11 INCOME COMPUTATION AND DISCLOSURE STANDARDS. 22 Applies to “computation of income” under the...
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Transcript of 11 INCOME COMPUTATION AND DISCLOSURE STANDARDS. 22 Applies to “computation of income” under the...
22
Applies to “computation of income” under the head Profits and Gains of Business or Profession or Income from Other Sources. Computation by whom – ‘Assessee’ or ‘Assessing
Officer’?
In case of conflict between Income Tax Act and ICDS, the Act shall prevail. Would the word “Act” include an interpretation thereof
by the Jurisdictional High Court or the Apex Court?
30th January, 2016 CA Anil J. Sathe
ICDS I – ACCOUNTING POLICIES
33CA Anil J. Sathe
Section 145 – Method of Accounting: (1) Income chargeable under the head "Profits and gains of
business or profession" or "Income from other sources" shall, subject to the provisions of sub-section (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee.
(2) The Central Government may notify in the Official Gazette from time to time income computation and disclosure standards to be followed by any class of assessees or in respect of any class of income.
(3) Where the Assessing Officer is not satisfied about the correctness or completeness of the accounts of the assessee, or where the method of accounting provided in sub-section (1) has not been regularly followed by the assessee, or income has not been computed in accordance with the standards notified under sub-section (2), the Assessing Officer may make an assessment in the manner provided in section 144.
30th January, 2016
ICDS I – ACCOUNTING POLICIES
44CA Anil J. Sathe
Computation according to “method regularly followed by assessee”
Computation according to notified ICDS If Assessing Officer –
Not satisfied about the correctness or completeness of accounts
Method of accounting not regularly followed by the assessee
Income not compute in accordance with ICDS
Assessing Officer to proceed to make an assessment under section 14430th January, 2016
ICDS I – ACCOUNTING POLICIES
55
ICDS I – ACCOUNTING POLICIES ICDS 1 is a disclosure Standard while the other standards are
computation standards. Scope – to deal with significant accounting policies Fundamental accounting assumptions:
Going Concern Consistency Accrual
Impact if assessee is not a Going Concern? Accounting Policies refer to specific accounting principles and
methods of applying those principles Accounting policies to be chosen to represent true & fair view of
state of affairs & income Substance over legal form (Issue – Finance Leases) Marked-to-market loss not to be recognised unless provided
by other ICDS30th January, 2016 CA Anil J. Sathe
66CA Anil J. Sathe
Prudence and Materiality not mentioned in the Standard All significant policies adopted by a person to be disclosed Disclosure:
Change in accounting policy having material effect shall be disclosed
The quantum of such change to be disclosed, if ascertainable If not ascertainable, such fact to be disclosed If change does not have material effect in year of change but will
affect in subsequent year, disclosure to be made in both the years. Changes in Accounting estimates not to be disclosed Disclosure of accounting policies cannot remedy a wrong /
inappropriate treatment of item Fundamental Accounting Assumptions of Going concern,
Consistency and Accrual If followed – no specific disclosures required If not followed – disclosure required
30th January, 2016
ICDS I – ACCOUNTING POLICIES
77CA Anil J. Sathe
Particulars ICDS AS Ind-AS
Relevant Standard ICDS 1 AS 1 & AS 5 Ind-AS 1 & Ind-AS 8
Fundamental Accounting Assumptions
Going ConcernConsistencyAccrual
Going ConcernConsistencyAccrual
Going ConcernAccrual
Consideration in the selection of Accounting Policies
Does not recognise the concepts of prudence and materiality for selection of accounting policies
Refers to prudence and materiality as a consideration for selection of accounting policies
If Ind-AS is applicable specifically to a transaction, other evernt or condition-refer to applicable Ind-AS
30th January, 2016
ICDS I – ACCOUNTING POLICIES
88CA Anil J. Sathe
Particulars ICDS AS Ind-ASChange in Accounting Policies
An accounting policy shall not be changed without “reasonable cause”
Change in Accounting Policy allowed if required by statute or for compliance with AS or if considered as resulting in more appropriate presentation
Change in Accounting Policy allowed if :a) Required by an Ind-
AS; orb) Results in the financial
statements providing reliable and more relevant information about the effects of transactions, other events or conditions on the entity’s financial position, financial performance or cash flow.
30th January, 2016
ICDS I – ACCOUNTING POLICIES
99
Explanatory Memorandum to Finance Act (No. 2) Bill, 2014 and Preamble to ICDS I : not for purpose of maintenance of books of accounts
ICDS I deals with accounting policies, fundamental accounting assumptions and considerations in selection of accounting policies If the provisions pertain to computation of income, how does
one ensure compliance? Will it mean that Memorandum Accounts need to be
maintained to prove compliance? The distinction between accounting which is a regular
exercise and computation of income which is a one time event appears not to have been appreciated.
Fundamental Accounting Assumption of “consistency” – in what context?
What if there is a conflict between principle of consistency and accrual?30th January, 2016 CA Anil J. Sathe
ICDS I – ACCOUNTING POLICIES - SIGNIFICANT ISSUES
1010CA Anil J. Sathe
ICDS I states that Accounting policies to be chosen to represent true & fair view of “state of affairs & income” What does “state of affairs” refer to with reference to
Computation and Disclosure of Income?
ICDS I requires that transactions and events be governed by their substance and not by legal form. Will this mean substance of a transaction shall prevail in
regard to transactions where there is a specific ICDS? Will this enable the Assessing Officer to re-compute the
income on the basis that substance of the transaction gives a different result (e.g., Real Estate Transactions and finance leases)
The concept of “materiality” has not been considered under ICDS I. This will require universal compliance of accrual irrespective
of quantum.30th January, 2016
ICDS I – ACCOUNTING POLICIES - SIGNIFICANT ISSUES
1111CA Anil J. Sathe
In the absence of prudence and materiality, several situations resulting in earlier recognition of income or gains or later recognition of expenses may arise without any corresponding tax collection
Ambiguity would arise on deductibility of losses not specifically covered (e.g., MTM loss on derivatives)
The various judicial decisions allowing marked-to-market losses will be overruled?
Accounting Policies can be changed for any “reasonable cause”. However, the term “reasonable cause” has not been defined or explained. The subjectivity in interpretation of the term may lead to difference of opinions.
Implications when “Going Concern Assumption” fails30th January, 2016
ICDS I – ACCOUNTING POLICIES - SIGNIFICANT ISSUES
1212CA Anil J. Sathe
It appears that ICDS I has to be read along with other Computation Standards
Will the principle of “substance over form” apply to computation even where the same is covered by another standard?
Disclosure: Where Disclosure to be made - Return of Income, tax audit
report, computation of income? If no tax audit, would e-returns permit such disclosures? If a person does not maintain books of accounts, is such
disclosure required? Do separate accounting policies have to be disclosed for
each source of income?30th January, 2016
ICDS I – ACCOUNTING POLICIES - SIGNIFICANT ISSUES
1313CA Anil J. Sathe
Section 145A
Section 145A begins with a non obstantate clause . Does this override section 145 as far as Valuation of Inventory is concerned.
Section 145A requires inventory to be valued at: As per the accounting method regularly employed by the
assesse. Further adjusted to include the amount of tax, fees etc. paid
by the assesse to bring the goods to its present location and condition.
How does one reconcile this with the provisions of ICDS II?30th January, 2016
ICDS II – Valuation of Inventories
1414CA Anil J. Sathe
Applicability Determine the value at which inventories are carried in the
financials statements Cost ascertainment Treatment of carrying cost of inventories
Measurement Inventories to be valued at lower of cost or net realizable
value.
Assets Held for sale in ordinary course of business In process of Production for such sale Material or supplies to be consumed in the production
process or in the rendering of services30th January, 2016
ICDS II – Valuation of Inventories
1515CA Anil J. Sathe
Net Realizable Value Estimated Selling Price in ordinary course of business
reduced by estimated cost of completion necessary to make the sale.
Exclusions WIP under construction contract or other ICDS Securities held as stock-in-trade under ICDS VIII Inventories of Livestock Machine spares in connection with Tangible Assets
30th January, 2016
ICDS II – Valuation of Inventories
1616CA Anil J. Sathe
Cost of InventoriesIt is the cost incurred to bring inventories to their present location and condition.
Cost of Purchase Purchase price including duties & taxes, freight inwards and
other expenses directly attributable to acquisition excluding rebates.
Cost of Services Labour and other cost of personnel directly engaged in
producing service including supervisory and attributable overheads.
Cost of Conversion It is the systematic allocation of fixed and variable production
overheads30th January, 2016
ICDS II – Valuation of Inventories
1717CA Anil J. Sathe
Other Costs Costs incurred only to bring inventories to their present
location & condition, excluding interest & other borrowing cost unless covered under ICDS IX
Borrowing Costs If the inventory requires 12 months or more to bring it to a
saleable condition, then the borrowing cost is to be capitalized.
This is in conflict with Section 36(1)(iii)
30th January, 2016
ICDS II – Valuation of Inventories – Cost of Inventories
1818CA Anil J. Sathe
Exclusions Abnormal amounts of wasted materials & others Storage costs unless necessary Admin overheads not attributable to bring inventories to their
present location and conditions Selling & Distribution Overheads
Service Providers Definition of inventories does not include ‘Cost of services’ as
part of inventory. Words used are“materials or supplies to be consumed in the rendering services. However clause 6 includes, cost of labour, personnel and administrative overheads.
30th January, 2016
ICDS II – Valuation of Inventories – Cost of Inventories
1919CA Anil J. Sathe
Inventory Valuation methods include the following: Specific Identification Method First In First Out Weighted Average Standard Cost Retail Method ( For retail trader)
30th January, 2016
ICDS II – Valuation of Inventories
2020CA Anil J. Sathe
Specific Identification Cost Cost is not ordinarily interchangeable Specific identification of costs means costs attributed to
identified items of inventory Goods/ services produced and segregated fro specific
projects to be assigned to that project
First In First Out Most acceptable method if specified cost method is not
applicable Items of inventory purchased first are sold first Reflects the most fairest possible approximation to costs
incurred
30th January, 2016
ICDS II – Valuation of Inventories
2121CA Anil J. Sathe
Weighted Average Cost (WAC) WAC determines the cost on
Weighted average cost of similar items at the beginning &
Acquisition cost during the relevant period Average shall be calculated on periodic basis
Retail Method When it is impractical to use FIFO or WAC, in case of a retail
trader this method can be applied The inventory cost is determined by reducing the appropriate
Gross Profit margin from sales.
30th January, 2016
ICDS II – Valuation of Inventories
2222CA Anil J. Sathe
Net Realizable Value Method In this method the inventory is written down to NRV The most reliable evidence is taken into consideration for the
valuation of Net Realizable Value It also takes price fluctuation into consideration Material and supplies are not to be written down below cost.
Disclosure The accounting policy adopted in measuring , including the cost
formula should be disclosed along with The total carrying cost of inventories and its classification
30th January, 2016
ICDS II – Valuation of Inventories
2323CA Anil J. Sathe
Exclusion of Standard CostStandard cost which was included in AS 2 is not a part of ICDS II because:
Actual profit is higher if the standard cost method is not applied
ICDS proposes to tax income on actual profits basis No profit can arise from valuation of stock, hence standard
cost method is disputed Two fundamental principles of Tax law are applied:
Only the correct income for the year should be brought to tax for that year; and
Each year is an independent and self contained unit of assessment
30th January, 2016
ICDS II – Valuation of Inventories
2424CA Anil J. Sathe
Dissolution In situations of a firm, AOP or BOI inventory on Date of
dissolution shall be the NRV, whether or not the business is discontinued. No such provision exists in AS 2. AS 2 expects the business
continuation method for NRV No new rule has been prescribed for companies entailing
restructuring through amalgamation.Consequences of non compliance Non compliance of ICDS may result into best judgment
assessment
Method of valuation once adopted cannot be changed without reasonable cause
30th January, 2016
ICDS II – Valuation of Inventories – Other Aspects
2525CA Anil J. Sathe
Change in method of Valuation
The term reasonable cause has not been defined. Guidance may be obtained from some judicial precedence, and should be decided upon the facts of each case.
Change in Accounting Policy only if the adoption of a different accounting policy is required by the statute or for compliance of AS or if it results in a more appropriate presentation of financials
Different methods can be adopted for different businesses or sectors if needed
Consistent method followed by the taxpayer and not objected by the revenue should not result in any valuation adjustment of closing stock or change of method if the change is bonafide.
30th January, 2016
ICDS II – Valuation of Inventories – Reasonable Cause
2626CA Anil J. Sathe
Grandfathering Provisions
Value of the inventory at the beginning of the previous year is: For newly commenced business, cost of inventory on day of
commencement of business is the opening inventory Value of the inventory as on the close of the immediately
preceding previous year, in any other case
Transition provisions of inventory prescribes opening inventory to be carried out as per AS 2,including borrowing cost even though not compliant with ICDS IX
30th January, 2016
ICDS II – Valuation of Inventories
2727CA Anil J. Sathe
Scope of ICDS III ICDS III applies to determination of income of a contractor
arising from construction contract A construction contract is specifically negotiated for the
construction of an asset or a combination of assets that are closely interrelated in terms of their design, technology and function or their ultimate purpose or use and includes Contract for rendering of services which are directly related
to the construction of the asset, Contract of destruction or restoration of assets, and the
restoration of the environment following the demolition of assets
ICDS committee recommended a separate ICDS for: Real Estate Developer Service Concession Agreements (BOT Projects)
30th January, 2016
ICDS III – Construction Contracts
2828CA Anil J. Sathe
Fixed Price Contract It is a construction contract in which the contractor agrees to
a fixed contract price, or a fixed rate per unit of output, which may be subject to escalation clauses
Eg: Construction of Residential or commercial properties etc.
Cost Plus Contract It is a construction contract in witch the contractor is
reimbursed for allowable or otherwise defined costs, plus a mark up on these costs or a fixed fee
Such contracts are entered into where cost is not easily ascertainable.
30th January, 2016
ICDS III – Construction Contracts
2929CA Anil J. Sathe
Combining and Segregating Construction Contracts
ICDS III to be applied to each construction contract separately subject to the following parameters
When there are number of assets in a single contract, each asset to be treated as a separate construction contract when: Separate proposals, negotiations, acceptance are carried out
for each asset Cost and revenue is identifiable for each asset
Group contracts to be treated as single construction contracts when: It is negotiated as a single package with an interrelated
overall profit margin Contracts are performed concurrently or in a continuous
sequence30th January, 2016
ICDS III – Construction Contracts
3030CA Anil J. Sathe
Construction of additional asset to be treated as a separate construction contract when: Asset differs significantly in design, technology or function
from the assets covered by original contract Separate negotiation for the additional asset
Tests for combining and segmenting construction contracts are similar to those laid down in ICAI AS 7
30th January, 2016
ICDS III – Construction Contracts
3131CA Anil J. Sathe
Real Estate Developers
Presently revenue recognition from real estate development is governed by ICAI’s Guidance note on accounting for Real Estate Transactions
ICAI Guidance note borrows principles from AS 7 and AS 9 and recommends application of either of them based on substance of contract
ICAI AS 7 does not apply to real estate developers
Neither ICDS III nor ICDS IV on revenue recognition may aptly apply to revenue recognition from real estate development
30th January, 2016
ICDS III – Construction Contracts
3232CA Anil J. Sathe
ICDS committee has recommended notification of separate ICDS on real estate development activity in absence on mandatory AS
Exposure draft of Ind AS 11 includes within it’s scope ‘agreements of real estate development to provide services together with construction material in order to perform contractual obligation to deliver the real estate to the buyer.’
Taxation of real estate developers may continue to be governed by existing GAAP till ICDS III is modified.
30th January, 2016
ICDS III – Construction Contracts
3333CA Anil J. Sathe
Accounting Steps Step 1: Estimate total contract profit/ (loss)
The total projected revenue minus the total projected contract cost will give the estimated profit or loss
Step 2: Identify the stage of completion as at reporting dater with reference to: Costs incurred vis-à-vis total estimated costs (or) Survey of work performed (or) Completion of physical proportion of the contract work
Step 3: Recognize profit/ (loss) on contract as at reporting date w.r.t. stage of completion (minus) profit/ (loss) already recognized in the earlier years. For eg: If contract is at an early stage (<25%), do not
recognize any profits30th January, 2016
ICDS III – Construction Contracts
3434CA Anil J. Sathe
Contract Revenue Contract Cost
To be recognized when there is reasonable certainty of its ultimate collection
It includes direct cost, cost attributable from date of securing contract to final completion, costs specifically chargeable to customer, Borrowing costs as per ICDS IX
Retention money to be included as part of contract revenue
Identifiable costs for securing contract if there is probability of obtaining contract
Variations in contract work, claims and incentive payment, if cash flow is probable and capable of being reliably measured
Contract costs to be reduced by incidental income except interest, dividends or capital gains
ICDS IX does not permit reduction of income from temporary investments of borrowed funds for capitalizationContract costs relating to future activity to be recognized as an asset
30th January, 2016
ICDS III – Construction Contracts
3535CA Anil J. Sathe
Foreseeable Loss Recognition AS 7 permitted recognition of foreseeable loss at any stage of
contract
ICDS III provides that losses incurred shall also be allowed only in proportion to the stage of completion
Future or anticipated losses shall not be allowed unless such losses are actually incurred
ICDS I omits consideration of conservatism and prohibits recognition of expected losses (unless permitted by other ICDS)
30th January, 2016
ICDS III – Construction Contracts
3636CA Anil J. Sathe
Year Contract Unrelated
IncomeTotal Income Computation
Normal Income (ICDS)
Book Profit
1(<25
% work
)
Foreseeable loss (10,000) 8,000 8,000
-2000
2
Contract concludes on loss 8000 -2000 8000
30th January, 2016
ICDS III – Construction Contracts
Impact of MAT Therefore the tax payer
ends up paying tax in two years on income which is larger than his real income.
This militates against the objective of ICDS
3737CA Anil J. Sathe
Particulars AS 7/ Proposed Ind AS 11 ICDS III
Recognition of contract revenue
Contract revenue to be recognized on POCM
basis if it is possible to reliably measure the
outcome of a contract
Contract revenue to be recognized if there is
reasonable certainty of its ultimate collection
Recognition of incentive
payments/claims against
customers
Incentive payment/ claims to be recognized if
Incentives can be reliably measured and probability
exists that specified performance standards
would be met or exceeded, customer will
accept claim
Incentives payments/ claim to be recognized if:
Incentive/ claim is reliably measurable and it is probable that it will
result in revenue30th January, 2016
ICDS III – Construction Contracts
3838CA Anil J. Sathe
Particulars AS 7/ Proposed Ind AS 11
ICDS III
Impact of variation in scope of contract
Contemplates variation in revenue on account of increase or decrease in scope of work
Contemplates variation due to increase in scope of work and does not specifically refer to downward variation
Early stage of completion
There is no specific percentage
Early stage shall not extend beyond 25% of work completed
Parameters to determine stage of completion
It can be determined in a variety of ways including the methods in ICDS III
• Cost incurred vis-à-vis total cost
• Survey of work performed• Completion of physical
proportion
30th January, 2016
ICDS III – Construction Contracts
3939CA Anil J. Sathe
Particulars AS 7/ Proposed Ind AS 11
ICDS III
Recognition of contract WIP
Contract cost which relate to future activity shall be recognized as an asset if recovery is probable
To be recognized as an asset even if recovery not probable.If the cost is not realizable the loss is to be allowed under provisions of the act
Reversal of Revenue
Revenue already recognized can be reversed on account of uncertainty in the future
Reversal of revenue needs to be claimed separately as an expense and is not to be adjusted against the contract revenue
30th January, 2016
ICDS III – Construction Contracts
4040CA Anil J. Sathe
Disclosures Taxpayer needs to make the following disclosures:
Contract revenue recognized for the current period Method used to determine the stage of completion Total costs incurred and recognized profits (less recognized
losses) up to the reporting date Advances received Retention Money
No incremental disclosure as compared to AS 7 Whether disclosures made as part of financial statements
shall suffice?
30th January, 2016
ICDS III – Construction Contracts
4141CA Anil J. Sathe
Transitional Provisions ICDS committee recommended notification of transitional
provision along with ICDS to address the issue of double taxation or non taxation arising from ICDS becoming effective on a particular date
Transitional provision of ICDS III reads as follows“Contract revenue and contract costs associated with the construction contract, which commenced on or before 31st day of march, 2015 but not completed by the said date, shall be recognized as revenue and costs respectively in accordance with the provisions of the standard. The amount of contract revenue , contract cost or expected loss if any, recognized for the said contract for any previous year commencing on or before the 1st day of April, 2014 shall be taken into account for recognizing the revenue and costs of the said contract for the previous year commencing on the 1st day of April, 2015 and subsequent previous years.”30th January, 2016
ICDS III – Construction Contracts
4242CA Anil J. Sathe
Para 16 of ICDS III reads as follows:“Contract revenue and contract costs associated with the construction contract should be recognized as revenue and expenses respectively by the reference to the stage of completion of the contract activity at the reporting date.”
30th January, 2016
ICDS III – Construction Contracts
4343CA Anil J. Sathe
Issues with Construction Contracts Retention Money
There are a number of court decisions which have taken the view that retention monies accrue only when the conditions of retention are satisfied.
Will those decisions prevail or will ICDS prevail? Natural Calamities
If there are actual losses by natural calamities, can the recognition of such losses be ignored?
As per the “Substance over form” as prescribed by ICDS I, will it be ignored in the computation mechanism?
MAT Impact An assesse may have to pay tax on an amount that is more
than his real income.30th January, 2016
ICDS III – Construction Contracts
4444CA Anil J. Sathe
Challenges with service revenue recognition Mandatory for service sector following mercantile method of
accounting to recognize revenue on POCM basis mutatis mutandis ICDS III principles
Mandatory POCM may pose challenges for service sector activities like: Telecom/Software/Online Database- Royalty vs. service Hotel Industry (Eg. Time share plan) Banking Sector Other professional Long Term Contracts
POCM read with ICDS III on inventory valuation which requires valuation of service inventory poses administrative difficulties for short duration contracts which spillover two financial years.
30th January, 2016
ICDS III – Construction Contracts
4545CA Anil J. Sathe
THANKYOU!
30th January, 2016