Accounting for Taxes on Income in the situations of Tax Holiday under Sections 10A and 10B of the Income-tax Act, 1961
Accounting Standard (AS) 22, Accounting for Taxes on Income

ISSUE

1.

Chapter III of the Income-tax Act, 1961 (hereinafter referred to as the 'Act') deals with incomes which do not form part of total income. Sections 10A and 10B of the Act are covered under Chapter III. These sections allow certain deductions, for certain years, from the total income of an assessee. These deductions are commonly described as 'tax holiday' and the period during which these deductions are available is commonly described as 'tax holiday period'.

2.

The issue is how AS 22 should be applied in the situations of tax-holiday under sections 10A and 10B of the Act.

CONSENSUS

3.

The deferred tax in respect of timing differences which originate during the tax holiday period and reverse during the tax holiday period, should not be recognised to the extent deduction from the total income of an enterprise is allowed during the tax holiday period as per the provisions of sections 10A and 10B of the Act.

4.

Deferred tax in respect of timing differences which originate during the tax holiday period but reverse after the tax holiday period should be recognised in the year in which the timing differences originate. However, recognition of deferred tax assets should be subject to the consideration of prudence as laid down in paragraphs 15 to 18 of AS 22.

5.

For the above purposes, the timing differences which originate first should be considered to reverse first.

BASIS FOR CONCLUSIONS

6.

Sections 10A and 10B are covered under Chapter III of the Act. These sections allow certain deductions, for certain years, from the total income of the assessee.

7.

The Framework for the Preparation and Presentation of Financial Statements provides that 'An asset is recognised in the balance sheet when it is probable that the future economic benefits associated with it will flow to the enterprise and the asset has a cost or value that can be measured reliably'. The Framework also provides that 'A liability is recognised in the balance sheet when it is probable that an outflow of resources embodying economic benefits will result from the settlement of a present obligation and the amount at which the settlement will take place can be measured reliably'. In the situation of tax holiday under sections 10A and 10B of the Act, it is probable that deferred tax assets and liabilities in respect of timing differences which originate and reverse during the tax holiday period will not be realised or settled. Accordingly, a deferred tax asset or a liability for timing differences which reverse during the tax holiday period does not meet the above criteria for recognition of asset or liability, as the case may be, and therefore is not recognised to the extent deduction from the total income of the enterprise is allowed during the tax holiday period as per the provisions of sections 10A and 10B of the Act.

8.

Deferred tax assets/liabilities for timing differences which reverse after the tax holiday period are recognised in the period in which these differences originate because these can be realised/paid after the expiry of the tax holiday period by payment of lesser or higher amount of tax after the tax holiday period because of reversal of timing differences.

9.

This Interpretation prescribes the same accounting treatment for situations of tax holiday under sections 10A and 10B of the Act as prescribed for situations of tax holiday under sections 80-IA and 80-IB of the Act (see ASI 3).

According to one view situation of tax holiday under sections 10A and 10B should be treated differently as compared to situations of tax holiday under sections 80-IA and 80-IB of the Act since sections 10A and 10B are covered under Chapter III of the Act which deals with incomes which do not form part of total income whereas sections 80-IA and 80-IB are covered under Chapter VI-A which deals with deductions to be made in computing total income.

This view was not accepted because irrespective of the fact that Sections 10A and 10B are covered under Chapter III and Sections 80-IA and 80-IB are covered under Chapter VI-A, the substance of the reliefs, in terms of economic reality is the same. Keeping in view the 'substance over form' principle of accounting as laid down in AS 1, Disclosure of Accounting Policies, there should not be any difference between the treatment in respect of tax holiday under sections 80-IA, 80-IB and 10A, 10B.

¹ The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Accounting for Taxes on Income in the context of Section 115JB of the Income-tax Act, 1961
Accounting Standard (AS) 22, Accounting for Taxes on Income

ISSUES

1.

The issue is how AS 22 is applied in a situation where a company pays tax under section 115JB (commonly referred to as Minimum Alternative Tax) of the Income-tax Act, 1961 (hereinafter referred to as the ‘Act’).

2.

Another issue is how deferred tax is measured on the timing differences originating during the current year if the enterprise expects that these differences would reverse in a period in which it may pay tax under section 115JB of the Act.

CONSENSUS

3.

The payment of tax under section 115JB of the Act is a current tax for the period.

4.

In a period in which a company pays tax under section 115JB of the Act, the deferred tax assets and liabilities in respect of timing differences arising during the period, tax effect of which is required to be recognised under AS 22, should be measured using the regular tax rates and not the tax rate under section 115JB of the Act.

5.

In case an enterprise expects that the timing differences arising in the current period would reverse in a period in which it may pay tax under section 115JB of the Act, the deferred tax assets and liabilities in respect of timing differences arising during the current period, tax effect of which is required to be recognised under AS 22, should be measured using the regular tax rates and not the tax rate under section 115JB of the Act.

BASIS FOR CONCLUSIONS

6.

Sub-section (1) of Section 115JB of the Act provides that “Notwithstanding anything contained in any other provision of this Act, where in the case of an assessee, being a company, the income-tax, payable on the total income as computed under this Act in respect of any previous year relevant to the assessment year commencing on or after the 1st day of April, 2001, is less than seven and one-half per cent of its book profit, such book profit shall be deemed to be the total income of the assessee and the tax payable by the assessee on such total income shall be the amount of income-tax at the rate of seven and one-half per cent.” Tax paid/payable under section 115JB is the current tax and does not, in itself, give rise to any deferred tax since this payment of tax is pursuant to the special provision of the Act. This section only prescribes the mode of computation of tax payable for the current year.

7.

Paragraph 20 of AS 22 requires that current tax should be measured at the amount expected to be paid to (recovered from) the taxation authorities, using the applicable tax rates and tax laws. Paragraph 21 of AS 22 provides that deferred tax assets and liabilities should be measured using the tax rates and tax laws that have been enacted or substantively enacted by the balance sheet date. In a period in which an enterprise pays tax under section 115JB of the Act, the rate of seven and one-half percent is relevant for the purpose of measurement of current tax and not for the purpose of measurement of deferred tax.

8.

There are two methods for recognition and measurement of tax effects of timing differences, viz., the “full provision method” and “partial provision method”. Under the “full provision method”, the deferred tax is recognised and measured in respect of all timing differences (subject to consideration of prudence in case of deferred tax assets) without considering assumptions regarding future profitability, future capital expenditure etc. On the other hand, the ‘partial provision method’ excludes the tax effects of certain timing differences which will not reverse for some considerable period ahead. Thus, this method is based on many subjective judgements involving assumptions regarding future profitability, future capital expenditure etc. In other words, partial provision method is based on an assessment of what would be the position in future. Keeping in view the elements of subjectivity, the ‘partial provision method’ under which deferred tax is recognised on the basis of assessment as to what would be the expected position, has generally been discarded the world-over. AS 22 also does not consider the above assumptions and, therefore, is based on ‘full provision method’.

The expectation that the timing differences arising in the current period would reverse in a period in which the enterprise may pay tax under section 115JB of the Act, also involves assessment of the future taxable income and accounting income and therefore, is considerably subjective. It can not be known beforehand, with a reasonable degree of certainty, whether in future an enterprise would pay tax under section 115JB of the Act because that determination can only be made after the fact.

Recognition and measurement of deferred tax using the rate under section 115JB of the Act, i.e., seven and one-half percent, on the basis of an assessment that the timing differences would reverse in a period in which the enterprise may pay tax under section 115JB of the Act, would be a situation analogous to the adoption of the ‘partial provision method’ which has already been rejected.

In view of the above, this Interpretation requires that even if an enterprise expects that the timing differences arising in the current period would reverse in a period in which it may pay tax under section 115JB of the Act, the deferred tax assets and liabilities in respect of timing differences arising during the current period, tax effect of which is required to be recognised under AS 22, should be measured using the regular tax rates and not the tax rate under section 115JB of the Act.

¹The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Disclosure of deferred tax assets and deferred tax liabilities in the balance sheet of a company, Accounting Standard (AS) 22, Accounting for Taxes on Income

ISSUE

The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

1.

The issue is how should deferred tax assets and deferred tax liabilities be disclosed in the balance sheet of a company.

CONSENSUS

2.

In case of a company, deferred tax assets should be disclosed on the face of the balance sheet separately after the head 'Investments' and deferred tax liabilities should be disclosed on the face of the balance sheet separately after the head 'Unsecured Loans'.

BASIS FOR CONCLUSIONS

3.

Paragraph 30 of Accounting Standard (AS) 22, Accounting for Taxes on Income, provides as follows:

"30. Deferred tax assets and liabilities should be distinguished from assets and liabilities representing current tax for the period. Deferred tax assets and liabilities should be disclosed under a separate heading in the balance sheet of the enterprise, separately from current assets and current liabilities.'

From the above, it may be noted that the deferred tax assets and deferred tax liabilities should be disclosed separately from current assets and current liabilities.

4.

Part I of Schedule VI to the Companies Act, 1956, does not contain a specific head for disclosure of deferred tax assets/liabilities. Section 211(1) of the Companies Act, 1956, provides that every balance sheet of a company shall be prepared in the form set out in Part I of Schedule VI, or as near thereto as circumstances admit. It is, therefore, clear that format of balance sheet as set out in Part I of Schedule VI to the Companies Act, 1956, has in-built flexibility to accommodate necessary modifications. A deferred tax asset is normally more liquid (realisable) as compared to fixed assets and investments and less liquid as compared to current assets. Therefore, in case of a company, it is appropriate to present the amount of the deferred tax assets after the head 'Investments'. Similarly, keeping in view the nature of a 'deferred tax liability', it is appropriate that the same is presented in the balance sheet of a company after the head 'Unsecured Loans'.

Interpretation of the term 'Near Future', Accounting Standard (AS) 21, Consolidated Financial Statements, AS 23, Accounting for Investments in Associates in Consolidated Financial Statements and AS 27, Financial Reporting of Interests in Joint Ventures

¹The authority of this ASI is the same as that of the Accounting Standards to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standards to which it relates. ASI is intended to apply only to material items.

ISSUE

1.

Paragraph 11 of AS 21, paragraph 7 of AS 23 and paragraph 29 of AS 27 use the words 'near future' in the context of exclusions from consolidation, application of the equity method and application of the proportionate consolidation method, respectively.

2.

The issue is what period of time should be considered as 'near future' for the above purposes.

CONSENSUS

3.

The issue as to what period of time should be considered as near future for the purposes of AS 21, AS 23 and AS 27 primarily depends on the facts and circumstances of each case. However, ordinarily, the meaning of the words 'near future' should be considered as not more than twelve months from acquisition of relevant investments unless a longer period can be justified on the basis of facts and circumstances of the case. The intention with regard to disposal of the relevant investment should be considered at the time of acquisition of the investment. Accordingly, if the relevant investment is acquired without an intention to its subsequent disposal in near future, and subsequently, it is decided to dispose off the investment, such an investment is not excluded from consolidation, application of the equity method or application of the proportionate consolidation method, as the case may be, until the investment is actually disposed off. Conversely, if the relevant investment is acquired with an intention to its subsequent disposal in near future, however, due to some valid reasons, it could not be disposed off within that period, the same will continue to be excluded from consolidation, application of the equity method or application of the proportionate consolidation method, as the case may be, provided there is no change in the intention.

BASIS FOR CONCLUSIONS

4.

A period of more than twelve months would not normally signify 'near future'. Accordingly, it is considered appropriate that the near future should normally be considered as a period not exceeding twelve months.

5.

Paragraph 11 of AS 21, paragraph 7 of AS 23 and paragraph 29 of AS 27, also use the words, 'acquired and held'. Accordingly, for exclusion from consolidation, application of the equity method or application of the proportionate consolidation, as the case may be, consideration of the intention at the time of acquisition of the relevant investment is essential.

Virtual certainty supported by convincing evidence, Accounting Standard (AS) 22, Accounting for Taxes on Income

¹The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

ISSUE

1.

Paragraph 17 of AS 22 requires that 'Where an enterprise has unabsorbed depreciation or carry forward of losses under tax laws, deferred tax assets should be recognised only to the extent that there is virtual certainty supported by convincing evidence that sufficient future taxable income will be available against which such deferred tax assets can be realised'.

2.

The issue is what amounts to 'virtual certainty supported by convincing evidence' for the purpose of paragraph 17 of AS 22.

CONSENSUS

3.

Determination of virtual certainty that sufficient future taxable income will be available is a matter of judgement and will have to be evaluated on a case to case basis. Virtual certainty refers to the extent of certainty, which, for all practical purposes, can be considered certain. Virtual certainty cannot be based merely on forecasts of performance such as business plans.

4.

Virtual certainty is not a matter of perception and it should be supported by convincing evidence. Evidence is a matter of fact. To be convincing, the evidence should be available at the reporting date in a concrete form, for example, a profitable binding export order, cancellation of which will result in payment of heavy damages by the defaulting party. On the other hand, a projection of the future profits made by an enterprise based on the future capital expenditures or future restructuring etc., submitted even to an outside agency, e.g., to a credit agency for obtaining loans and accepted by that agency cannot, in isolation, be considered as convincing evidence.

BASIS FOR CONCLUSIONS

5.

In a situation where an enterprise does not have unabsorbed depreciation or carry forward of losses, the degree of certainty required under AS 22 for recognition of deferred tax asset is 'reasonable certainty'. In contrast, as a measure of greater prudence, AS 22 prescribes a much higher level of certainty, i.e., virtual certainty, for recognition of deferred tax asset in a situation where an enterprise has unabsorbed depreciation or carry forward of losses. Therefore, the level of certainty required for recognition of deferred tax asset in a situation where an enterprise has unabsorbed depreciation or carry forward of losses is much more than the situation where the enterprise does not have the same.

6.

Projections on the basis of future actions of an enterprise cannot be considered as convincing evidence since the enterprise may change its plans on the basis of subsequent developments.

Interpretation of paragraph 4(e) of AS 16, Accounting Standard (AS) 16, Borrowing Costs

¹The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

ISSUE

1.

Paragraph 4 (e) of AS 16, ‘Borrowing Costs’, provides that borrowing costs may include “exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs”.

2.

The issue is which exchange differences are covered under paragraph 4 (e) of AS 16.

CONSENSUS

3.

Paragraph 4 (e) of AS 16 covers exchange differences on the amount of principal of the foreign currency borrowings to the extent of difference between interest on local currency borrowings and interest on foreign currency borrowings. For this purpose, the interest rate for the local currency borrowings should be considered as that rate at which the enterprise would have raised the borrowings locally had the enterprise not decided to raise the foreign currency borrowings. If the difference between the interest on local currency borrowings and the interest on foreign currency borrowings is equal to or more than the exchange difference on the amount of principal of the foreign currency borrowings, the entire amount of exchange difference is covered under paragraph 4 (e) of AS 16.

The Appendix to this Interpretation illustrates the application of the above requirements.

BASIS FOR CONCLUSIONS

4.

Enterprises often borrow in foreign currency at a lower interest rate as an alternative to borrowing locally in rupees, at a higher rate. However, the likely currency depreciation and resulting exchange loss often offset, fully or partly, the difference in the interest rates. In such cases, the exchange difference on the foreign currency borrowings to the extent of the difference between interest on local currency borrowing and interest on foreign currency borrowing, is regarded as an adjustment to the interest costs. This exchange difference is, in substance, a borrowing cost. In case of an enterprise, which instead of borrowing locally at a higher interest rate, borrows in foreign currency on the basis that the interest cost on foreign currency borrowings as adjusted by the exchange fluctuations, is expected to be less than the interest cost of an equivalent rupee borrowing, it is not appropriate to consider only the explicit interest cost on the foreign currency borrowing as the borrowing costs. In such a case, to the extent the exchange differences are regarded as an adjustment to the interest costs, as explained above, the same should also be considered as borrowing costs and accounted for accordingly with a view to reflect economic reality. Accordingly, such an exchange difference is covered under AS 16.

5.

The explicit interest cost, including exchange difference thereon, if any, is covered under paragraph 4 (a) of AS 16, which provides that borrowing costs may include interest and commitment charges on bank borrowing and other short term and long term borrowings. Accordingly, the intention of paragraph 4(e) of AS 16 is to cover exchange differences on the amount of the principal of the foreign currency borrowings. Further, since paragraph 4 (e) uses the words ‘to the extent that they are regarded as an adjustment to interest costs’, the entire exchange difference on principal amount is not covered by paragraph 4 (e). Since, the difference between interest on local currency borrowings and interest on foreign currency borrowings, is regarded as an adjustment to the interest costs, only the exchange difference to the extent of such difference is covered by paragraph 4 (e) of AS 16. The entire exchange difference on the principal amount is regarded as an adjustment to the interest cost only in a situation where the difference between interest on local currency borrowings and interest on foreign currency borrowings is equal to or more than the exchange difference.

Appendix

Note: This appendix is illustrative only and does not form part of the Accounting Standards Interpretation. The purpose of this appendix is to illustrate the application of the Interpretation to assist in clarifying its meaning.

Facts:

XYZ Ltd. has taken a loan of USD 10,000 on April 1, 20X3, for a specific project at an interest rate of 5% p.a., payable annually. On April 1, 20X3, the exchange rate between the currencies was Rs. 45 per USD. The exchange rate, as at March 31, 20X4, is Rs. 48 per USD. The corresponding amount could have been borrowed by XYZ Ltd. in local currency at an interest rate of 11 per cent per annum as on April 1, 20X3.

The following computation would be made to determine the amount of borrowing costs for the purposes of paragraph 4(e) of AS 16:

         i.            Interest for the period = USD 10,000 x 5%x Rs. 48/USD = Rs. 24,000/-

       ii.            Increase in the liability towards the principal amount = USD 10,000 x (48-45) = Rs. 30,000/-

      iii.            Interest that would have resulted if the loan was taken in Indian currency = USD 10000 x 45 x 11%). = Rs. 49,500

     iv.            Difference between interest on local currency borrowing and foreign currency borrowing = Rs. 49,500 - Rs. 24,000 = Rs. 25,500

Therefore, out of Rs. 30,000 increase in the liability towards principal amount, only Rs. 25,500 will be considered as the borrowing cost. Thus, total borrowing cost would be Rs. 49,500 being the aggregate of interest of Rs. 24,000 on foreign currency borrowings (covered by paragraph 4(a) of AS 16) plus the exchange difference to the extent of difference between interest on local currency borrowing and interest on foreign currency borrowing of Rs. 25,500. Thus, Rs. 49,500 would be considered as the borrowing cost to be accounted for as per AS 16 and the remaining Rs. 4,500 would be considered as the exchange difference to be accounted for as per Accounting Standard (AS) 11, The Effects of Changes in Foreign Exchange Rates.

In the above example, if the interest rate on local currency borrowings is assumed to be 13% instead of 11%, the entire exchange difference of Rs. 30,000 would be considered as borrowing costs, since in that case the difference between the interest on local currency borrowings and foreign currency borrowings (i.e., Rs. 34,500 (Rs. 58,500 - Rs. 24,000) is more than the exchange difference of Rs. 30,000. Therefore, in such a case, the total borrowing cost would be Rs. 54,000 (Rs. 24,000 + Rs. 30,000) which would be accounted for under AS 16 and there would be no exchange difference to be accounted for under AS 11.

Accounting for Taxes on Income in case of an Amalgamation, Accounting Standard (AS) 22, Accounting for Taxes on Income

¹ The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

ISSUES

1.

The following issues relating to accounting for taxes on income in the case of an amalgamation are dealt with in this Interpretation:

         i.            In an amalgamation in the nature of purchase, where the consideration for the amalgamation is allocated to the individual identifiable assets/liabilities of the transferor enterprise on the basis of their fair values at the date of amalgamation as per AS 14, 'Accounting for Amalgamations', and the carrying amounts thereof for tax purposes continue to be the same as that for the transferor enterprise, whether deferred tax on the difference between the values of the assets/liabilities arrived at for accounting purposes on the basis of their fair values and the carrying amounts thereof for tax purposes should be recognised. ²

       ii.            If any deferred tax asset, including in respect of unabsorbed depreciation and carry forward of losses, was not recognised by the transferor enterprise, because the conditions relating to prudence laid down in paragraph 15 or paragraph 17, as the case may be, of AS 22, were not satisfied, whether the transferee enterprise can recognise the same if the conditions relating to prudence as per AS 22 are satisfied.

² In case of an amalgamation in the nature of merger and amalgamation in the nature of purchase where the transferee enterprise incorporates the assets/liabilities of the transferor enterprise at their existing carrying amounts as per AS 14 and the carrying amounts thereof for tax purposes continue to be the same as that for the transferor enterprise, the amalgamation does not, in itself, give rise to any difference between the carrying amounts of assets/liabilities for accounting purposes and tax purposes and, consequently, to any deferred tax asset/liability. Accordingly, in respect of such amalgamations, this issue does not arise.

CONSENSUS

2.

In an amalgamation in the nature of purchase, where the consideration for the amalgamation is allocated to the individual identifiable assets/liabilities on the basis of their fair values at the date of amalgamation as per AS 14, 'Accounting for Amalgamations', and the carrying amounts thereof for tax purposes continue to be the same as that for the transferor enterprise, deferred tax on the difference between the values of the assets/liabilities, arrived at for accounting purposes on the basis of their fair values, and the carrying amounts thereof for tax purposes should not be recognised as this constitutes a permanent difference. The consequent differences between the amounts of depreciation for accounting purposes and tax purposes in respect of such assets in subsequent years would also be permanent differences.

3.

In a situation where any deferred tax asset, including in respect of unabsorbed depreciation and carry forward of losses, was not recognised by the transferor enterprise, because the conditions relating to prudence laid down in paragraph 15 or paragraph 17, as the case may be, of AS 22, were not satisfied, the transferee enterprise can recognise the same if the conditions relating to prudence as per AS 22 are satisfied. In such a case, the accounting treatment, as described below, depends on the nature of amalgamation as well as the accounting treatment adopted for amalgamation in accordance with AS 14.

         i.            Where the amalgamation is in the nature of purchase and the consideration for the amalgamation is allocated to individual identifiable assets/liabilities on the basis of their fair values at the date of amalgamation as permitted in AS 14, the deferred tax assets should be recognised by the transferee enterprise at the time of amalgamation itself considering these as identifiable assets. These deferred tax assets can be recognised at the time of amalgamation only if the conditions relating to prudence laid down in paragraph 15 or paragraph 17, as the case may be, of AS 22, are satisfied from the point of view of the transferee enterprise at the time of amalgamation. The recognition of deferred tax assets will automatically affect the amount of the goodwill/capital reserve arising on amalgamation.

In a case where the conditions for recognition of deferred tax assets as per AS 22 are not satisfied at the time of the amalgamation, but are satisfied by the first annual balance sheet date following the amalgamation, the deferred tax assets are recognised in accordance with paragraph 19 of AS 22. The corresponding adjustment should be made to the goodwill/capital reserve arising on the amalgamation. If, however, the conditions for recognition of deferred tax assets are not satisfied even by the first annual balance sheet date following the amalgamation, the corresponding effect of any subsequent recognition of the deferred tax asset on the satisfaction of the conditions should be given in the statement of profit and loss of the year in which the conditions are satisfied and not in the goodwill/capital reserve.

       ii.            Where the amalgamation is in the nature of purchase and the transferee enterprise incorporates the assets/liabilities of the transferor enterprise at their existing carrying amounts as permitted in AS 14, the deferred tax assets should not be recognised at the time of amalgamation. However, if, by the first annual balance sheet date subsequent to amalgamation, the unrecognised deferred tax assets are recognised pursuant to the provisions of paragraph 19 of AS 22 relating to re-assessment of unrecognised deferred tax assets, the corresponding adjustment should be made to goodwill/capital reserve arising on the amalgamation. In a case where the conditions for recognition of deferred tax assets as per AS 22 are not satisfied by the first annual balance sheet date following the amalgamation, the corresponding effect of any subsequent recognition of the deferred tax asset on the satisfaction of the conditions should be given in the statement of profit and loss of the year in which the conditions are satisfied and not in the goodwill/capital reserve.

      iii.            Where the amalgamation is in the nature of merger, the deferred tax assets should not be recognised at the time of amalgamation. However, if, by the first annual balance sheet date subsequent to the amalgamation, the unrecognised deferred tax assets are recognised pursuant to the provisions of paragraph 19 of AS 22 relating to re-assessment of unrecognised deferred tax assets, the corresponding adjustment should be made to the revenue reserves. In a case where the conditions for recognition of deferred tax assets as per AS 22 are not satisfied by the first annual balance sheet date following the amalgamation, the corresponding effect of any subsequent recognition of the deferred tax asset on the satisfaction of the conditions should be given in the statement of profit and loss of the year in which the conditions are satisfied and not in the revenue reserves.

BASIS FOR CONCLUSIONS

4.

AS 22 is based on the 'income statement approach'. In an amalgamation in the nature of purchase, recognition of individual identifiable assets/liabilities of the transferor enterprise on the basis of their fair values at the date of amalgamation does not affect the statement of profit and loss. In a situation where, as per the tax laws, the carrying amounts of the assets/liabilities acquired as a result of amalgamation in the nature of purchase continue to be the same as that for the transferor enterprise, the difference between the carrying amounts of assets/liabilities (with reference to fair values) for accounting purposes and the carrying amounts thereof for tax purposes will never be allowed for deduction for tax purposes. Accordingly, the difference between the carrying amounts of assets/liabilities for accounting purposes and that for tax purposes is a permanent difference. The consequent differences between the amounts of depreciation for accounting purposes and tax purposes in respect of such assets in subsequent years would also be permanent differences.

5.

There may be certain deferred tax assets that were not recognised by the transferor enterprise before the amalgamation because there was no reasonable certainty or virtual certainty, as the case of may be, of the availability of future taxable income against which such assets can be realised. On amalgamation, the availability of future taxable income may become reasonably certain or virtually certain, as the case may be, against which such assets can be realised.

In the case of amalgamation in the nature of purchase where the consideration for amalgamation is allocated to individual identifiable assets and liabilities on the basis of their fair values, the deferred tax assets are recognised, subject to the requirements of AS 22, considering these as identifiable assets at the time of amalgamation itself since identifiable assets and liabilities acquired include assets, such as deferred tax assets, and liabilities not recorded in the financial statements of transferor enterprise. The recognition of deferred tax assets will automatically affect the amount of the goodwill/capital reserve arising on amalgamation.

In case of amalgamation in the nature of purchase where the transferee enterprise incorporates the assets and liabilities of the transferor enterprise of the transferor enterprise at their existing carrying amounts as per AS 14, the deferred tax assets are not recognised at the time of amalgamation since, as per AS 14, assets/liabilities of the transferor enterprise are recognised at their existing carrying amounts in the balance sheet of the transferee enterprise. Therefore, the assets which are not appearing in the balance sheet of the transferor enterprise at the time of amalgamation can not be recognised. However, by the first annual balance sheet date following the amalgamation, the deferred tax assets are recognised by the transferee enterprise subject to the provisions of paragraph 19 of AS 22. The corresponding adjustment is made in the goodwill/capital reserve, since, normally, the benefits to be received from deferred tax assets are in-built in the purchase consideration. Since, in such a case, the benefits to be received from deferred tax assets get clubbed with the goodwill/capital reserve, on a separate recognition of deferred tax assets by the first annual balance sheet date following the amalgamation, it is appropriate to adjust the same against goodwill/capital reserve and not in the statement of profit and loss of the transferee enterprise. In a case where the conditions of recognition of deferred tax assets as per AS 22 are not satisfied by the first annual balance sheet date following the amalgamation, the corresponding effect of any subsequent recognition of the deferred tax asset on the satisfaction of the conditions is given in the statement of profit and loss of the year in which the conditions are satisfied and not in the goodwill/capital reserve. The reason for this is that after the first annual balance sheet following the amalgamation, the satisfaction of conditions relating to prudence as laid down in AS 22, is not attributed to the amalgamation but is a result of the operations of the combined enterprises. Therefore, it is not appropriate to adjust the goodwill/capital reserves arising on amalgamation.

In case of amalgamation in the nature of merger, since as per AS 14, assets/liabilities of the transferor enterprise are recognised at their existing carrying amounts in the balance sheet of the transferee enterprise, at the time of amalgamation, no deferred tax asset is recognised. However, by the first annual balance sheet date following the amalgamation, the deferred tax assets are recognised subject to the provisions of paragraph 19 of AS 22. The corresponding adjustment is made to the revenue reserves, since in case of amalgamation in the nature of merger the situation should be the same had merged entities were continuing as one entity from the beginning. Keeping in view this objective, the corresponding effect is given to revenue reserves since had the merged entities been continuing as one entity from the beginning, the deferred tax assets would have been recognised earlier and would have affected the revenue reserves and not the profit or loss for the year. In a case where the conditions of recognition of deferred tax assets as per AS 22 are not satisfied by the first annual balance sheet date following the amalgamation, the corresponding effect of any subsequent recognition of the deferred tax assets on the satisfaction of the conditions is given in the statement of profit and loss of the year in which the conditions are satisfied and not to the revenue reserves. The reason for this is that after the first annual balance sheet following the amalgamation, the satisfaction of conditions relating to prudence as laid down in AS 22, is not attributed to the merger but is a result of the operations of the merged entities. Therefore, it is not appropriate to adjust the revenue reserves.

Disclosure of Revenue from Sales Transactions, Accounting Standard (AS) 9, Revenue Recognition

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 3/2002, issued in June 2002 stands withdrawn.]

ISSUE

1.

What should be the manner of disclosure of excise duty in the presentation of revenue from sales transactions (turnover) in the statement of profit and loss.

CONSENSUS

2.

The amount of turnover should be disclosed in the following manner on the face of the statement of profit and loss:

BASIS FOR CONCLUSIONS

3.

Financial analysts and other users of financial statements, sometimes, require the information related to turnover gross of excise duty as well as net of excise duty for meaningful understanding of financial statements. However, it was noted that some enterprises disclose turnover net of excise duty while others disclose turnover at gross amount. Accordingly, this Interpretation requires disclosure of turnover gross of excise duty as well as net of excise duty on the face of the statement of profit and loss.

1 Published in'The Chartered Accountant', March 2004, pp. 956. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Notes to the Consolidated Financial Statements Accounting Standard (AS) 21, Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 5/2002, issued in June 2002, stands withdrawn.]

ISSUE

1.

Whether all the notes appearing in the separate financial statements of the parent enterprise and its subsidiaries should be included in the notes to the consolidated financial statements.

CONSENSUS

2.

All the notes appearing in the separate financial statements of the parent enterprise and its subsidiaries need not be included in the notes to the consolidated financial statements. For preparing consolidated financial statements, the following principles should be observed in respect of notes and other explanatory material that form an integral part thereof:

a.       Notes which are necessary for presenting a true and fair view of the consolidated financial statements should be included in the consolidated financial statements as an integral part thereof.

b.       Only the notes involving items which are material need to be disclosed. Materiality for this purpose should be assessed in relation to the information contained in consolidated financial 1Published in'The Chartered Accountant', March 2004, pp. 956-958. The authority of this ASI is the same statements. In view of this, it is possible that certain notes which are disclosed in separate financial statements of a parent or a subsidiary would not be required to be disclosed in the consolidated financial statements when the test of materiality is applied in the context of consolidated financial statements.

c.       Additional statutory information disclosed in separate financial statements of the subsidiary and/or a parent having no bearing on the true and fair view of the consolidated financial statements need not be disclosed in the consolidated financial statements. For instance, in the case of companies, the information such as the following given in the notes to the separate financial statements of the parent and/or the subsidiary, need not be included in the consolidated financial statements:

                                 i.            Source from which bonus shares are issued, e.g., capitalisation of profits or Reserves or from Share Premium Account.

                               ii.            Disclosure of all unutilised monies out of the issue indicating the form in which such unutilised funds have been invested.

                              iii.            The name(s) of small scale industrial undertaking(s) to whom the company owe any sum together with interest outstanding for more than thirty days.

                             iv.            A statement of investments (whether shown under "Investment" or under "Current Assets" as stock-in-trade) separately classifying trade investments and other investments, showing the names of the bodies corporate (indicating separately the names of the bodies corporate under the same management) in whose shares or debentures, investments have been made (including all investments, whether existing or not, made subsequent to the date as at which the previous balance sheet was made out) and the nature and extent of the investment so made in each such body corporate.

                               v.            Quantitative information in respect of sales, raw materials consumed, opening and closing stocks of goods produced/ traded and purchases made, wherever applicable.

                             vi.            A statement showing the computation of net profits in accordance with section 349 of the Companies Act, 1956, with relevant details of the calculation of the commissions payable by way of percentage of such profits to the directors (including managing directors) or manager (if any).

                            vii.            In the case of manufacturing companies, quantitative information in regard to the licensed capacity (where licence is in force); the installed capacity; and the actual production.

                          viii.            Value of imports calculated on C.I.F. basis by the company during the financial year in respect of :-

a.       raw materials;

b.       components and spare parts;

c.       capital goods.

                             ix.            Expenditure in foreign currency during the financial year on account of royalty, know-how, professional, consultation fees, interest, and other matters.

                               x.            Value of all imported raw materials, spare parts and components consumed during the financial year and the value of all indigenous raw materials, spare parts and components similarly consumed and the percentage of each to the total consumption.

                             xi.            The amount remitted during the year in foreign currencies on account of dividends, with a specific mention of the number of non-resident shareholders, the number of shares held by them on which the dividends were due and the year to which the dividends related.

                            xii.            Earnings in foreign exchange classified under the following heads, namely:-

a.       export of goods calculated on F.O.B. basis;

b.       royalty, know-how, professional and consultation fees;

c.       interest and dividend;

d.       other income, indicating the nature thereof.

1Published in'The Chartered Accountant', March 2004, pp. 956-958. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

BASIS FOR CONCLUSIONS

3.

Paragraph 6 of Accounting Standard (AS) 21, Consolidated Financial Statements, states as below:

"Consolidated financial statements normally include consolidated balance sheet, consolidated statement of profit and loss, and notes, other statements and explanatory material that form an integral part thereof. Consolidated cash flow statement is presented in case a parent presents its own cash flow statement. The consolidated financial statements are presented, to the extent possible, in the same format as that adopted by the parent for its separate financial statements."

4.

Paragraph 8 of AS 21 provides as under:

"Users of the financial statements of a parent are usually concerned with, and need to be informed about, the financial position and results of operations of not only the enterprise itself but also of the group as a whole. This need is served by providing the users -

a.       separate financial statements of the parent; and

b.       consolidated financial statements, which present financial information about the group as that of a single enterprise without regard to the legal boundaries of the separate legal entities."

5.

In view of the above, consolidated financial statements should be prepared considering parent and subsidiary enterprises as one enterprise. Therefore, the test of materiality is to be applied in the context of the consolidated financial statements.

6.

As per the Framework for the Preparation and Presentation of Financial Statements, the benefits derived from information should exceed the cost of providing it. In the separate financial statements, certain information is disclosed as a result of the statutory requirements. Such information may not have a bearing on the true and fair view of the consolidated financial statements. Accordingly, with a view to maintain a balance between cost and the benefits, such information need not be disclosed in the consolidated financial statements.

Treatment of Proposed Dividend under AS 23, Accounting Standard (AS) 23, Accounting for Investments in, Associates in Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 6/2002, issued in June 2002, stands withdrawn.]

ISSUE

1.

In case an associate has made a provision for proposed dividend in its financial statements, whether the investor should consider the same while computing its share of the results of operations of the associate.

CONSENSUS

2.

In case an associate has made a provision for proposed dividend in its financial statements, the investor's share of the results of operations of the associate should be computed without taking into consideration the proposed dividend.

BASIS FOR CONCLUSIONS

3.

Pursuant to the requirements of Schedule VI to the Companies Act, 1956, the provision for dividend is shown under the head 'Current Liabilities and Provisions', and in the statement of profit and loss, it is included after determination of the net profit or loss for the period (below the line). Although provision for dividend is disclosed by companies which are governed by the Companies Act, 1956, under the head 'Current Liabilities and Provisions', from accounting point of view, it is strictly not a liability. In this context, the definition of the term 'liability' can be noted from the 'Framework for the Preparation and Presentation of Financial Statements', which is as follows:

"A liability is a present obligation of the enterprise arising from past events, the settlement of which is expected to result in an outflow from the enterprise of resources embodying economic benefits."

Proposed dividend, pending the approval of the shareholders in General Meeting, does not fulfill the above definition since it is not a present obligation at the balance sheet date.

1. Published in'The Chartered Accountant', March 2004, pp. 958. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

4.

AS 23 defines 'the equity method' as under:

"The equity method is a method of accounting whereby the investment is initially recorded at cost, identifying any goodwill/ capital reserve arising at the time of acquisition. The carrying amount of the investment is adjusted thereafter for the post acquisition change in the investor's share of net assets of the investee. The consolidated statement of profit and loss reflects the investor's share of the results of operations of the investee."

Paragraph 6 of AS 23 states that:

"....Distributions received from an investee reduce the carrying amount of the investmen...."

In view of paragraph 3 above, it is appropriate that while applying the equity method, proposed dividend provided by the associate in its separate financial statements is not considered by the investor.

Adjustments to the Carrying Amount of Investment arising from, Changes in Equity not Included in the Statement of Profit and Loss of the Associate Accounting Standard (AS) 23, Accounting for Investments in Associates in Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 8/2002, issued in June 2002, stands withdrawn.]

ISSUE

1.

The issue is as to how the adjustments to the carrying amount of investment in an associate arising from changes in the associate's equity that have not been included in the statement of profit and loss of the associate, should be made.

CONSENSUS

2.

Adjustments to the carrying amount of investment in an associate arising from changes in the associate's equity that have not been included in the statement of profit and loss of the associate should be directly made in the carrying amount of investment without routing it through the consolidated statement of profit and loss. The corresponding debit/credit should be made in the relevant head of the equity interest in the consolidated balance sheet. For example, in case the adjustment arises because of revaluation of fixed assets by the associate, apart from adjusting the carrying amount of investment to the extent of proportionate share of the investor in the revalued amount, the corresponding amount of revaluation reserve should be shown in the consolidated balance sheet.

1.Published in'The Chartered Accountant', March 2004, pp. 960. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

BASIS FOR CONCLUSIONS

3.

Paragraph 6 of AS 23 states as follows:

'6. Under the equity method, the investment is initially recorded at cost, identifying any goodwill/capital reserve arising at the time of acquisition and the carrying amount is increased or decreased to recognise the investor's share of the profits or losses of the investee after the date of acquisition. Distributions received from an investee reduce the carrying amount of the investment. Adjustments to the carrying amount may also be necessary for alterations in the investor's proportionate interest in the investee arising from changes in the investee's equity that have not been included in the statement of profit and loss. Such changes include those arising from the revaluation of fixed assets and investments, from foreign exchange translation differences and from the adjustment of differences arising on amalgamations.'

4.

In view of the above, adjustments to the carrying amount of an investment in an associate are made for alterations in the investor's proportionate interest in the investee arising from changes in the investee's equity that have not been included in the statement of profit and loss. In respect of the corresponding effect of such adjustments, it is not appropriate to route the same through the consolidated statement of profit and loss since the relevant item has not been recognised by the associate in its statement of profit and loss.

Consideration of Potential Equity Shares for Determining whether an Investee is an Associate under AS 23, Accounting Standard (AS) 23, Accounting for Investments in Associates in Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 8/2002, issued in June 2002, stands withdrawn.]

ISSUE

1.

For applying the definition of an 'associate', whether the potential equity shares of the investee held by the investor should be taken into account for determining the voting power of the investor.

CONSENSUS

2.

The potential equity shares of the investee held by the investor should not be taken into account for determining the voting power of the investor.

BASIS FOR CONCLUSIONS

3.

AS 23 defines 'associate' as "an enterprise in which the investor has significant influence and which is neither a subsidiary nor a joint venture of the investor". 'Significant influence' is defined in AS 23 as "the power to participate in the financial and/or operating policy decisions of the investee but not control over those policies". AS 23 further explainsin paragraph 4 that as regards share ownership, if an investor holds, directly or indirectly through subsidiary(ies), 20% or more of the voting power of the investee, it is presumed that the investor has significant influence, unless it can be clearly demonstrated that this is not the case. Conversely, if the investor holds, directly or indirectly through subsidiary(ies), less than 20% of the voting power of the investee, it is presumed that the investor does not have significant influence, unless such influence can be clearly demonstrated.

4. For the above purpose, it is appropriate that the voting power is determined on the basis of the current outstanding securities with voting rights since potential equity shares do not have the voting power from the point of view of participating in the financial and/or operating policy decisions of the investee.

1.Published in'The Chartered Accountant', March 2004, pp. 962. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Interpretation of the term 'intermediaries' Accounting Standard (AS) 18, Related Party Disclosures

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 9/2002, issued in October 2002, stands withdrawn.]

ISSUE

1.

The issue is how the term 'intermediaries' should be interpreted for the purposes of paragraphs 3 and 13 of AS 18.

CONSENSUS

2.

For the purposes of paragraphs 3 and 13 of AS 18, the term ‘intermediaries’ should be confined to mean enterprises which are ‘subsidiaries’ as defined in AS 21, Consolidated Financial Statements..

BASIS FOR CONCLUSIONS

3.

Paragraphs 3 and 13 of AS 18 state as under:

"3. This Statement deals only with related party relationships described in (a) to (e) below:

a.       enterprises that directly, or indirectly through one or more intermediaries, control, or are controlled by, or are under common control with, the reporting enterprise (this includes holding companies, subsidiaries and fellow subsidiaries);

"13. Significant influence may be exercised in several ways, for example, by representation on the board of directors, participation in the policy making process, material inter-company transactions, interchange of managerial personnel, or dependence on technical information. Significant influence may be gained by share ownership, statute or agreement. As regards share ownership, if an investing party holds, directly or indirectly through intermediaries, 20 per cent or more of the voting power of the enterprise, it is presumed that the investing party does have significant influence, unless it can be clearly demonstrated that this is not the case. Conversely, if the investing party holds, directly or indirectly through intermediaries, less than 20 per cent of the voting power of the enterprise, it is presumed that the investing party does not have significant influence, unless such influence can be clearly demonstrated. A substantial or majority ownership by another investing party does not necessarily preclude an investing party from having significant influence."

4. In the context of 'control' and exercise of 'significant influence', the meaning of the term 'intermediaries' should be confined to mean only enterprises which are 'subsidiaries' within the meaning of AS 21, and extending it to cover 'associate' etc. would not be practicable.

1. Published in'The Chartered Accountant', March 2004, pp. 962-963. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Accounting Standards Interpretation (ASI) 20 (Revised), Disclosure of Segment Information, Accounting Standard (AS) 17, Segment Reporting

ISSUE

1.

Whether an enterprise, which has neither more than one business segment nor more than one geographical segment, is required to disclose segment information as per AS 17.

CONSENSUS

2.

In case by applying the definitions of ‘business segment’ and ‘geographical segment’, contained in AS 17, it is concluded that there is neither more than one business segment nor more than one geographical segment, segment information as per AS 17 is not required to be disclosed. However, the fact that there is only one ‘business segment’ and ‘geographical segment’ should be disclosed by way of a note.

BASIS FOR CONCLUSIONS

3.

The paragraph of AS 17 dealing with ‘Objective’ provides as under:

“The objective of this Statement is to establish principles for reporting financial information, about the different types of products and services an enterprise produces and the different geographical areas in which it operates. Such information helps users of financial statements:

a.       better understand the performance of the enterprise;

b.       better assess the risks and returns of the enterprise; and

c.       make more informed judgements about the enterprise as a whole.

Many enterprises provide groups of products and services or operate in geographical areas that are subject to differing rates of profitability, opportunities for growth, future prospects, and risks. Information about different types of products and services of an enterprise and its operations in different geographical areas - often called segment information - is relevant to assessing the risks and returns of a diversified or multi-locational enterprise but may not be determinable from the aggregated data. Therefore, reporting of segment information is widely regarded as necessary for meeting the needs of users of financial statements.”

In case of an enterprise, which has neither more than one business segment nor more than one geographical segment, the relevant information is available from the balance sheet and statement of profit and loss itself and, therefore, keeping in view the objective of segment reporting, such an enterprise is not required to disclose segment information as per AS 17. The disclosure of the fact that there is only one ‘business segment’ and ‘geographical segment’ and, therefore, the segment information is not provided by the concerned enterprise is useful for the users of the financial statements while making a comparison among various enterprises.

Non-Executive Directors on the Board - whether related parties, Accounting Standard (AS) 18, Related Party Disclosures

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 13/2002, issued in October 2002, stands withdrawn.]

ISSUES

1.

The issue is as to whether a non-executive director on the Board of Directors of a company is a key management person.

2.

Another related issue is as to whether a non-executive director is covered by AS 18 in case he participates in the financial and/or operating policy decisions of an enterprise.

CONSENSUS

3.

A non-executive director of a company should not be considered as a key management person under AS 18 by virtue of merely his being a director unless he has the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise.

4.

The requirements of AS 18 should not be applied in respect of a nonexecutive director even if he participates in the financial and/or operating policy decision of the enterprise, unless he falls in any of the categories in paragraph 3 of AS 18.

1 Published in'The Chartered Accountant', March 2004, pp. 964-965. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

BASIS FOR CONCLUSIONS

5.

AS 18 defines "key management personnel" as under:

"Key management personnel - those persons who have the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise."

Paragraph 14 of AS 18 explains as under:

"14. Key management personnel are those persons who have the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise. For example, in the case of a company, the managing director(s), whole time director(s), manager and any person in accordance with whose directions or instructions the board of directors of the company is accustomed to act, are usually considered key management personnel."

AS 18 considers only such persons as key management personnel who have the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise. Therefore, merely being a director of a company is not sufficient for becoming key management person within the meaning of AS 18, unless that director has the authority and responsibility for planning, directing and controlling the activities of the reporting enterprise.

6.

AS 18 defines 'related party' and 'significant influence' as below:

"Related party - parties are considered to be related if at any time during the reporting period one party has the ability to control the other party or exercise significant influence over the other party in making financial and/or operating decisions."

"Significant influence - participation in the financial and/or operating policy decisions of an enterprise, but not control of those policies."

A non-executive director, who participates in the financial and/or operating policy decisions of the enterprise, may qualify as a 'related party'. However, paragraphs 2 and 3 of AS 18 dealing with the scope of AS 18 provide as below: "2. This Statement applies only to related party relationships described in paragraph 3.

3. This Statement deals only with related party relationships described in (a) to (e) below:

a.       enterprises that directly, or indirectly through one or more intermediaries, control, or are controlled by, or are under common control with, the reporting enterprise (this includes holding companies, subsidiaries and fellow subsidiaries);

b.       associates and joint ventures of the reporting enterprise and the investing party or venturer in respect of which the reporting enterprise is an associate or a joint venture;

c.       individuals owning, directly or indirectly, an interest in the voting power of the reporting enterprise that gives them control or significant influence over the enterprise, and relatives of any such individual;

d.       key management personnel and relatives of such personnel; and

e.       enterprises over which any person described in (c) or (d) is able to exercise significant influence. This includes enterprises owned by directors or major shareholders of the reporting enterprise and enterprises that have a member of key management in common with the reporting enterprise."

In view of the above, a non-executive director, merely by virtue of his being a director and thereby participating in the financial and/or operating policy decisions of the enterprise, is not covered under any one of the above. Accordingly, AS 18 is not applicable to such a non-executive director. However, a non-executive director is covered by a related party relationship in case other requirements of the Standard are met. For instance, he is considered as a key management person as per paragraph 3 of this Interpretation or he is in a position to exercise control or significant influence by virtue of owning an interest in the voting power as per paragraph 3 (c) of AS 18.

Treatment of Interest for determining Segment ExpenseAccounting Standard (AS) 17, Segment Reporting

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 14/2002, issued in October 2002, stands withdrawn.]

ISSUES

1.

Whether interest expense relating to overdrafts and other operating liabilities identified to a particular segment should be included in the segment expense or not.

2.

Another issue is that in case interest is included as a part of the cost of inventories where it is so required as per Accounting Standard (AS) 16, Borrowing Costs, read with Accounting Standard (AS) 2, Valuation of Inventories, and those inventories are part of segment assets of a particular segment, whether such interest would be considered as a segment expense.

CONSENSUS

3.

The interest expense relating to overdrafts and other operating liabilities identified to a particular segment should not be included as a part of the segment expense unless the operations of the segment are primarily of a financial nature or unless the interest is included as a part of the cost of inventories as per paragraph 4 below.

4.

In case interest is included as a part of the cost of inventories where it is so required as per AS 16, read with AS 2, Valuation of Inventories, and those inventories are part of segment assets of a particular segment, such interest should be considered as a segment expense. In this case, the amount of such interest and the fact that the segment result has been arrived at after considering such interest should be disclosed by way of a note to the segment result.

1 Published in 'The Chartered Accountant', March 2004, pp. 965-966. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

BASIS FOR CONCLUSIONS

5.

The definition of the term "segment expense" (paragraph 5) contained in AS 17 does not include, inter alia, "interest expense, including interest incurred on advances or loans from other segments, unless the operations of the segment are primarily of a financial nature." Accordingly, the interest expense relating to overdrafts and other operating liabilities identified to a particular segment is not included as a part of the segment expense unless the operations of the segment are primarily of a financial nature or unless the interest is included as a part of the cost of inventories as per paragraph 4 above.

6.

According to AS 16, read with AS 2, interest can be added to the cost of inventories only where time is the major factor in bringing about a change in the condition of inventories. Change in the condition of inventories is an operational activity. Accordingly, such interest is resulting from the operating activities of the segment in respect of which such inventories constitute the segment asset. The definition of 'segment expense' under AS 17 comprises, inter alia, "the expense resulting from the operating activities of a segment that is directly attributable to the segment." Accordingly, interest on such inventories should be considered as a segment expense. The clause excluding the interest expense in the definition of 'segment expense' (see paragraph 5 above) does not apply to such interest.

Remuneration paid to key management personnel – whether a related party transaction, Accounting Standard (AS) 18, Related Party Disclosures

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) – 15/2002, issued in October 2002, stands withdrawn.]

ISSUES

1.

The issue is whether remuneration paid to key management personnel is a related party transaction. Another related issue is whether remuneration paid to non-executive directors on the Board of Directors is a related party transaction.

CONSENSUS

2.

Remuneration paid to key management personnel should be considered as a related party transaction requiring disclosures under AS 18. In case non-executive directors on the Board of Directors are not related parties (see Accounting Standards Interpretation 21), remuneration paid to them should not be considered a related party transaction.

BASIS FOR CONCLUSIONS

3.

AS 18 defines "related party transaction" as under:

"Related Party Transaction -a transfer of resources or obligations between related parties, regardless of whether or not a price is charged."

1. Published in'The Chartered Accountant', March 2004, pp. 966-967. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Paragraph 24 of AS 18 provides as under:

"24. The following are examples of the related party transactions in respect of which disclosures may be made by a reporting enterprise:

• purchases or sales of goods (finished or unfinished);
• purchases or sales of fixed assets;
• rendering or receiving of services;
• agency arrangements;
• leasing or hire purchase arrangements;
• transfer of research and development;
• licence agreements;
• finance (including loans and equity contributions in cash or in kind);
• guarantees and collaterals; and
• management contracts including for deputation of employees."

As per the definition of the related party transaction, the transaction should be between related parties to qualify as a related party transaction.

Since key management personnel are related parties under AS 18, remuneration paid to key management personnel is a related party transaction requiring disclosures under AS 18. Further, in case non-executive directors on the Board of Directors are not related parties (see Accounting Standards Interpretation 21), remuneration paid to them is not considered a related party transaction.

Definition of 'Control', Accounting Standard (AS) 21, Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 16/2002, issued in October 2002, stands withdrawn.]

ISSUE

1.

In case an enterprise is controlled by two enterprises - one controls by virtue of ownership of majority of the voting power of that enterprise and the other controls, by virtue of an agreement or otherwise, the composition of the board of directors so as to obtain economic benefits from its activities - whether in such a case both the controlling enterprises should consolidate the financial statements of the first mentioned enterprise.

CONSENSUS

2.

In a rare situation, when an enterprise is controlled by two enterprises as per the definition of 'control' under AS 21, the first mentioned enterprise will be considered as subsidiary of both the controlling enterprises within the meaning of AS 21 and, therefore, both the enterprises should consolidate the financial statements of that enterprise as per the requirements of AS 21.

BASIS FOR CONCLUSIONS

3.

AS 21 defines "control" and "subsidiary" as under:

"Control"

a.      the ownership, directly or indirectly through subsidiary(ies), of more than one-half of the voting power of an enterprise; or

b.      (b) it operates under severe long-term restrictions which significantly impair its ability to transfer funds to the parent.

A subsidiary is an enterprise that is controlled by another enterprise (known as the parent)."

The definition of 'control' lays down two independent tests as above. Consequently, it is possible that an enterprise is controlled by two enterprises - one controls by virtue of ownership of majority of the voting power of that enterprise and the other controls, by virtue of an agreement or otherwise, the composition of the board of directors so as to obtain economic benefits from its activities. This Interpretation, while recognising that the above situation will occur rarely, requires that in such a case, the first mentioned enterprise will be considered as subsidiary of both the controlling enterprises within the meaning of AS 21 and, therefore, both the enterprises should consolidate the financial statements of that enterprise as per the requirements of AS 21.

1.Published in'The Chartered Accountant', March 2004, pp. 967. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Exclusion of a subsidiary from consolidation, Accounting Standard (AS) 21, Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 17/2002, issued in October 2002, stands withdrawn.]

ISSUE

1.

In case an enterprise owns majority of the voting power of another enterprise but all the shares are held as 'stock-in-trade', whether this will amount to temporary control within the meaning of paragraph 11(a) of AS 21.

CONSENSUS

2.

Where an enterprise owns majority of voting power by virtue of ownership of the shares of another enterprise and all the shares held as 'stock-in-trade' are acquired and held exclusively with a view to their subsequent disposal in the near future, the control by the first mentioned enterprise should be considered to be temporary within the meaning of paragraph 11(a).

1. Published in'The Chartered Accountant', March 2004, pp. 968. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

BASIS FOR CONCLUSIONS

3.

Paragraph 11 of AS 21 provides as under:

"11. A subsidiary should be excluded from consolidation when:

a.      control is intended to be temporary because the subsidiary is acquired and held exclusively with a view to its subsequent disposal in the near future; or

b.      (b) it operates under severe long-term restrictions which significantly impair its ability to transfer funds to the parent.

c.       In consolidated financial statements, investments in such subsidiaries should be accounted for in accordance with Accounting Standard (AS) 13, Accounting for Investments. The reasons for not consolidating a subsidiary should be disclosed in the consolidated financial statements."

In view of the above, merely holding all the shares as 'stock-in-trade', is not sufficient to be considered as temporary control within the meaning of paragraph 11(a) above. It is only when all the shares held as 'stock-in-trade' are acquired and held exclusively with a view to their subsequent disposal in the near future, the control would be considered to be temporary within the meaning of paragraph 11(a).

Accounting for taxes on income in the consolidated financial statements, Accounting Standard (AS) 21, Consolidated Financial Statements

[Pursuant to the issuance of this Accounting Standards Interpretation, General Clarification (GC) - 18/2002, issued in October 2002, stands withdrawn.]

ISSUE

1.

For preparing consolidated financial statements, whether the tax expense (comprising current tax and deferred tax) should be recomputed in the context of consolidated information or the tax expense appearing in the separate financial statements of the parent and its subsidiaries should be aggregated and no further adjustments should be made for the purposes of consolidated financial statements.

CONSENSUS

2.

While preparing consolidated financial statements, the tax expense to be shown in the consolidated financial statements should be the aggregate of the amounts of tax expense appearing in the separate financial statements of the parent and its subsidiaries.

BASIS FOR CONCLUSIONS

3.

The amounts of tax expense appearing in the separate financial statements of a parent and its subsidiaries do not require any adjustment for the purpose of consolidated financial statements. In view of this, while preparing consolidated financial statements, the tax expense to be shown in the consolidated financial statements is the aggregate of the amounts of tax expense appearing in the separate financial statements of the parent and its subsidiaries.

1. Published in 'The Chartered Accountant', March 2004, pp. 968-969. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

Applicability of AS 25 to Interim Financial Results, Accounting Standard (AS) 25, Interim Financial Reporting

ISSUE

1.

Whether AS 25 is applicable to interim financial results presented by an enterprise pursuant to the requirements of a statute/regulator, for example, quarterly financial results presented under Clause 41 of the Listing Agreement entered into between Stock Exchanges and the listed enterprises.

CONSENSUS

2.

The presentation and disclosure requirements contained in AS 25 should be applied only if an enterprise prepares and presents an 'interim financial report' as defined in AS 25. Accordingly, presentation and disclosure requirements contained in AS 25 are not required to be applied in respect of interim financial results (which do not meet the definition of 'interim financial report' as per AS 25) presented by an enterprise. For example, quarterly financial results presented under Clause 41 of the Listing Agreement entered into between Stock Exchanges and the listed enterprises do not meet the definition of 'interim financial report' as per AS 25. However, the recognition and measurement principles laid down in AS 25 should be applied for recognition and measurement of items contained in such interim financial results.

BASIS FOR CONCLUSIONS

3.

The consensus is arrived at on the basis of the provisions of the following paragraphs of AS 25:"Accounting Standard (AS) 25, 'Interim Financial Reporting', issued by the Council of the Institute of Chartered Accountants of India, comes into effect in respect of accounting periods commencing on or after 1- 4-2002. If an enterprise is required or elects to prepare and present an interim financial report, it should comply with this Standard." (applicability paragraph)

1 Published in 'The Chartered Accountant', March 2004, pp. 969. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

1.       This Statement does not mandate which enterprises should be required to present interim financial reports, how frequently, or how soon after the end of an interim period. If an enterprise is required or elects to prepare and present an interim financial report, it should comply with this Statement."

A statute governing an enterprise or a regulator may require an enterprise to prepare and present certain information at an interim date which may be different in form and/or content as required by this Statement. In such a case, the recognition and measurement principles as laid down in this Statement are applied in respect of such information, unless otherwise specified in the statute or by the regulator."

The following terms are used in this Statement with the meanings specified:

Interim financial report means a financial report containing either a complete set of financial statements or a set of condensed financial statements (as described in this Statement) for an interim period."

Disclosure of parent's/venturer's shares in post-acquisition reserves of a subsidiary/ jointly controlled entity, Accounting Standard (AS) 21, Consolidated Financial Statements and AS 27, Financial Reporting of Interests in Joint Ventures

ISSUE

1.

What should be the manner of disclosure of the parent's/venturer's share in the post-acquisition reserves of a subsidiary/jointly controlled entity in the consolidated balance sheet?

CONSENSUS

2.

The parent's share in the post-acquisition reserves of a subsidiary, forming part of the corresponding reserves in the consolidated balance sheet,is not required to be disclosed separately in the consolidated balance sheet.

3.

The objective paragraph of AS 21 provides, inter alia, that the consolidated financial statements are intended to present financial information about a parent and its subsidiary(ies) as a single economic entity to show the economic resources controlled by the group, the obligations of the group and the results the group achieves with its resources. Further, paragraph 8 of AS 21 provides that users of the financial statements of a parent are usually concerned with, and need to be informed about, the financial position and results of operations of not only the enterprise itself but also of the group as a whole. It further provides that this need is served by providing the users separate financial statements of the parent and consolidated financial statements, which present financial information about the group as that of a single enterprise without regard to the legal boundaries of the separate legal entities.

1 Published in 'The Chartered Accountant', March 2004, pp. 970. The authority of this ASI is the same as that of the Accounting Standard to which it relates. The contents of this ASI are intended for the limited purpose of the Accounting Standard to which it relates. ASI is intended to apply only to material items.

4.

Paragraph 13 of AS 21, as a starting point of applying consolidation procedures, provides, inter alia, that in preparing consolidated financial statements, the financial statements of the parent and its subsidiaries should be combined on a line by line basis adding together like items of assets, liabilities, income and expenses. Pursuant to this, the reserves of the subsidiary(ies) are also added line by line with the corresponding reserves of the parent. Other provisions of paragraph 13 and paragraphs 14 to 27 lay down other consolidation procedures which, considering the overall scheme of the consolidation procedures, are to be applied after addition on a line by line basis. These procedures are applied so as to present financial information about the group as that of a single enterprise. The effect of applying consolidation procedures as per AS 21 is that the parent's share in the post acquisition reserves of the subsidiary forms part of the corresponding reserves in the consolidated balance sheet. This is not disclosed separately keeping in view the objective of consolidated financial statements to present financial information of the group as a whole.

Paragraphs 31 and 33 of AS 27 provide as below:

·         "31. The application of proportionate consolidation means that the consolidated balance sheet of the venturer includes its share of the assets that it controls jointly and its share of the liabilities for which it is jointly responsible. The consolidated statement of profit and loss of the venturer includes its share of the income and expenses of the jointly controlled entity. Many of the procedures appropriate for the application of proportionate consolidation are similar to the procedures for the consolidation of investments in subsidiaries, which are set out in Accounting Standard (AS) 21, Consolidated Financial Statements."

·         "33. Under proportionate consolidation, the venturer includes separate line items for its share of the assets, liabilities, income and expenses of the jointly controlled entity in its consolidated financial statements. For example, it shows its share of the inventory of the jointly controlled entity separately as part of the inventory of the consolidated group; it shows its share of the fixed assets of the jointly controlled entity separately as part of the same items of the consolidated group."

·         In view of the above, while applying proportionate consolidation method, as in the case of items of assets and liabilities, the venturer's share in the post-acquisition reserves of the jointly controlled entity is shown separately under the relevant reserves in the consolidated financial statements.

Turnover in case of Contractors, Accounting Standard (AS) 7, Construction Contracts (revised 2002)

ISSUE

1.

AS 7, Construction Contracts (revised 2002) deals, inter alia, with revenue recognition in respect of construction contracts in the financial statements of contractors. It requires recognition of revenue by reference to the stage of completion of a contract (referred to as 'percentage of completion method'). This method results in reporting of revenue which can be attributed to the proportion of work completed. Under this method, contract revenue is recognised as revenue in the statement of profit and loss in the accounting period in which the work is performed

The issue is whether the revenue so recognised in the financial statements of contractors as per the requirements of AS 7 can be considered as 'turnover'.

CONSENSUS

2.

The amount of contract revenue recognised as revenue in the statement of profit and loss as per the requirements of AS 7 should be considered as 'turnover'.

BASIS FOR CONCLUSIONS

3.

The paragraph dealing with the 'Objective' of AS 7 provides as follows:

" Objective

The objective of this Statement is to prescribe the accounting treatment of revenue and costs associated with construction contracts. Because of the nature of the activity undertaken in construction contracts, the date at which the contract activity is entered into and the date when the activity is completed usually fall into different accounting periods. Therefore, the primary issue in accounting for construction contracts is the allocation of contract revenue and contract costs to the accounting periods in which construction work is performed. This Statement uses the recognition criteria established in the Framework for the Preparation and Presentation of Financial Statements to determine when contract revenue and contract costs should be recognized as revenue and expenses in the statement of profit and loss. It also provides practical guidance on the application of these criteria.'

From the above, it may be noted that AS 7 deals, inter alia, with the allocation of contract revenue to the accounting periods in which construction work is performed.

4.

Paragraphs 21 and 31 of AS 7 provide as follows:

'21. When the outcome of a construction contract can be estimated reliably, contract revenue and contract costs associated with the construction contract should be recognised as revenue and expenses respectively by reference to the stage of completion of the contract activity at the reporting date. An expected loss on the construction contract should be recognised as an expense immediately in accordance with paragraph 35.'

'31. When the outcome of a construction contract cannot be estimated reliably:

a.      revenue should be recognised only to the extent of contract costs incurred of which recovery is probable; and

b.      contract costs should be recognised as an expense in the period in which they are incurred.

An expected loss on the construction contract should be recognised as an expense immediately in accordance with paragraph 35.'

From the above, it may be noted that the recognition of revenue as per AS 7 may be inclusive of profit (as per paragraph 21 reproduced above) or exclusive of profit (as per paragraph 31 above) depending on whether the outcome of the construction contract can be estimated reliably or not. When the outcome of the construction contract can be estimated reliably, the revenue is recognised inclusive of profit and when the same cannot be estimated reliably, it is recognised exclusive of profit. However, in either case it is considered as revenue as per AS 7.

5.

'Revenue' is a wider term. For example, within the meaning of AS 9, Revenue Recognition, the term 'revenue' includes revenue from sales transactions, rendering of services and from the use by others of enterprise resources yielding interest, royalties and dividends. The term 'turnover' is used in relation to the source of revenue that arises from the principal revenue generating activity of an enterprise. In case of a contractor, the construction activity is its principal revenue generating activity. Hence, the revenue recognised in the statement of profit and loss of a contractor in accordance with the principles laid down in AS 7, by whatever nomenclature described in the financial statements, is considered as 'turnover'.