Income Computation & Disclosure Standards CA Gaurav Jain & CA Gaurav Makhijani
Agenda ICDS A brief overview Critical analysis of ICDS ICDS V (Tangible Fixed Assets) ICDS VI (Effects of changes in foreign exchange rates) ICDS VIII (Government Grants)
ICDS - A Brief Overview
ICDS A Brief Overview 10 ICDS have been notified by CBDT - effective from April 1, 2016 (i.e. FY 2016-17) Applicable to all tax payer(s) 1 following mercantile system of accounting with respect to PGBP and IOS For applicability of ICDS - no minimum threshold or exemption granted Objective of ICDS - To provide consistency in accounting procedures while computing taxable income and to reduce tax litigation No separate books of accounts are required to be prepared by a Taxpayer Methodology of MAT Computation continues to be same - based on book profits Reporting required in tax audit report 1 Except Individuals and HUFs not liable for tax audit u/s 44AB
ICDS has been notified u/s 145 - Is Section 145 a Charging Section? Section 145 a computation mechanism and not a charging section held by SC in A krishnaswai Mudaliar & others (53 ITR 122) Standard Triumph (67 Taxman 160) Under Section 145, the Assessee s regular method of accounting determines the mode of computing the taxable income but it does not determine or even affect the range of taxable income or the ambit of taxation - SC in the case of State Bank of Travancore (158 ITR 102) Whether ICDS is only a computation provision and not a charging provision?
Does ICDS override the Act? Held by Various courts Remarks Rules can be resorted to for the purpose of construing the provisions of a statute only where the provisions are ambiguous / doubtful and a particular construction has been put upon the statute by the rules - Delhi HC in the case of All India Lakshmi (150 ITR 1) In case of existing differing views regarding provisions of the Act, ICDS may have persuasive value with regard to transactions on or after April 1, 2016 Rules made under the Act must be treated as if they are in the Act and have the same force as the Sections in the Act SC in the case of Ajanta Elec (215 ITR 114, 119) No exercise of rule-making power can affect, control, enlarge or detract full operative effect of provisions of the Schedules / Sections; any rule that purports to do so would be ultra vires and void even though the Statute provides that it shall have the effect as if enacted in that Statute SC in the cases of Chenniappa (74 ITR 41), Ajanta Elec (215 ITR 114) and Bombay HC in the case of K. T. Udeshi (114 ITR 542) Although ICDS must be treated as a part of the Act, it remains a delegated legislation ICDS cannot affect, control, enlarge or detract full operative effect of provisions of the Act
Does ICDS override the Act? Held by Various courts Remarks A notification that has the effect of curtailing the scope of a deduction granted under the Act or imposing a tax without authority of law will be invalid SC in the case of Sirpur Paper (237 ITR 41) ICDS cannot curtail a deduction or impose tax As far as possible the Act should be construed in such a way as to reconcile various provisions and unravel apparent conflict into harmony, bearing in mind that a general provision cannot derogate from a special provision regarding a certain class of cases various HC cases ICDS and other provisions of the Act must be read harmoniously Act and ICDS must be read harmoniously
Preamble to ICDS In case of conflict between the provisions of Act and ICDS, the provisions of the Act shall prevail to that extent If Act contains a provision and the same is clear, Act shall prevail over ICDS. What if Act is silent or unclear?
Supreme Court judgement Law of Land Supreme Court is the law of the land since Article 141 of the Constitution provides that the Law declared by the Supreme Court is binding on all Courts within the territory of India Following SC cases lay down this principle: U.P. Pollution Control Board vs Kanoria Industrial Ltd. (259 ITR 321) Shenoy And Co. vs The Commercial Tax Officer (1985 SCR (3) 659) Assistant Collector Of Central vs Dunlop India Ltd. And Ors (1985 SCR (2) 190 SC) Based on above, Supreme court s judgments' declares the Act as it always stood
Approach for resolving conflicts
Critical analysis of ICDS
ICDS V: Tangible Fixed Assets
ICDS V: Tangible Fixed Assets Highlights Covers assets (such as land, building, machinery, plant, furniture) held with an intention of being used for producing goods / providing services. Not applicable to assets held for sale in normal course of business. Whether the judicial precedents holding that the nature of software would determine that whether the expenditure is revenue or capital in nature would continue to hold good? Tangible fixed asset to be recorded at actual cost including purchase price, taxes (excluding those that are recoverable) and any other direct cost for making the asset ready for its intended use Stand-by equipment and service equipment to be capitalized Spares / consumables need to be expensed-off If connected with a particular fixed asset and used irregularly - to be capitalized In case of assets exchanged, fair value of cost of asset acquired needs to be considered Consolidated price for acquiring group of assets shall be apportioned on fair basis
ICDS V: Tangible Fixed Assets Highlights Cost of improvement (which increases the previously assessed level of performance) to be capitalized, otherwise to be expensed-off Whether minor improvement or repairs (such as, replacement of computer RAM or hard disk) needs to be capitalized? What about major inspection costs (such as, aircraft interiors)? Under Ind-AS such inspection costs to be capitalized if recognition criteria is met. Depreciation and capital gain on transfer of asset will be as per the Act Only deals with tangible fixed assets. Unlike AS-10, it does not provide for Goodwill Revaluation of assets not permitted under ICDS Silent on decommissioning, restoration and similar liabilities. Under Ind-AS such costs to be capitalized. Master Master Actual cost defined u/s 43(1); depreciation to be computed u/s 32; and capital gains to be computed u/s 45. Limited purpose is served by ICDS V (Tangible Fixed Assets).
ICDS V: Tangible Fixed Assets Initial Cost of starting the project Expenditure on start-up and commissioning of a project to be capitalized [Para 8 ICDS V- refer Appendix] Expenditure post commencement of commercial production to be expensed-off Treatment of costs for time period between trial run and commencement of commercial production is unclear Construction / acquisition of asset Commercial production Trial run ready to use Capitalize as per ICDS 1 Revenue as per ICDS Capitalize or revenue expense? 2 1 Also held by Gujarat HC in the case of Saurashtra Cement (127 ITR 47), Delhi HC in the case of Food Specialities (136 ITR 203), Bombay HC in the case of G T Industries (203 ITR 538) 2 On a combined reading of ICDS, a view emerges that expense incurred during the period between trial run and commercial production may have to be capitalized. Also, stands clarified vide Ques No. 15 of the FAQs issued by CBDT on 23.03.2017
ICDS VI: Changes in Foreign Exchange Rates
ICDS VI: Changes in Foreign Exchange Rates Scope Enterprise carrying activities involving foreign exchange Treatment of transactions in foreign currencies Translating financial statements of foreign operation Treatment of foreign currency transactions in the nature of forward exchange contracts Master Master Like other ICDS - applicable only for computation of income chargeable under the head PGBP or Other Sources
Foreign currency translation
ICDS VI: Changes in Foreign Exchange Rates Some important terms Foreign currency transaction A transaction which is denominated in or requires settlement in a foreign currency, including transactions arising when a person :- (i) Buys or sell goods or services whose price is denominated in a foreign currency; or (ii) Borrows or lends funds when the amount payable or receivable are denominated in a foreign currency; or (iii) Becomes party to an unperformed forward exchange contracts; Master or (iv) Otherwise acquires or disposes of assets, or incurs or settles liabilities, denominated in a foreign currency. Master
ICDS VI: Changes in Foreign Exchange Rates Some important terms Monetary Items Means the money held and assets to be received or liabilities to be paid in fixed or determinable amount of money. Eg. Cash, receivables, payables, etc. Non-monetary Items Assets & liabilities other than monetary items Eg. Fixed assets, inventories, investments in equity shares, etc. Master Master
ICDS VI: Changes in Foreign Exchange Rates Initial recognition Foreign currency amount Exchange rate at the date of transaction Amount in reporting currency Initial recognition - exchange rate at the date of transaction An average rate for a week or a month might be used for all transactions during that period Master Master o However, if exchange rates fluctuate significantly, the use of exchange rate for a period is unreliable No key deviation from AS No change in tax positions
ICDS VI: Changes in Foreign Exchange Rates Conversion at last date of each previous year Monetary Items Foreign currency amount Closing rate Amount in reporting currency Monetary items to be converted by applying the closing rate o Where closing rate does not reflect with reasonable accuracy or is unrealistic Master Master relevant monetary item shall be converted at the amount which is likely to be realized from or required to disburse such item at the last date of previous year. No key deviation from AS No change in tax positions
ICDS VI: Changes in Foreign Exchange Rates Conversion at last date of each previous year Non-monetary Items Inventory carried at NRV denominated in foreign currency Rates that existed when such value was determined Others Rates at the date of transaction Master Master No key deviation from AS No change in tax positions
ICDS VI: Changes in Foreign Exchange Rates Recognition of exchange difference Particular On last day of On settlement previous year Monetary items Yes Yes Non-Monetary items No Yes Above provisions are subject to section 43A of Act Master Master
Financial statements of Financial operations
ICDS VI: Changes in Foreign Exchange Rates Translation Translation to be done using the principles and procedures laid down for foreign currency transactions Revised ICDS VI has done away with the distinction between Integral and Non-Integral Foreign Operations Master Master
ICDS VI: Changes in Foreign Exchange Rates ICDS vis-à-vis AS Particulars ICDS AS Monetary Items Integral Financial Operations Non-Integral Financial Operation Non-monetary Items Integral Financial Operations Non-Integral Financial Operation Exchange difference is recognized as income or expense Exchange difference not recognized Same as ICDS Difference is recorded in FCTR and recognized at disposal* Exchange difference is recognized as income or expense Similar Master to ICDS exchange Master difference is accumulated in FCTR * Question No. 16 of FAQ issued by CBDT FTCR balance as on 1 st April 2016 pertaining to exchange difference on monetary items for non-integral operations to be recognized in AY 2017-18 (to the extent not recognized in the income computation in the past)
Forward exchange contracts
ICDS VI: Changes in Foreign Exchange Rates ICDS vis-à-vis AS Particulars ICDS AS Premium / discount Exchange difference on restatement (on MTM basis) at year-end Exchange difference on renewal or cancellation To be amortized over the life of contract To be recognized as income / expense To be recognized as income / expense Same as ICDS Above provision are applicable only where contract is - Not intended for trading or speculation purpose Contracts is entered into to establish the amount of reporting currency required or available at the settlement date of transaction Master Master
ICDS VI: Changes in Foreign Exchange Rates ICDS vis-à-vis AS Forward contract entered For trading or speculation purposes To hedge firm commitments or a highly probable transaction ICDS Premium / discount / exchange difference accounted for on settlement basis AS Premium / discount is ignored MTM gain / losses is recognized MTM losses are recognized. MTM gains are ignored* * Under Ind-AS MTM gain / losses to be recognized as income / expense in OCI Master Master
Open issues
ICDS VI: Changes in Foreign Exchange Rates Open issues Income / loss needs to be recognized in case of revaluation of loan / payables related to fixed assets (except as covered under Sec 43A) Whether in case of Indian asset purchased with foreign loan, gain / loss on revaluation thereof may be recognized in the tax computation??? Earlier, few courts have held that the same is capital loss / gain and hence, not tax deductible / chargeable to tax. Critical Analysis Treatment of derivatives contract like cross currency swaps, futures, interest rate swaps etc.??? Under AS - Forward exchange contract means an agreement to exchange different currencies at a forward rate. Under ICDS - An agreement to exchange different currencies at a forward rate, and includes a foreign currency option contract or another financial instrument of a similar nature. Master Master
Reconciliation of ICDS vis-à-vis AS
ICDS VI: Changes in Foreign Exchange Rates Reconciliation of ICDS vis-à-vis AS Effect of foreign exchange difference on purchase of indigenous assets (not covered under Section 43A) Transitional provision w.r.t. FCTR balance as on 1 April 2016 and effect of exchange difference on monetary items in case of Non Integral financial operations Effect of exchange difference on non-monetary items Integral Financial Operations Premium / discount / exchange difference on forward contract entered for trading / speculation or for hedging of firm commitments or a highly Master probable transaction Master
ICDS VII: Government Grants
ICDS VII: Government Grants Highlights Scope of ICDS VII Deals with the treatment of Government grants (by whatever name called such as subsidies, cash incentives, duty drawbacks, waiver, concession, reimbursements etc.) Does not cover government assistance; Excludes government participation in the ownership of the enterprise Conditions for recognition of Government Grants Government grants not to be recognized until there is a reasonable assurance that :- The person shall comply with the related conditions attached; and The grants shall be received Government grants shall not be postponed beyond the date Master of actual receipt Master deviation from AS
ICDS VII: Government Grants Treatment of Government Grants All government grants related to depreciable fixed assets needs to be reduced from cost of the asset Grants received for a group of assets needs to be apportioned Grants for compensation of expense / loss or for giving immediate financial support with no further related costs - to be recognized as income in the year in which it is receivable Grants relating to non-depreciable assets and other grants to be recognized as income :- on upfront basis - if there is no condition attached; or on proportionate basis - over the period of time over which related cost is charged to income Master Master Grants in the form of non-monetary assets, given at concessional rate, shall be accounted for on the basis of their acquisitions Definition of grant also amended in the Income-tax Act
ICDS VII: Government Grants Grant under Income-tax Act Amendment of definition of income under section 2(24) of the Act - assistance in the form of a subsidy or grant or cash incentive or duty drawback or waiver or concession or reimbursement (by whatever name called) by the Central Government or a State Government or any authority or body or agency in cash or kind to the assessee other than, (a) the subsidy or grant or reimbursement which is taken into account for determination of the actual cost of the asset in accordance with the provisions of Explanation 10 to clause (1) of section 43; or.. Whether following be taxable as grants? Concessional loans Sales tax deferrals Master Master Grants are widely defined under the Act ICDS now in line with the Act
ICDS VII: Government Grants Key deviations from AS ICDS does not permit the capital approach for recording of government grants as was allowed under Indian GAAP in line with the amended definition of income under section 2(24) of the Act. Recording grants in the nature of promoter s contribution or grants related to non-depreciable assets, directly in shareholder s fund as a capital reserve not permitted Initial recognition of grant cannot be postponed beyond the date of actual receipt. Master Master
ICDS VII: Government Grants Other provisions Refund of Government Grants Related to reimbursement of costs To be applied first against any unamortized deferred credit remaining in respect of the Government grant; Where grant refundable exceeds such deferred credit, or where no deferred credit exists, the amount shall be charged to profit and loss statement. Related to depreciable fixed asset Increase the actual cost or written down value of block of assets by the amount refundable. Where the actual cost of the asset is increased, depreciation on the revised actual cost or written down value shall be provided prospectively at the prescribed rate. Disclosure Master Nature and extent of Government grants recognized during the previous year; Master Nature and extent of Government grants not recognized during the previous year and reasons thereof
ICDS VII: Government Grants Example in Q. No. 17 of FAQ dated 23 March 2017 Where out of total subsidy entitlement of 10 Crore an amount of 6 Crore is recognized in the books of accounts till 31st day of March 2016 and recognition of balance 4 Crore is deferred pending satisfaction of related conditions and/or achieving reasonable certainty of receipt. The balance amount of 4 Crore will be taxed in the year in which related conditions are met and reasonable certainty is achieved. If these conditions are met over two years, the amount of 4 Crore shall be taxed over the period of two years. The amount of 6 Crore for which recognition criteria were met prior to 1st day of April 2016 shall not be taxable post 1st day of April 2016. Where the subsidy is already received prior to 1st day of April 2016, Para 13 of ICDS-VII shall not apply even if some of the related conditions are met on or after 1 April 2016. This is in view of Para 4(2) of ICDS-VII which provides that Government grant shall not be postponed beyond the date of actual receipt. Master Master Such grants shall continue to be governed by the provisions of law applicable prior to 1st day of April 2016.
Questions
Appendix
Para 8 of ICDS V Para 8 - The expenditure incurred on start up and commissioning of the project, including the expenditure incurred on test runs and experimental production, shall be capitalized. The expenditure incurred after the plant has begun commercial production, that is, production intended for sale or captive consumption, shall be treated as revenue expenditure.