Para 9 of ICDS VI provides for the procedure for translation of financial statements of nonintegral foreign operations i.e. foreign branch. It provides that the assets and liabilities, both monetary and non-monetary, of the foreign branch shall be translated at the closing rate and resulting exchange differences shall be recognized as income or expenses in that previous year. However, the translation and recognition of exchange difference as per section 43A and Rule 115 shall be carried out in accordance with provisions contained therein.
- However, the distinction between assets and liabilities of capital nature and revenue nature which is well settled by judicial precedents also needs to be considered.
- In case of depreciable assets, the assets acquired in the past would form part of ‘block of assets’. Section 43A permits adjustment only in respect of repayment of liabilities towards cost of the assets or foreign currency borrowings for acquiring the assets. Section 43A does not permit restatement of values of depreciable assets based on closing rates.
- In case of non-depreciable assets, the translation at year end rates would be of capital nature and hence, would neither be taxable nor deductible in computation of total income.
- Rule 115 of Income tax Rules provides for the rate of exchange for the calculation of the value in rupees of any income accruing or arising or deemed to accrue or arise to the assessee in foreign currency or received or deemed to be received by him or on his behalf in foreign currency. In terms of this rule, the exchange rate shall be the telegraphic transfer buying rate of such currency (as notified by State Bank of India) as on the ‘specified date’. The ‘specified date’ differs based on nature of income. For income in the nature of ‘Profits and gains of business or profession’ or ‘Income from other sources’ to which ICDS apply, the ‘specified date’ is the last day of the previous year of the assessee (i.e. year end rate). However, such process of conversion shall not apply if the income is received in, or brought into India by the assessee or on his behalf before the specified date. If the income is subjected to tax deduction at source, the exchange rate on the date on which tax was required to be deducted is adopted for the purposes of conversion.
- Where the above process as per Rule 115 is applied, there would be no separate taxation of the business income earned by foreign branch.
The intent of transitional provisions of ICDS is to ensure that neither any income is doubly taxed nor any income escapes from taxation in view of implementation of ICDS. The opening balance of FCTR balance as on 1 April 2015 which may have been accumulated over several years will not be taxable in entirety in F.Y. 2015-16 (A.Y. 2016-17) under Para 12(3) of ICDS VI. The opening balance shall be taxable when the same is actually realized and credited to P&L.
Assistance from Government received by way of exemption from statutory levies like stamp duty for land, VAT on sales, etc. and/or by way of interest-free loan is taxable as income under clause (xviii) to ‘income’ definition u/s.2 (24) inserted by Finance Act 2015. The only exception is where such assistance is covered by Explanation 10 to section 43(1) in terms of which such subsidy is reduced from ‘actual cost’ of asset. If the taxpayer records/claims the relevant expense or cost net of benefit of assistance, there shall be no separate taxation under section 2(24) (xviii) read with ICDS VII.
Para 13 of ICDS VII provides that the Government grants which meet the recognition criteria of Para 4 on or after 1st day of April 2015 in accordance with the provisions of ICDS VII after taking into account the amount, if any, of the said Government grant recognised for any previous year ending or before 31st day of March 2015.
Where taxpayer has partially availed capital subsidy related to non-depreciable assets or grants in the nature of promoters’ contribution to encourage moving to backward area or generate employment prior to 1 April 2015, the balance portion for which the taxpayer satisfies the related conditions or achieves reasonable certainty of receipt post 1 April 2015 shall be taxable in the year in which such criteria is met or the grant is actually received, whichever is earlier.
The provisions of ICDS are not applicable to computation of income under the head “Capital gain”.
Proviso to section 36 (1) (iii) does not provide for any threshold time duration for capitalisation of interest. It provides that interest paid in respect of capital borrowed for acquisition of asset shall be capitalised for period beginning from date on which capital was borrowed for acquisition of an asset till the date on which such asset was first put to use.
ICDS IX provides for a threshold period of 12 months for interest on stock in trade to be capitalised. By way of practical expediency and for the purposes of proper and efficient administration of ICDS as also to remove any hardships for taxpayers, it is hereby clarified that interest costs on capital assets shall be capitalised under proviso to section 36 (1) (iii) and ICDS IX only if such capital asset takes a period of 12 months or more to get ready for its intended use. Thus, if capital asset takes a period of less than 12 months to get ready for intended use, no interest cost needs to be capitalised thereon.
Para 6 provide for capitalisation of general borrowing cost as per following normative formula:-
A X (B / C)
i.e. borrowing cost incurred X [Average cost of Qualifying Assets (QA) / Average amount of total assets]
The formula excludes specific borrowing cost, QA and total assets which are directly funded out of specific borrowing.
Para 7 provides that the capitalisation of borrowing costs shall commence, inter alia, in a case referred to in Para 6, from the date on which funds were utilised.
Para 8 provides that capitalisation of borrowing costs shall cease in case of capital assets when such asset is first put to use and in case of stock in trade, when substantially all the activities necessary to prepare such inventory for its intended sale are complete.
The term ‘qualifying assets’ is defined in Para 2(b) to include various tangible and intangible assets as also stock in trade. It is clarified that the ‘qualifying assets’ in numerator shall include only those assets which are not put to use or ready for intended sale, as the case may be, by the end of the relevant previous year. This is because once the asset is put to use or ready for intended sale, interest capitalisation ceases as per Para 8.
It is also further clarified that the cost of qualifying assets referred in the numerator B for the purpose of application of paras 6, 7 and 8 shall exclude the borrowing cost which is capitalised as per ICAI AS-16 or ICDS IX in earlier years. This is to avoid capitalisation of interest on interest. However, the term ‘total assets’ referred in denominator ‘C’ of the formula shall include interest cost capitalised in books as per ICAI AS-16.
Further, where an asset is partially funded from specific borrowing and partially from general borrowing, the portion funded from specific borrowing shall be excluded from both numerator B and denominator C which excludes assets which are directly funded out of specific borrowings.
Since paras 7(a) and 8(a) of ICDS IX provide that capitalization should commence from date of borrowing and terminate with date of first use of the asset which period can spread across two or more financial years, it is clarified that interest costs incurred on borrowed funds which are pending utilization shall be carried over to future year and capitalized on pro-rata basis to the assets for which they were borrowed.
Since specific provisions of the Act override ICDS, it is clarified that borrowing costs to be considered for capitalization under ICDS IX shall exclude those borrowing costs which are disallowed under specific provisions of the Act. Capitalization of borrowing cost shall apply for that portion of the borrowing cost which is otherwise allowable as deduction under the Act.
Para No.6 of ICDS IX provides that to the extent funds are borrowed generally and utilized for the purposes of acquisition, construction or production of a qualifying asset, the amount of borrowing costs to be capitalized shall be computed in accordance with the specified formula. The main condition for invoking such Para is where the general purpose borrowing is utilized to acquire qualifying assets. Therefore if an assessee is able to demonstrate by way of documentary evidences that general purpose borrowing are not utilized for the purpose of acquisition of a qualifying asset, Para No.6 become inapplicable and therefore no borrowing cost on such general purpose borrowing is required to be capitalized. However if any part of the general purpose borrowing is utilized for acquisition of an qualifying assets, Para No.6 become applicable and consequently an asssessee is required to capitalize the borrowing cost in accordance with the formula specified under Para No.6 of ICDS IX read with Para No. 7 & 8 thereof.
Para No.5 of ICDS IX provides that borrowing cost relating to specific borrowing specifically for the purpose of acquisition of a qualifying asset to be capitalized on such asset. Para No.6 of ICDS IX provides that to the extent funds are borrowed generally and utilized for the purposes of acquisition, construction or production of a qualifying asset, the amount of borrowing costs to be capitalized shall be computed in accordance with the specified formula.
As per Para No. 7, capitalization of borrowing cost will start from the date on which funds were borrowed in case of specific borrowing and in case of general purpose borrowing from the date when funds were utilized. Para No.8 also provides that capitalization of borrowing shall cease when a qualifying asset is first put to use and in case of a qualifying asset being inventory, when substantially all the activities necessary to prepare such inventory for it its intended sale are complete.
Considering the above provision, since an assessee has utilized its general/specific borrowing, the requirement of capitalization of borrowing cost in accordance with Para No. 5 & 6 will apply. However such capitalization ceases when a qualifying asset is first put to use. Since a qualifying assets is put to use before the utilization of borrowing (whether general or specific) to discharge the liability in respect of a qualifying asset, no borrowing cost is required to be capitalized in view of Para No. 8 of ICDS. However the requirement of capitalization of borrowing cost would still apply in respect of other qualifying assets if such assets are put to use after the date of specific borrowing/date of utilization of general borrowing.
Para No.6 of ICDS IX provides that to the extent funds are borrowed generally and utilized for the purposes of acquisition, construction or production of a qualifying asset, the amount of borrowing costs to be capitalized shall be computed in accordance with the specified formula. The formula takes into consideration the average cost of qualifying assets, average cost of total assets and borrowing cost incurred in a year. The resultant amount is the total amount of general borrowing cost that is required to be capitalized in a year. The date of commencement of capitalization of borrowing cost and the date of cessation of capitalization is provided in Para No.7 & 8. Considering such provision of such ICDS, the general purpose borrowing cost as computed, as per formula specified in such ICDS, can be allocated on each qualifying assets on the basis of number of days for its capitalization computed as per Para No.7 & 8 divided by 365 days. However the aggregate amount of capitalization, in no case, exceeds the amount of borrowing cost required to be capitalized as per Para No.6. Similarly, the interest capitalization cost should not exceed the cost of the individual asset also.
The probable, reasonable certain and virtually certain are judgmental issues and varies from situation to situation depending upon the fact & circumstances of each transaction. Probable is explained in AS 29 as “more likely than not”. Whereas, reasonably certain could be understood as probable with some convincing evidence. The term ‘reasonably certain’ means fair and reasonable; being free from reasonable doubt, what reasonable person may believe as certain. Whether outflow of economic resources or inflow of economic resources has become ‘reasonably certain’ to warrant recognition of ‘provision’ or ‘contingent asset’ shall depend upon events happening during the relevant previous year.
It is clarify that the reasonable certain under ICDS X may be compared with a situation of probable under AS-29. The intention is to allow the claim of liabilities or expenditure when it is reasonably certain or probable. If the claim is not reasonable or it is possible under AS-29, the same is only disclosed as contingent liability and will not be allowed from the taxable income.
Para 20 of ICDS X provides that all the provisions or assets and related income shall be recognised for the previous year commencing on or after 1st day of April 2015 in accordance with the provisions of this standard after taking into account the amount recognised, if any, for the same for any previous year ending on or before 31st day of March, 2015.
The intent of transitional provision is that there is neither ‘double taxation’ of income due to application of ICDS nor there should be escape of any income due to application of ICDS from a particular date.
Accordingly, if a provision has crossed ‘reasonably certain’ criteria in any year prior to 1 April 2015, it shall be recognised as expense in the year in which the same is recorded in books or actually paid, whichever event happens earlier on or after 1 April 2015. However, if the taxpayer has already claimed and has been allowed deduction in any year prior to 1 April 2015, the same shall not be again allowed as deduction on or after 1 April 2015. In this regard, it is clarified that the term ‘actually paid’ shall not include payment by way of deposit as a pre-condition for further adjudication of dispute.
Similarly, if a contingent asset has crossed ‘reasonably certain’ criteria in any year prior to 1 April 2015, it shall be recognised as income in the year in which the same is recorded in books or actually received, whichever event happens earlier on or after 1 April 2015. However, if the taxpayer has already offered the said income to tax in any year prior to 1 April 2015, the same shall not be again be taxed on or after 1 April 2015.In this regard, it is clarified that the term ‘actually received’ shall not include receipt prior to final adjudication of dispute.
It is clarified that provisioning for post-retirement benefits like provident fund, gratuity, leave encashment, pension, compensation for voluntary retirement or retrenchment compensation, post-retirement medical benefits, etc. are outside the scope of ICDS X and shall continue to be governed by specific provisions of the Act and relevant ICAI AS.
It is clarified that interest income on statutory refunds needs to be recognized as per ICDS X on actual receipt from statutory authority.
The disclosures as per each ICDS is the responsibility of the Tax payer and disclosures by auditor in Form 3CD which is auditors opinion only does not absolve assessee from responsibility cast upon him for specific disclosures as such Tax Return Forms are being modified to provide for disclosures of significant accounting policies and other ICDS specific disclosures.