Final Report of As

8/18/2019 Final Report of As

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EY Tax AlertFinal report of Accounting Standards Committee of CBDT

29 October 2012

Tax Alerts cover significant

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Executive summary

This Tax Alert summarizes the key recommendations in the final report

issued in August 2012 by the Accounting Standards Committee

(Committee) constituted by the Central Government (CG) in December

2010. The CG published the report on 26 October 2012.

Section 145 of the Indian Tax Laws (ITL) gave the power, effective

from tax year 1996-97, to the CG to notify Tax Accounting Standards

(Tax AS) to be followed by any class of taxpayers or in respect of any

class of income.

In view of significant developments in convergence to International

Financial Reporting Standards (IFRS), the CG constituted the

Committee in December 2010, comprising officials of the Tax

Authority and professionals. The terms of reference of the Committee

were to study harmonization of accounting standards issued by the

Institute of Chartered Accountants of India (ICAI AS) with the ITL and

to suggest accounting standards for tax compliance under the ITL and

also to deal with the issue of the tax impact of convergence to IFRS.

The Committee has recommended notification of 18 Tax AS for

compliance with the ITL on the issue of harmonization of ICAI AS with

the ITL and has also provided drafts of 14 Tax AS.

The CG has invited comments/suggestions on the recommendations of

the Committee and draft Tax AS by 26 November 2012.


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Given the uncertainty surrounding

convergence to IFRS, the Committee has

recommended that the status of transition to

IFRS should be carefully monitored and

appropriate amendments in the ITL,

especially relating to computation ofMinimum Alternate Tax (MAT), should be

considered based on developments in the

future.

Background

Section 145 of the ITL provides that thetaxable income of the taxpayer under theheads ”profit and gains of business orprofession” (Business head) or “income

from other sources’ (Other sources head)shall be computed in accordance witheither cash or mercantile system ofaccounting that is regularly employed bythe taxpayer. It further provides that theCG may notify in the Official Gazette,from time to time, Tax AS to be followedby any class of taxpayers or in respect ofany class of income.

The object behind introducing a provisionto notify separate Tax AS was that ICAI

AS provides flexibility of alternativeaccounting treatments, which make itpossible for a taxpayer to avoid paymentof correct taxes by choosing a particularsystem. Therefore, an urgent need wasfelt to standardize one or more of thealternatives in various standards so thatincome for tax purposes could becomputed precisely and objectively.

Since the introduction of this provision inthe ITL, the CG has notified two Tax AS in1996[1] viz., (a) Accounting Standard I,

relating to disclosure of accountingpolicies (b) Accounting Standard II,relating to disclosure of prior period andextraordinary items and changes inaccounting policies. These standards arelargely comparable to the correspondingICAI AS[2].

1 Notification No. 9949 dated 25 January 1996

2 AS-1 and AS-5 of the ICAI

Constitution of the

Committee

Vide an Order[3] dated 20 December 2010,

the CG constituted the Committee,comprising officials of the Tax Authority and

professionals, with the following terms of

reference:

To study the harmonization of ICAI ASwith the ITL and to suggest accountingstandards for tax compliance under theITL, with relevant modifications.

To suggest a method for determinationof tax base (book profit) for the purposeof MAT in case of companies migrating toIND AS[4] in the initial year of adoptionand thereafter.

To suggest appropriate amendments tothe ITL in view of transition to IND ASregime.

Interim report of the

Committee

The Committee submitted its interim reports

in August 2011 and May 2012. The first

interim report of August 2011 and drafts of

Tax AS on Construction Contracts and

Government Grants were published for public

comments in October 2011.[5]

Final report of the

Committee

The Committee submitted its final report in

August 2012 along with drafts of 14 Tax AS.

After examining the existing set of 31 ICAI

AS, the Committee has recommended an

3 Order No. 134/48/2010-SO(TPL)

4 Indian Accounting Standards converged to IFRS

5 Refer EY Tax Alert dated 20 October 2011 ‘Central Government issues

Discussion paper on Tax Accounting Standards’ as also EY Tax Alert

dated 10 November 2011 ‘Memorandum of Ernst & Young views on

proposed Tax Accounting Standards’


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approach of notifying independent set of Tax

AS with the object of bringing certainty and

clarity, eliminating alternatives (to the extent

possible) as also to ensure horizontal equity

and uniformity.

A summary of the significant

recommendations of the Committee are as

follows:

General

Since it is intended that Tax AS shouldbe in harmony with the ITL, it should beexpressly provided in the Tax AS that, incase of conflict, provisions of the ITLshall prevail over Tax AS[6].

Tax AS should be made applicable onlyto the computation of taxable incomeand a taxpayer need not maintainseparate sets of books of account on thebasis of Tax AS [7]. To set at rest anyfuture controversy in this regard,appropriate amendments should bemade to the ITL.

Broadly, the governing principles whileframing Tax AS are ”reduction oflitigation”, ”minimization ofalternatives” and giving ”certainty to

issues”.

Tax AS should be made applicable to allclasses of taxpayers, irrespective ofquantum of turnover/income, with aview to bring certainty on the issues

covered by Tax AS.

Transitional provisions, whereverrequired, should also be notified alongwith Tax AS to ensure that there is nodouble taxation or non-taxation of anyincome in pre and post Tax AS period.

6Incidentally, preamble of each draft Tax AS contains a clarification that,

in case of conflict between provisions of the ITL and Tax AS, provisions of

the ITL shall prevail7

Incidentally, preamble of each draft Tax AS contains a clarification that

it applies for computation of income chargeable under Business head or

Other Sources head and not for the purpose of maintenance of books of

accounts

Appropriate modification should bemade in the return of income to ensurecompliance with Tax AS. For tax auditcases, the tax audit report should alsobe modified so that a tax auditor isrequired to certify that the computationof taxable income is made in accordance

with the provisions of Tax AS.

Given the uncertainty surroundingconvergence to IFRS, the Committee hasrecommended that the status oftransition to IFRS should be carefullymonitored and appropriate amendmentsin the ITL, especially relating tocomputation of MAT, should beconsidered based on any suchdevelopments in the future.

Amendments to the ITLon specific issues

Suitable amendments be made to the ITLto provide certainty on the followingissues:

Allowability of depreciation on goodwill

arising on amalgamation. Allowability of the provision made for

the payment of pension on retirement ortermination of an employee.

Tax AS on areas not

covered by ICAI AS

To reduce litigation and providecertainty, Tax AS covering the followingareas which are presently not covered byICAI AS[8] may also be considered fornotification under the ITL:

Share-based payment.

Revenue recognition by real estatedevelopers.

Service concession arrangements (e.g.,Built Operate Transfer agreements).

Exploration for and evaluation of

mineral resources.

8 The ICAI has issued Guidance Notes on these matters. However,Guidance Notes are recommendatory in nature and do not have the

same mandatory effect as accounting standards


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Areas where separate

Tax AS is not necessary

Tax AS need not be notified in respect of

17 ICAI AS which are listed at AnnexureA to this Tax Alert for reasons specifiedtherein.

Suggested drafts of Tax

AS

The Committee has suggested drafts of14 Tax AS. A summary of significantchanges made in each draft Tax AS vis-a-

vis the corresponding ICAI AS, asexplained by the Committee in its report,is provided in Annexure B to this TaxAlert.

Comments

The publication of the final reportand draft Tax AS for inviting publiccomments represents thecontinuation of a commendableconsultative approach adopted bythe CG in the recent past beforeintroducing any new significant taxlaw. This provides an opportunityto all stakeholders to makerepresentations on the possibleadverse impacts and/or for makingimprovements to addressunintended consequences. It is

necessary for all stakeholders tocarry out an in-depth analysis ofeach Tax AS to assess impact ontheir taxable income and/orcompliance burden and providetheir recommendations withsupport reasons within the timeallowed by the CG viz., 26November 2012.

Annexure A

Areas identified by the Committee

where separate Tax AS is not

necessary

A. ICAI AS which merely prescribedisclosure requirements notaffecting computation of taxableincome.

Cash Flow Statements (ICAI AS-3). Segment Reporting (ICAI AS-17). Discontinuing Operations (ICAI AS-24). Earning Per Share (ICAI AS-20).

Consolidated Financial Statements (ICAI

AS-21).

Accounting for Investments in

Associates in Consolidated Financial

Statements (ICAI AS-23).

Interim Financial Reporting (ICAI AS-

25).

B. ICAI AS whose subject matter iscovered by specific provisionsunder the ITL

Accounting for Amalgamations (ICAI AS-

14). Employee Benefits (ICAI AS-15).

Segment Reporting (ICAI AS-17). Related Party Disclosures (ICAI AS-18). Depreciation Accounting (ICAI AS-6).

Impairment of Assets (ICAI AS-28)

C. ICAI AS issues whereof arecovered by other Tax AS and/ornot relevant under the ITL

Financial Reporting of Interests in Joint

Ventures (ICAI AS-27).

Accounting for Taxes on Income (ICAI

AS-22).


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D. ICAI AS which are currentlyvoluntary and primarily getcovered by Tax AS on Disclosureof Accounting Policies[9]

Financial Instruments (Recognition andMeasurement, Presentation and

Disclosure) (ICAI AS-30,31 and 32).

Annexure B

Summary of significant changes asexplained in the report of draft TaxAS suggested by the Committeefrom ICAI AS.

Tax AS for Accounting Policies(Corresponding to ICAI AS-1).

Expected losses or mark-to-market

losses shall not be recognized unless

permitted by any other Tax AS.

Concept of materiality for selection of

accounting policies is omitted as it is not

recognized by the ITL for the purpose of

computation of taxable income. Accounting policies shall not be changed

without a reasonable cause.[10]

Tax AS for Valuation ofInventories (Corresponding toICAI AS-2)

Since ICAI AS-2 does not specifically

prescribe the method of valuation of

inventories of a service provider, the

same should be incorporated in Tax AS

based on international best practices.

Use of standard cost method as a

technique for measurement of cost isnot recommended.

9 The Committee has, however, recommended close monitoring of the

mandatory status of these ICAI AS and noti fication of appropriate Tax AS

based on any developments in the future. 10

ICAI AS-1 permits change if it is considered that the change wouldresult in a more appropriate presentation

To reduce litigation, Tax AS specifically

incorporates the well-established

principle that the value of inventory of a

business as on the beginning of a tax

year shall be the same as the value of

inventory at the end of the immediately

preceding tax year.

Method of valuation of inventory once

adopted by a taxpayer in any tax year

shall not be changed without a

reasonable cause.

Inventory on the date of dissolution of a

partnership firm, association of persons

and body of individuals shall be valued

at net realizable value.

Tax AS for Events occurring after

the End of Tax Year(Corresponding to ICAI AS-4)

Disclosures relating to events occurring

after the end of the tax year do not

directly impact the computation of

income. Hence, these provisions have

been removed in Tax AS.

Tax AS for Prior Period Expense(Corresponding to ICAI AS-5)

The ITL does not distinguish

extraordinary items from ordinary items.

Hence, provisions relating to separate

disclosure of extraordinary items are not

included in Tax AS[11].

Prior Period Expense shall not be

considered as an allowable deduction in

the tax year in which it is recorded

unless the taxpayer proves that such

expense accrued during the said tax

year [12].

Tax AS on ConstructionContracts (Corresponding to ICAIAS-7)

Retention money shall be recognized for

computing revenue based on percentage

of completion method.

11 Currently, notified Tax AS-II requires such separate disclosure.

12 There is no Tax AS proposed to deal with treatment of prior period

income.


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Before reversal of revenue already

recognized as income on account of

uncertainty arising on realizability of

contract revenue, the sum shall be

written off in the books of account in

line with the provisions of the ITL

relating to bad debts.

Pre-construction income in the nature of

interest, dividend and capital gains shall

not be reduced from the cost of

construction but shall be taxed as

income in accordance with the

applicable provisions of the ITL.

Contract costs relating to future activity

shall be recognized as an asset and if

such costs are not realizable then the

same may be allowed under the

provisions of the ITL.

Condition of non-recognition of contract

revenues, if it is not possible to reliably

measure the outcome of a contract, is

not incorporated in Tax AS since it is

subjective in nature and has resulted in

litigation and postponement of tax

liability.

Losses incurred on a contract shall be

allowed only in proportion to the stage

of completion. Future or anticipated

losses shall not be allowed unless such

losses are actually incurred.

Once a contract crosses 25% of the

completion stage, the revenue in respect

of such contract shall be required to be

recognized.

Tax AS for Revenue Recognition(Corresponding to ICAI AS-9)

Revenue from service transactions shall

be recognised by following only

”percentage completion method”.

In view of specific provisions in the ITLfor bad debts, the postponement of

revenue recognition due to uncertainty

in ultimate collection shall be restricted

to claims for price escalation and export

incentives.

Tax AS for Tangible Fixed Assets(Corresponding to ICAI AS-10)

In case of acquisition of an asset in

exchange for another asset, shares or

other securities, lower of the fair value

of the asset/securities given up or the

asset acquired shall be recorded as

actual cost of the asset[13].

Revaluation of assets is not incorporated

in Tax AS as the ITL does not recognize

the concept of revaluation of assets.

The ITL contains specific provisions

relating to retirement and disposal of

tangible fixed assets. Hence, same are

not incorporated in Tax AS.

Tax AS for Effects of Changes inForeign Exchange Rates(Corresponding to ICAI AS-11)

Initial and subsequent recognition of

foreign currency transactions and

resultant exchange differences will besubject to specific provisions of the ITL

and Income-tax Rules, 1962.

Since the ITL does not distinguish

between integral and non-integral

foreign operations, exchange differences

on non-integral foreign operations shall

be recognised for the purpose of

computation of income [14].

Since mark-to-market gains or losses are

unrealized in nature, all gains or losses

on forward exchange or similar

contracts entered into for trading orspeculation contracts shall be

recognized only on settlement

Tax AS for Government Grants(Corresponding to ICAI AS-12)

Government grants should either be

treated as revenue receipt or should be

reduced from the cost of fixed assets

based on the purpose for which such

grant or subsidy is given. Recognition of Government grants shall

not be postponed beyond the date of

actual receipt.

13 As against whichever value is more evident as per ICAI AS-10

14As against accumulation in foreign currency translation reserve in

Balance Sheet as prescribed under ICAI AS-11


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Tax AS for Securities(Corresponding to ICAI AS-13)

Since Tax AS deals with computation of

income under Business head or Other

sources head, Tax AS only deals withsecurities held as stock-in-trade.

Securities should be valued at lower of

cost or net realizable value (NRV).

Comparison of cost and NRV shall be

done category-wise (and not for each

individual security) for which securities

shall be classified into the following

categories: (a) Shares (b) Debt securities

(c) Convertible securities (d) Any other

securities not covered above.

Unlisted or thinly traded securities shall

be valued at cost. Cost which cannot be ascertained by

specific identification shall be

determined on the basis of first-in-first-

out (FIFO) method.

Tax AS for Borrowing Costs(Corresponding to ICAI AS-16)

Borrowing cost will not include exchangedifferences arising from foreign currencyborrowings[15].

As against the criterion of substantialperiod of time for classifying an asset asqualifying asset under ICAI AS-16, thedefinition of ”qualifying asset” is modifiedunder Tax AS to mean:

Land, building, machinery, plant or

furniture, being tangible assets;

Know-how, patents, copyrights,

trademarks, licenses, franchises or any

other business or commercial rights of

similar nature, being intangible assets;

Inventories that require a period of 12

months or more to bring them to a

saleable condition.

15ICAI AS-16 includes such differences to the extent that they are

regarded as an adjustment to interest costs

Specific pro-ration formula is provided forcapitalizing borrowing costs relating togeneral borrowings.

Income on temporary investments ofborrowed funds cannot be reduced fromborrowing costs eligible for capitalization.

Condition of suspension of capitalizationduring interruption of active developmentis removed in Tax AS.

Tax AS for Leases (Correspondingto ICAI AS-19)

For ensuring uniformity of classificationof a lease as operating lease or finance

lease by both lessor and lessee, Tax ASprovides for uniformity of definitions andrequires a joint confirmation regardingconsistency of classification of leasebetween lessor and lessee.

In the case of finance leases, depreciationwill be allowed to the lessee even thoughthe asset is owned by the lessor. TheCommittee has recommendedamendment in the provisions of the ITLrelating to depreciation, ownership, block

of assets, transfer etc., to align with thisrequirement.

The Committee has also recommendednecessary amendment to address caseswhere after sale and lease backtransaction, the resulting lease is anoperating lease.

Tax AS on Intangible Assets(Corresponding to ICAI AS-26)

In case of acquisition of an intangibleasset in exchange for another asset,shares or other securities, lower of fairvalue of the asset/securities given up orthe asset acquired shall be recorded asactual cost of the asset [16].

16 As against whichever value is clearly evident as prescribed under ICAI

AS-26


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As the ITL contains specific provisionsrelating to amortization, retirement anddisposal of intangible assets (includingthose acquired on amalgamation), sameare not incorporated in Tax AS.

Tax AS for Provisions, ContingentLiabilities and Contingent Assets(Corresponding to ICAI AS-29)

A provision can be recognized when it is”reasonably certain” that an outflow ofeconomic resources will be required tosettle an obligation[17].

A contingent asset can be recognizedwhen the realization of related income is”reasonably certain”[18].

17As against condition of ”probable” under ICAI AS-29

18 As against condition of ”virtual certainty” under ICAI AS-29


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Final Report of As