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Tax Accounting Standards

Broad Overview

Private & Confidential © MPC Legal

Aseem Chawla

[email protected]

MPC Legal

July 19, 2014

Broad Overview

ContentsContents

A. Introduction

B. Evolution of TAS

C. Overview of provisions of Income Tax Law


2

D. Points for Consideration

E. Implementation challenges

F. Draft Tax Accounting Standards – Nuts & Bolts

Introduction


3

Introduction

� As per Section 145 of the Income Tax Act, 1961 (‘Act’), Business Income and Income

from other sources to be computed in accordance with accounting policy regularly

followed.

� Existing accounting standards (‘AS’) not in synchronization with provisions of the Tax

Law

IntroductionIntroduction

� Need felt by CBDT for introduction of Tax Accounting Standards (‘TAS’).

� TAS to be notified under Section 145 of the Act

4


Evolution of TAS


5

Evolution of TAS

� In 1996, two accounting standards were notified under Section145 of the Act, primarily related to disclosure.

� First committee formed in July 2002 for formulation of TAS.

� The committee recommended for notification of AS issued byICAI without any modification along with suitable amendmentsin Act.

Evolution of TASEvolution of TAS

in Act.

� Present committee constituted in December 2010 to draft TAS.First report submitted in August 2011.

� Discussion paper containing recommendations of theCommittee issued in October 2011 for public comments.

� Final draft of TAS issued in 2012 for public comments

6


Overview of existing provisions of

Income Tax Laws


7

Income Tax Laws

Overview of provisionsOverview of provisions

Applicable for PGBP

& IFOS

Method of

Accounting could be

either cash or

mercantile Central Government

empowered to notify

8


Method should be

regularly followed

AO can resort to

best judgment

assessment in

certain situations

Section 145empowered to notify

TAS under Section

145(2)

Key Recommendations


9

Key Recommendations

� 31 AS issued by ICAI considered

� No separate books of accounts.

� Applicable to all categories of taxpayers.

� Tax return form and Form 3CD may be

harmonized with TAS.

Key recommendationsKey recommendations

14 draft TAS

issued

7 AS excluded

for which

detailed

provisions � Careful monitoring of transition to Indian AS.

� Need amendments in the Act, especially to

cater to MAT provisions.

� Recommends that TAS for areas like share

based payment, revenue recognition by real

estate developers, service concession

arrangement, mineral resources should be

drafted

10


10 AS excluded

which relate to

disclosure

detailed

provisions

exist

Excluded Accounting StandardsExcluded Accounting Standards

Excluded AS dealing with disclosure Excluded AS for which provisions exist

in Act

1) AS 3 on Cash Flow Statements;

2) AS 14 on Accounting for Amalgamations;

3) AS 15 on Employee Benefits;

1) AS 6 on Depreciation Accounting

2) AS 20 on Earnings Per Share

3) AS 21 on Consolidated Financial Statements

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3) AS 15 on Employee Benefits;

4) AS 17 on Segment Reporting;

5) AS 18 on Related Party Disclosures;

6) AS 24 on Discontinuing Operations;

7) AS 27 on Financial Reporting of Interest in Joint

Ventures;

8) AS 30, 31, 32 on Financial Instruments

(Recognition and measurement, Presentation

and Disclosure)

3) AS 21 on Consolidated Financial Statements

4) 22 on Accounting for Taxes on Income

5) AS 23 for Accounting for Investments in

Associates in Consolidated Financial

Statements

6) AS 25 on Interim Financial Reporting

7) AS 28 on Impairment of Assets.

� Recommends amendment to Section 145 for issuance of TAS for computation of income

as current provisions of Section 145(2) are not enabling in nature.

� Provide certainty on the issue of Depreciation on goodwill arising on amalgamation and

provision made for the payment of pension on retirement or termination of an employee.

Amendments proposedAmendments proposed

� Amendment to provide depreciation to lessee in finance lease, even though the lessor is

the owner of the assets.

� Necessary amendment to address the cases of sale and lease back transactions which

result into an operating lease

� The Committee recommends for suitable amendments to Act to align the provisions

relating to depreciation, ownership, block of assets, transfer ,etc. prior to notification of

TAS on leases.

12


Points for Consideration


Points for Consideration

Points for ConsiderationPoints for Consideration

� AS have been notified by the MCA and TAS have been notified under the Act. – Multiple

authorities need to act in concert

� TAS (essentially based on Mercantile system of accounting) be made applicable to

taxpayers following cash system of accounting.


� Non recognition of Prudence Concept - Ramifications

� Need for a threshold for application - Required

14

Points for ConsiderationPoints for Consideration

� Are TAS ultra vires provisions of the Act.

� Contradictory to accrual concept and real income theory.

� TAS may be said to have effect of enlarging scope of tax.


� Can text of AS be resorted to incase of ambiguity in the provisions of TAS?

15

Implementation Challenges


Implementation Challenges

Coping with TASCoping with TAS

Get ready to face

Tax Accounting

Review tax

positions

Additional

documentTraining


Tax Accounting

Standards!

17

Implementation

document

ation

Increased

complianc

e

Align

accounting

and tax

policies

Training

Indian Accounting StandardsIndian Accounting Standards

� The inception of the idea of convergence of Indian GAAP with IFRS was made by the Prime

Minister of India Dr. Manmohan Singh by committing in G20 to align Indian accounting

standards with IFRS.

� ICAI took up the task of convergence of Accounting Standards with IFRS in a phased

manner as envisaged in the Roadmap to IFRS formulated by the Ministry of Corporate

Affairs (‘MCA’)


� ICAI has taken up the matter of convergence with the National Advisory Committee on

Accounting Standards and various regulators

� Initial commencement date was expected to be April 1, 2011.

� MCA has notified 35 Indian Accounting Standards;

� MCA silent on date of implementation

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Draft TAS – Nuts & Bolts


19

Draft TAS – Nuts & Bolts

Draft TAS Draft TAS –– Nuts & BoltsNuts & Bolts

� TAS 1 – Disclosure of Accounting Policies;

� TAS 2 – Valuation of Inventories;

� TAS 3 - Events Occurring After the Previous Year;

� TAS 4 – Prior Period Expenses


� TAS 5 – Construction Contracts

� TAS 6 – Revenue Recognition

� TAS 8 – Effects of Changes in Foreign Exchange Rates

� TAS 10 – Securities

� TAS 12 - Leases

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TAS 1 TAS 1 –– Disclosure of Accounting PoliciesDisclosure of Accounting Policies

The Tax Accounting Standard for Accounting Policies vis a vis Accounting

Standard-1 (AS-1) for Disclosure of Accounting Policies .

TAS 1 deals with significant accounting policies

Key recommendations


21

� Fundamental accounting assumptions of Going Concern, Consistency and Accrual

remains in vogue;

� AS 1 recognises the concept of prudence

(provision for known liabilities and recognition

of revenue when realised.

However, no such recognition has been made

in TAS. Expected losses/ marked to market

losses not to be recognized;

Concept of

materiality not

recognized

TAS 1 TAS 1 –– Disclosure of Accounting PoliciesDisclosure of Accounting Policies

Disclosure requirements

� All significant accounting policies are to be

disclosed;


� Changes in accounting policies are also

required to be disclosed along with quantum of

the change

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No clear prescription where such

policies shall be disclosed

TAS 2 TAS 2 –– Valuation of inventoriesValuation of inventories

The Tax Accounting Standard for Valuation of Inventories vis a vis

Accounting Standard-2 (AS-2) for Valuation of Inventories.

TAS 2 provides guidance on valuation of inventories, costing methods and

disclosure requirements relating to inventory


Key recommendations

� The TAS has not recognised standard cost method for valuation of inventories, which

has prescribed in AS 2

� The TAS has recommended inventory valuation for service providers as well;

� Method of valuation of inventory of service provider should be based on the cost of

services.

23

TAS 2 TAS 2 –– Valuation of inventoriesValuation of inventories

� Valuation of inventory at the time of dissolution of

partnership, AOP, BOI to be at ‘net realizable value’.

This was a subject matter of dispute and thus the

recommendation aims to settle the controversy.

� Method of valuation not to be changed without

reasonable cause. AS-2 read with AS-5 provides that

the method of valuation of inventories may be changed

Reasonable

cause not

defined in the

TAS


the method of valuation of inventories may be changed

if it is considered that the change would result in a more

appropriate presentation.

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TAS


� Accounting Policies adopted for valuation of inventories

� Carrying amount and classification of inventories

TAS 3 TAS 3 –– Events Occurring After the Events Occurring After the Previous YearPrevious Year

The Tax Accounting Standard for Events Occurring after the End of Previous Year vis a

vis Accounting Standard-4 (AS-4) for Contingencies and Events Occurring After the

Balance Sheet Date.

TAS 3 deals with adjustments to be made on account of such events

Recommendations

� Adjustment to be made only for events occurring after the balance sheet date that provide


� Adjustment to be made only for events occurring after the balance sheet date that provide

evidence of conditions existing at the balance sheet date;


� A description of the item that has been adjusted along with amount recognized;

� No disclosure required for events occurring after Balance Sheet date which do not

required any adjustment.

25

TAS 4 TAS 4 –– Prior Period ExpensesPrior Period Expenses

The Tax Accounting Standard for Prior Period Expense vis a vis Accounting Standard-5 (AS-5) for Net Profit or Loss for the Period, Prior Period Items and

Changes in Accounting Policies.

TAS 4 deals with treatment of prior period expenses.

Key recommendations


� No deduction shall be allowed for prior period expense in the year in which it is recorded,

unless it also accrues in the same year.

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No prescription

on Prior Period

Income

� In order to claim as allowable deduction, tax payer

required to prove that such expenditure has

accrued during the year.

� However, the term used under Section 37 is

‘incurred’.

TAS 5 TAS 5 –– Construction ContractsConstruction Contracts

Key recommendations

The Tax Accounting Standard for Construction Contracts is based on the Accounting Standard-7 (AS-7) for Construction Contracts.

TAS 5 prescribes the tax treatment of revenue for construction contracts


� Revenue from retention money shall accrue based

on ‘percentage completion method’.

� Recognition of revenue from construction contract,

once contract crosses 25% stage of completion.

27

Judicial view - Retention money is taxable only when

right to receive is established


� Incidental income (except interest, dividend and capital gains) to be reduced

from cost of construction and would be separately taxable.

Judicial view

divided on the

� Conditions provided in AS 7 for recognition

of revenue that it should be possible to

reliably measure the outcome of contract not

applicable in TAS.


28

divided on the

aspect of

allowability of

anticipated losses

applicable in TAS.

� Losses including probable or expected

losses to be recognized only in proportion to

the stage of completion and not in full.



� Escalation claims and export incentives not recognized shall be disclosed.

� Revenue recognized from service transactions and the relevant method adopted for


29


determination of stage of completion;

� In case of service transactions in progress, amounts of cost incurred, recognized

profits (less recognized losses), advances received and amount of retentions.

TAS 6 TAS 6 –– Revenue RecognitionRevenue Recognition

The Tax Accounting Standard for Revenue Recognition vis a vis

Accounting standard-9 (AS-9) for Revenue Recognition.

TAS 6 deals with the issue of revenue recognition for tax purposes

Major recommendations


� Revenue from service transactions to be recognized only on percentage completion

method;

AS 9 issued by ICAI recognizes ‘completed service contract method’ as well as

‘Percentage of completion method’ for revenue recognition;

� TAS does not deal with revenue recognition of specialized industry, such as

insurance companies.

30


� AS-9 lays down the principles for revenue

recognition for dividends. As specific

provisions already incorporated under the

Act, the same has been excluded from the

scope of the TAS.

Challenges the real income

theory� Postponement of revenue recognition due

to uncertainty restricted only to claim for


31

� The question of revenue recognition in case of a principal or as an agent has

been answered in the AS. However, no such guidance has been provided in the

TAS.

This will lead to uncertainty in case of provisions, the applicability of which,

depends upon the turnover of the assessee, such as 44AB, presumptive taxation.

to uncertainty restricted only to claim for

price escalation and export incentive


� Diversity in interpretation and practice may continue in Real Estate industry.

Para 3.3 of the Revised Guidance Note on

Accounting for Real Estate Transactions (2012)

TAS

Further, where individual contracts are part of a single

project, although risks and rewards may have been

In a transaction involving the sale of goods, the

revenue shall be recognised when the seller of


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In the absence of wholesome

clarification in TAS, litigation may ensue

project, although risks and rewards may have been

transferred on signing of a legally enforceable individual

contract but significant performance in respect of

remaining components of the project is pending, revenue

in respect of such an individual contract should not be

recognised until the performance on the remaining

components is considered to be completed on the basis of

the aforesaid principles.

revenue shall be recognised when the seller of

goods has transferred to the buyer the property in

the goods for a price or all significant risks and

rewards of ownership have been transferred to

the buyer and the seller retains no effective

control of the goods transferred to a degree

usually associated with ownership.



� Escalation claims and export incentives not recognized shall be disclosed.





� In case of service transactions in progress, amounts of cost incurred, recognized profits,

advances received and amount of retentions.

33

TAS 8 TAS 8 –– Effects of Changes in Foreign Effects of Changes in Foreign

Exchange RatesExchange Rates

Tax Accounting Standard for The Effects ofChanges in Foreign Exchange Rates vis a vis the

Accounting Standard-11 (AS-11) for The Effects of

Changes in Foreign Exchange Rates.

TAS 8 deals with foreign currency translation in

different scenarios.


34

Major recommendations

� The TAS deals with the following aspects:

(a) treatment of transactions in foreign currencies;

(b) translating the financial statements of foreign operations;

(c) treatment of foreign currency transactions in the nature of forward exchange

contracts.

TAS 8 TAS 8 –– Effects of Changes in Foreign Effects of Changes in Foreign

Exchange RatesExchange Rates

� TAS Does not recognize ‘mark to market’ (MTM) losses on forward exchange

contract for trading or speculation purpose. The losses to be recognized only on

� Exchange difference arising on translation of financial statement of ‘non-integral

operations’ to be recognized for computation of income. As per AS 11 such

difference is to be accumulated in foreign currency translation reserve.


contract for trading or speculation purpose. The losses to be recognized only on

settlement. As per AS 11 (2003), such income or losses should be recorded in Profit

& Loss Statement.

� As per a 2010 CBDT instruction, AO’s were instructed to disallow MTM losses.

However, judiciary has held that MTM losses are allowable.

35

TAS 10 TAS 10 –– SecuritiesSecurities

The Tax Accounting Standard for Securities is based on the Accounting

Standard-13 (AS-13) Accounting for Investments issued by the ICAI. TheTAS only deals with securities held as Stock-in-Trade

Major Recommendations

� “Bucket approach” for valuation of securities - The year-end valuation of securities at


� “Bucket approach” for valuation of securities - The year-end valuation of securities at

cost or net realizable value (whichever is lower) is to be determined based on the

category of the securities and not for each individual security.

� The securities shall be categories into 4 buckets – shares, debt securities, convertible

securities and others.

� Value of unlisted securities and listed securities not quoted regularly shall be

determined at actual cost initially recognized. This is in contrast to AS 13 which does not

provide any such distinction

� Listed securities quoted regularly shall be valued at cost or NRV, whichever is lower.

36

TAS 12 TAS 12 –– LeasesLeases

Tax Accounting Standard for Leases vis a vis Accounting Standard-19 (AS-19) for Leases.

The TAS deals with classification and depreciation issues relating to Finance

Lease and Operating Lease.

Recommendations

� Depreciation to be allowed to lessee in case of finance lease,


37

� Depreciation to be allowed to lessee in case of finance lease,

even though the lessor is the owner of the assets. The

Committee recommends for suitable amendments to Act to

align the provisions prior to notification of TAS on leases;

� As per CBDT circulars issued earlier, depreciation to be

allowed to lessor;

� The Committee also recommends necessary amendment to

address the cases of sale and lease back transactions.

SC held that

depreciation

shall be

allowed to

lessor

TAS 12 TAS 12 –– LeasesLeases

� TAS provides for uniformity of definitions of operating lease and finance lease and

requires a joint confirmation regarding consistency of classification between the lessor

and the lessee.

This shall ensure uniformity in classification by both lessor and lessee and inconsistent

treatment shall be avoided.


38

treatment shall be avoided.

� In case of lessor, who is manufacturer or dealer of asset, TAS provides for adjustment in

sale price for artificially high rate of interest, as done in case of artificially low rate of

interest.

NOTE: This presentation is for discussion and general guidance purposes, prepared on the basis of

information available. It may not be used for any other purpose, or distributed to any other party,


information available. It may not be used for any other purpose, or distributed to any other party,

without seeking our prior written consent. No party should rely on this presentation without taking

necessary prior professional advice

Thank You


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