) - Recognize income under Percentage of Completion Method (CCM is not permitted under ICDS - Also in AS) - Expected loss on contract not recognized (Loss allowed in the year in which it is actually incurred) - Contract revenue to be recognized beyond 25% stage, if not done (AS only states in subjective terms that early stage revenue must not be recognized - whereas ICDS states that Contract revenue must be recognized beyond 25%) - Contract Revenue not recognized becoz Construction Cost Not recognized as expenditure is not capable of being measured reliably. - Contract Revenue not recognized becoz Estimating outcome of contract cannot be reliably measured. CA. K.G. Acharya Page 2 of 6

3 - Incidental revenue (Interest /dividend) to be taxed separately and not to reduce from contract cost. AS-9 Revenue Recognition Vs. Ind AS 18 Revenue Recognition S. 145A Impact of Fair Value Accounting ICDS - Revenue recognition criteria in ICDS-III -CC shall apply Mutatis Mutandis. - Revenue from service transactions to be recognized under Percentage of Completion Method (if following CCM, which is a permitted option in AS) - Revenue not recognized becoz Amount of Revenue cannot be measured. [If Collectability is at stake, RR can be deferred like in AS] - Claim Bad debts without writing off in books iff it has been taken into account in computing income in any earlier year on the basis of notified ICDS. [Budget 2015] AS-10 Fixed Assets [PPE] S.2(11), S. 43(1), S.43(6), S.35D Source for funding - S.69 unexplained investments, S.69A unexplained money, etc., S.69B Amount of investments, etc., not fully disclosed in books, S.56(2)(vii). ICDS - Disallowance of any asset debited as expenditure on account of materiality. - Exchange of Asset - Actual cost of asset acquired would be FV of TFA so acquired, as per ICDS. (AS-10 gives option of recording it at FMV of asset given up, if it is more clearly evident) AS-11 Effects of changes in Foreign Currency Rates S.43A: Pay capitalize claim depreciation on imported FA. [Same in ICDS] For all others, AS-11 Treatment OK, following SC in Woodward Governor India (P) Ltd ( ITR 451 Delhi) Following shall be recognized at the time of settlement. [No MTM on BS date as in AS-11] Premium, discount or exchange differences intended for Trading or speculation or Hedging FC risk of a firm commitment or highly probable forecast transaction [Excl. those entered to hedge FC risk of Existing A/L] AS-12 Government Grants Expln.10 to S.43(1)- [Also re-iterated in ICDS] - All GG to be recognized as income except relating to depreciable asset. Definition of Income U/s. 2(24) amended to bring clarity & align with ICDS. [Budget 2015] - GG Recognition cannot be postponed beyond date of actual receipt. CA. K.G. Acharya Page 3 of 6

4 AS-13 Investments Investment Vs. Business- Circular. S. 2(47) Vs. Loss due to diminution in value of LT Investment. S.56(2)(vii) & (viia) - Cost based valuation for unlisted or unquoted listed securities (AS-13 Valuation based on Current or LT for ALL investments but ICDS permits) - Cost of Securities as per AS: Specific identification failing which FIFO/Weighted Avg (whereas Weighted avg. is not allowed as per ICDS) - Comparison of cost or NRV of securities as per ICDS done category wise and not individually as permitted in AS Investment acquired in exchange of Asset - Actual cost of Investment acquired would be FV of Investment so acquired in ICDS. (AS-13 also gives an option of recording it at FMV of the asset given up, if it is more clearly evident) AS-14 Amalgamations, Mergers S.2(1B), 72A, 79 - Expenditure incurred on amalgamation or demerger allowed in 5 EYI [S. 35DD] AS-15 Employee Benefits S.40A(7), S.35DDA, S.43B, S.2(24)(x) r/w 36(1)(va) AS-16 Borrowing Cost S.36(1)(iii), Expn.8 to S.43(1), S.14A r/w Rule 8D - Borrowing cost debited to P&L on TFA & IA not being qualifying asset (SPT< 12M period for construction) as per AS-16 [Such BC needs to be capitalized as per ICDS - Presently also so due to proviso to S.36(1)(iii)] - Borrowing cost debited to P&L "being incurred on TFA & IA whose active development is suspended" as per AS-16 [Such BC needs to be capitalized for Income Tax purpose] - Borrowing cost debited to P&L "being certain ED on forex loans to extent regarded as adjustment to interest cost as per AS-16 [para 4(e)] [ICDS does not permit such adjustments] - Income from temporary use of unutilized borrowed funds - otherwise deducted from BC as per AS-16. AS-17 Segment Reporting Total Income vs. Speculation Business. AS-18 Related Party Disclosures S.40A(2)(b), S.56(2), S.2(22)(e), S.92 & S.92BA CA. K.G. Acharya Page 4 of 6

5 AS-19 Leases - Lessor can claim depn. [CBDT cir. No.2/2001] - Expln. 4A to S.43 AS-20 EPS AS-21 Consolidated FS [CFS] AS-22 Deferred Taxes AS-23 Accounting for Investment in Associate in CFS AS-24 Discontinuing Operations - S 46 - CG on distribution of assets by Co s in Liquidation Not taxed in Co. s hands but in the hands of the shareholder Discontinued Business PY itself may be treated as AY. [Any person discontinuing his B/P shall give to the AO notice of such discontinuance within 15 days thereof] Association dissolved or business discontinued May be disregarded by AO for assessment Co. in liquidation. AS-25 Interim Financial Reporting AS-26 Intangible Assets [Proper amortizations required. Ensure no Intangible Item in Balance Sheet.] Rule 5 r/w Appendix 1A, S.35(2AB), S.35D AS-27 Fin. Reporting of Int. in JVs AS-28 Impairment Assets AS-29 Provisions & contingencies S.43B, and Case laws - Disallowance of Provision for loss on Onerous Contracts. CA. K.G. Acharya Page 5 of 6

6 - Disallowance of Provision in P&L due to its existence considered as Probable as per AS-29 Vs. Reasonable certainty as per ICDS Ex: Provision for warranty at higher than the past trend done out of extra caution / prudence. - Effect of recognizing contingent asset to asset & related income due to its Inflow of economic benefits being "Reasonably certain" as in ICDS Vs. Virtual certainty as per AS-29 AS-30 FI Recognition & Measurement AS-31 FI Presentation AS-32 FI- Disclosures Conclusion The above tables depict the differentiation between the accounting principles vis-à-vis the income tax provisions. The objective of Accounts and financial reporting envisaged in Accounting Standard is to show a true and fair view of the financials of the entity whereas the objective of Income Tax is to collect revenue by considering accounting as the basis and thereafter providing various incentive and disincentive wherever required, by using the Carrot & Stick approach. The only place where tax is charged on the profit as worked out in accounts [with certain minor adjustments], is while applying MAT/AMT provisions of Income Tax Act. Entities and the professionals associated have to keep the impact of accounts in taxation as pointed above, while discharging their responsibilities. CA. K.G. Acharya Page 6 of 6

ICDS Impact on Computation of Income

ICDS Impact on Computation of Income Ajinkya Jagoje Partner abm & associates LLP Chartered Accountants 1 Background in brief Introduction ICDS notified by Central Government (CG) as a delegated legislation