Income computatIon and dIsclosure standards Icds)

1 Income computatIon and dI sclosure standards (Icds )ca Vyomesh pathak26 may 2018 WESTERN INDIA REGIONAL COUNCIL OFTHE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIABackGround of Icds3 BackGroundICDS fromFY2016-17onwards Applicabletoalltaxpayersfollowingmercant ilesystemofaccountingforincomeunderPGBPa ndOthersources Exception Individuals/ HUFsnotrequiredtoobtaintaxauditreport NoseparatebooksofaccountrequiredunderICD S Meantonlyfornormaltaxcomputationandnotfo rM ATWHY ICDS BY GOVERNMENTICDS Government s attempt to bring uniformity and clarity in computatIon of Income Availabilityofalternativeaccountingtreat mentsleadingtovarying/ differenttaxpositions Taxman sview Earlyexpense / laterevenue duetoaccountingchoice,incaseswhereActdoe snotdealwiththesituationkey Impact areas of Icds5key I mpact areas of IcdsAbsence of Prudence to impact expense claimsACCOUNTING POLICY Conceptof Prudence diluted Noexpected/ MTMlossespermitted SubstanceoverForm Aligntreatmenttosubstance,notlegalform Mandatorydisclosure Allaccountingpoliciesandtheirimpact Disclosuredoesnotremedywrongtaxtreatment PROVISIONS6key I mpact areas of IcdsRevenue recognition significantly impacted in various casesACCOUNTING POLICYREVENUE RECOGNITION PercentageofCompletion(POCM)

2 Mandatoryforservices> 90days CompletedContractMethodnotpermittedforco nstructioncontracts RetentionmoneytaxableunderPOCM Certaintyofcollection notrelevantforinterestincome,whichshalla ccrueontimebasis Interestontaxrefundstaxableon receipt basis GovernmentGrants Taxableasrevenuereceiptsunlessgivenforde preciableassetPROVISIONS7key I mpact areas of IcdsFOREX FLUCTUATION Exchangedifferenceonmonetaryitemstoberec ognizedasincome/ expenseonsettlement/ conversionthereofonthelastdayofFY Subjecttosection43A/ Rule115 Premium/discountonforwardexchangecontrac ttobeamortizedoverlifeofthecontract Exchangedifferenceonsuchcontractstoberec ognizedasincome/ expense Contractstohedgeforexriskoffirmcommitmen t/highlyprobableforecasttransaction- recognitiononactualsettlement8key I mpact areas of IcdsREVENUE RECOGNITIONBORROWING COST Borrowingcostattributabletoacquisition/p roductionof qualifyingasset tobecapitalized Generalborrowingcost Capitalization= BorrowingcostsxCostofQualifyingAssetTota lAssets Capitalizationtoceasewhenassetputtouse9k ey I mpact areas of

3 IcdsDeducibility of provisions to impact expense claimsREVENUE RECOGNITIONPROVISIONS Changeincriteriatorecognizeprovisions Reasonablecertainty ( Icds) vs. Probablecertainty (IGAAP)ofoutflow Norecognitionofcontingentassets/liabilit iesWrI t petItIon-petItIoner s case11Wr It petItIon-petItIoner s casePetitioner s Case EffectofICDSis tomodifybasisoftaxation BasisoftaxationcanbechangedonlybyParliam entbyamendingtheAct CGcannotdosothroughICDS ICDS contrarytoseveralSC/HCdecisions ICDS notapplicabletoassesseesfollowingcashsys temofaccounting ICDS castadditionalcomplianceburden/restricti onsonassessees (1)(g)ofConstitutiondelhI hIGh court rulInG13delh I hIG h court rulInGKey findings of the Delhi High Court PowertoenactvalidationlawvestswiththePar liamentandnottheCentralGovernmentandsuch enactmentcanbemadebyanamendmenttothestat ute ICDS has the effect of modifying the basis of COI as recognized by Act / courts ICDS cannot overrule the provisions of Act, Rules and judicial precedents Section 145(2)

4 Should be read down to the extent it is ultra vires the Act and Article 141, 144 and 265 of the constitution14delh I hIG h court rulInGKey findings of the Delhi High Court ProvisionsofICDS struckdown/watereddown ICDSI(AccountingPolicies) unsustainableinlaw,sinceithasdoneawaywit htheconceptof Prudence ,whichiscontrarytotheActandjudicialprece dents ICDSII(ValuationofInventories) Courtannulledtheprovision,whicheliminate ddistinctionbetweena continuingpartnershipanddiscontinuedpart nership,afterdissolution ICDSIII(ConstructionContracts) Incidentalincomenotallowedasreductionfro mborrowingcost,contrarytoSCdecisioninBok aroSteelandisunsustainabletothatextent Ta x i n gretentionmoneywhichisuncertain/conditio naliscontrarytoJudicialprecedents; henceimpermissible15 Interest accrual for NBFC as per ICDS IV held to be validKey findings of the Delhi High Court ICDS IV (Revenue Recognition) Impermissibilityofcompletedcontractmetho dforrevenuerecognitionheldtobeultravires theActandstruckdown Taxationofexportincentiveuponreasonablec ertaintyofcollectioncontrarytoSCdecision inExcelIndustries.

5 Struckdown ICDSVI(Effectsofchangesinforeignexchange rates) NotallowingMTMlossesincaseofforeigncurre ncyderivativesheldfortrading/speculation andtaxationofopeningbalanceofFCTR onmonetaryitemsisultraviresthejudicialde cisions ICDSVII(GovernmentGrants) Taxationofunaccruedsubsidy/ grantonthedateofactualreceiptis ultraviresthetaxlaws ICDS VIII (Valuation of Securities) Part A which prescribes bucket approach for taxpayers not governed by RBI, is ultra vires the tax lawsdelh I hIG h court rulInGretrospectIVeamendment By fI nance act, 201817 Snapshot of Amendments by Finance Act, 2018Sr. ICDSR elevant SectionRelevant amendment1 ICDS I36(1)(viii) DeductionforMarkedtoMarketLossorotherexp ectedlossto bein accordancewithICDS2 ICDSII and ICDS VIII145A Inventoryshallbevaluedatthelowerofcostor netrealizablevaluewhicheverislowerwhichi slinewiththevaluationmethodasprovidedin ICDSII; Inventoryinnatureofsecuritiesis tobevaluedinlinewithICDSVIII Securities.

6 3 ICDS III and ICDS IV43CB Incomefroma constructionaswellasservicecontractsonth ebasisof percentagecompletionmethod; Contract revenue to include retention money; Incidentalincomeinnatureofinterest,divid endorcapitalgainsshallnotbereducedfromth ecost18 Snapshot of Amendments by Finance Act, 2018Sr. ICDSR elevant SectionRelevant amendment4 ICDS IV and ICDS VII145B Interestreceivedoncompensationorenhanced compensation deemedtobetheincomeoftheyearinwhichit is received; Claim for escalation price or export incentives Year in which a reasonable certainty of realisation is achieved; Incomefromasubsidy,grant,cashincentive,d utydrawback,waiver,concession taxableintheyearofreceipt,if notchargedto taxin VI43AA Anyforeignexchangegainorlossinrespectofs pecifiedforeigncurrencytransactionsshall betreatedasincomeorloss,if computedaccordingto ICDSVI19 Provisions of ICDS legalisedin the Finance Act, 2018 (1/2)Provisions of ICDS 1 Delhi High Court Ruling 2 Finance Act, 2018 RevenueRecognition ICDS III (Construction Contract and related services)ICDS IV (service contracts) - Revenues recognition on POCM basis Contract duration does not exceed 90 days in Option to follow PCM.

7 Contract involving indeterminate number of acts over specified period SLM; Contract revenue to include retention money; Incidental Income like interest, dividend or capital gains not to be reduced from contact cost; To the extent provisions of ICDS IV permit only POCM and do not allow PCM asupheld by judicial precedents, are ultra vires and struck down. To the extent ICDS III, taxes retention money which is uncertain or conditional are ultra vires and struck down. New section 43CB introduced upholding the revenue recognition from construction and service contracts in the manner as provided by ICDS III and IVDeferring of taxability of retention money based on real Income theory relying on judicial precedents no longer available20 Provisions of ICDS legalisedin the Finance Act, 2018 (2/2)Provisions of ICDS 1 Delhi High Court Ruling 2 Finance Act, 2018 Marktomarketlossonforwardexchangecontrac t( FEC ) Premiumordiscountandexchangedifferenceon FECfortradingandspeculationpurposesandFE Ctohedgefirmcommitments toberecognisedononlyonsettlement PremiumordiscountonotherFECtobeamortised overtheperiodofFECandMTMlosstoberecognis edonyearendbasis SincedisallowanceofMTMgain/lossonFECfort radingandspeculationpurposesisnotinconso nanceofSupremeCourtdecisions,suchprovisi onis struckdown Introductionofsub-section(xviii)

8 Tosection36permittingdeductionofMTMlossi naccordancewithICDS; ThusnoMTMlossshallbeallowedbasedonaccoun tingprinciplesandjudicialprecedents;Valu ationofInventoryAtcostorNRVwhicheveris lower Noobservationforvaluationofinventoryinno rmalcourseofbusinessCostorNRVwhicheveris lower Possiblynoimpact Escalation in price in contract shall be taxable in the year of reasonable certainty of its realisation Compensation or enchased compensation shall be taxable in the year of receipt1 Notified by CBDT vide notification dated 29 September 2016 under Section 145(2) of the Act2 The Chamber of Tax Consultants v Union of India (C) 5595/2017 & CM APL 23467/20173 Sutlej Cotton Mills Limited v. CIT [1979] 116 ITR 1 (SC)notIfI ed Icds22 Notified ICDSICDSI ncomeComputation and dIsclosure StandardsEquivalent ASEquivalent IND ASICDS IAccounting Policies AS-1 IND AS-1 and 8 ICDS IIValuation of Inventories AS-2 IND AS-2 ICDS IIIC onstruction contracts AS-7 IND AS-11 5 ICDS IVRevenue Recognition AS-9 IND AS-11 5 ICDS VTangible Fixed Assets AS-10 IND AS-16 ICDS VIEffects of Changes in Foreign Exchange Rates AS-11 IND AS-21 ICDS VIIG overnment Grants AS-12 IND AS-20 ICDS VIIIS ecurities AS-13 IND AS-32 ICDS IXBorrowing CostsAS-16 IND AS-23 ICDS XProvisions.

9 Contingent Liabilities and Contingent AssetsAS-29 IND AS-3723 ICDS- An Overview Applicable to All assesses following mercantile basis of accounting Except individuals and HUFs not liable to Tax Audit u/s 44AB of the Act Applicable for computatIon of Income chargeable to Income -tax under the head Profits and gains from business or profession or Income from other sources Applicable from AY 2017-18 quarterly tax provision and advance tax as per ICDS to avoid interest Lay down certain rules to ensure certainty and clarity - eliminate alternatives to the extent possible Current Accounting standards are taken as a base - however the objective was to provide an independent framework for tax computatIon Separate books of account not required to be maintained Various dIsclosure requirements silent about the placement of various disclosures financial statements (separately), computatIon of Income or return of Income , etc.

10 In case of conflict between the provisions of the Act and ICDS, the provisions of the Act shall prevail to that extent24 ICDS - Key Impact Areas IntheschemeoftheAct,incomeisidentifiedor recognizedordeterminedaspertheprovisions ofS. 4,5,14andChapterIVaswellasdefinitionof Income Therecordingofincomeandthemethodtobeadop tedinthebooksofaccountareprovidedinS. 145,a proceduralprovision The method of accounting, inter-alia, involves quantification ICDS deals only with quantification and dIsclosure Its scope and ambit is limited and not as wide as AS& GAAP ICDS recognize the above in its nomenclature, preamble and otherwise RevenueauthoritiesmaycontendthatICDS beinginrelationto incomecomputation ,it is framedtogiveeffecttotheprovisionsofS. 29 Possible to contend that ICDS is a child of S. 145 and not Chapter IV ICDS canbesaidtooverrideatleastquantification ofincomeorexpenditure,whereaspecificprov isionis madefordeterminationofamountthereofCan ICDS go beyond the meaning of Income , as defined and understood?