The Indian Authorities have notified 10 ICDS recently - a brand new tax legislation. The same are standards which have to be followed by taxpayers from FY 2015-16 for computation of income under the heads of a). Profits and Gains of Business and Profession; and b). Income from other sources. Thus, computation of tax under Minimum Alternate Tax (MAT) remain unaffected by ICDS. There are also certain mandatory disclosure(s) of information which taxpayer(s) have to make now - may be in Return of Income or Tax Audit Report.
So, we all have the usual flak like for any new legislation - what are these ICDS? What are they going to do? Why is there a need to have these ICDS? Why can't changes be made in existing Income tax Act or Rules to achieve what the regulators are trying to achieve? and so on...
ICDS basically intends to bring consistency in accounting of the taxpayers. The figures of revenue and expenses flow into tax records from the financial books of accounts, basis which (tax records), tax men raise the tax bill after giving effect to provisions of Income tax Act. Thus, ICDS is in some way an attempt of the regulators to reach out to the accounting and financial books of the taxpayers and make it consistent and perhaps more 'tax(men) friendly'! But what's the need to reach out to accounting of taxpayers?
Lets take a reference from the History: In the good old days, Indian laws did allow the taxpayers to have a hybrid of accounting systems. Meaning thereby, the taxpayers could follow both cash and mercantile systems of accounting at the same time. And the taxpayers could thus follow cash system for revenue and mercantile system for expenses and arrive at a magical figure of profits upon which the tax men would raise a bill, of course, after giving effect to provisions of Income tax Act. This practise was cut short long back and only one system was allowed to be followed and that too consistently. Almost 2 decades back, section 145 was introduced in Income tax Act and powers were granted to the tax authorities to govern accounting of taxpayers. Thereupon, two tax accounting standards were prescribed and as much as I have experienced, those standards were seldom put to use. From earlier days till the recent past, the accounting world grew quite eventful - as they gear up for IFRS, new accounting standards, revised schedule VI and later, a completely new Companies Act and now Ind-AS.
The tax authorities could always realise that the way accounts were maintained by the Indian taxpayers lacked that great amount of consistency, offered several opportunities to taxpayers to perform irregular planning and so many colorful things could be done in the garb of accounting. This coupled with the recent changes as we have seen above. So, what if almost every taxpayer follow different accounting principles and generate varied numbers which form basis for tax computation. Quite a nightmare for tax men, isn't it! Thus, to bring consistency in taxpayer's accounting and thereby, arrive at a proper and regular base number of taxable profits in a dynamic world, the old stale standards are withdrawn and ICDS provided. This is quite evident from the developments that has taken place in respect of ICDS formulation and prescription in the last couple of years.
In a nutshell, ICDS require taxpayers to make certain prescribed adjustments to its accounting and thereby arrive at the base profit / loss number, which will further be adjusted as per provisions of Income tax Act and the final taxable profits and tax will be determined. Once again, ICDS apply only on business income and income from other sources. ICDS does not require separate set of books to be maintained-just making certain adjustments to the accounting. ICDS does not supercede or extend the scope of Income tax Act. The terms not defined in ICDS shall be interpreted from Income tax Act and in case of conflict, Income tax Act provisions will prevail. In all likelihood, a settled tax position under the Income tax Act (basis the judicial precedents or otherwise) will not be affected by ICDS. However, any jurisprudence in the Income tax Act which has an(y) impact on taxpayer's accounting shall be superceded by ICDS. Additionally, there are disclosure requirements which taxpayer has to fulfill - whether it will be in Return or Tax Audit or in any other way is yet to be notified.
As we have seen, the power to govern accounting and make rules existed in Income tax Act and the Hon'ble Courts also recognised it clearly (decision of Woodward Governer). Thus, ICDS are prescribed in Income tax Act in exercise of such statutory power. For not following the ICDS, the taxpayer may be subject to Best Judgement Assessment and face consequences.
Currently, ICDS provided for - Changes in Accounting Policies, Inventory valuation, Borrowing Costs, Forex fluctuations, Government Grants, Securities, Provisions and Contingent Assets and Liabilities, Fixed Assets, Construction contracts and Revenue recognition. A few others such as leases, events after balance sheet date etc are drafted but not yet notified. As we can see, for the Indian Accounting Standards which have any bearing on income measurement and not purely disclosures, correspondingly the ICDS are provided. ICDS has similarities with existing accounting standards as well.
Out of the several changes which the ICDS prescribe, what comes to my mind are : prescription of reasonable certainty criteria for creation of provisions as against probable certainty and similarly, for creating contingent assets and liabilities, again reasonable certainty as against virtual certainty. Prescription of only Percentage of Completion Method (POCM) for Service providers under revenue recognition and prescription on of only POCM in construction contracts as against completed contract method. Non allowance of Marked to Market or expected losses to the taxpayers. Compulsory recognition of Government Grants in year of receipt. Removal of 'substantial period' criteria for capitalization of borrowing costs in value of qualifying assets. Recognition of inventories by service providers.
Does the above changes, in effect, lead to preponement of income and deferral of expenses, might be yes. It can also lead to certain situations where the taxpayer might have to recognise income in normal tax in one year and pay tax thereon; and again recognise same income in its books in next year and might pay MAT thereon. ICDS also does away the concept of Materiality, thereby, requiring the taxpayer capitalize purchase of all small value assets and also maintain records even for several small value items which may not have been required earlier.
Thus, ICDS require reconciliation with accounting standards and now Ind-AS. It also require maintenance of effective systems and controls to give necessary effect to accounting, the changes prescribed under ICDS. It also require maintenance of proper records to capture even the smallest and low value items; and above all,
a highly proactive and tireless approach of the businesses to identify the effect of ICDS and comply with it efficiently...
The tax authorities could always realise that the way accounts were maintained by the Indian taxpayers lacked that great amount of consistency, offered several opportunities to taxpayers to perform irregular planning and so many colorful things could be done in the garb of accounting. This coupled with the recent changes as we have seen above. So, what if almost every taxpayer follow different accounting principles and generate varied numbers which form basis for tax computation. Quite a nightmare for tax men, isn't it! Thus, to bring consistency in taxpayer's accounting and thereby, arrive at a proper and regular base number of taxable profits in a dynamic world, the old stale standards are withdrawn and ICDS provided. This is quite evident from the developments that has taken place in respect of ICDS formulation and prescription in the last couple of years.
In a nutshell, ICDS require taxpayers to make certain prescribed adjustments to its accounting and thereby arrive at the base profit / loss number, which will further be adjusted as per provisions of Income tax Act and the final taxable profits and tax will be determined. Once again, ICDS apply only on business income and income from other sources. ICDS does not require separate set of books to be maintained-just making certain adjustments to the accounting. ICDS does not supercede or extend the scope of Income tax Act. The terms not defined in ICDS shall be interpreted from Income tax Act and in case of conflict, Income tax Act provisions will prevail. In all likelihood, a settled tax position under the Income tax Act (basis the judicial precedents or otherwise) will not be affected by ICDS. However, any jurisprudence in the Income tax Act which has an(y) impact on taxpayer's accounting shall be superceded by ICDS. Additionally, there are disclosure requirements which taxpayer has to fulfill - whether it will be in Return or Tax Audit or in any other way is yet to be notified.
As we have seen, the power to govern accounting and make rules existed in Income tax Act and the Hon'ble Courts also recognised it clearly (decision of Woodward Governer). Thus, ICDS are prescribed in Income tax Act in exercise of such statutory power. For not following the ICDS, the taxpayer may be subject to Best Judgement Assessment and face consequences.
Currently, ICDS provided for - Changes in Accounting Policies, Inventory valuation, Borrowing Costs, Forex fluctuations, Government Grants, Securities, Provisions and Contingent Assets and Liabilities, Fixed Assets, Construction contracts and Revenue recognition. A few others such as leases, events after balance sheet date etc are drafted but not yet notified. As we can see, for the Indian Accounting Standards which have any bearing on income measurement and not purely disclosures, correspondingly the ICDS are provided. ICDS has similarities with existing accounting standards as well.
Out of the several changes which the ICDS prescribe, what comes to my mind are : prescription of reasonable certainty criteria for creation of provisions as against probable certainty and similarly, for creating contingent assets and liabilities, again reasonable certainty as against virtual certainty. Prescription of only Percentage of Completion Method (POCM) for Service providers under revenue recognition and prescription on of only POCM in construction contracts as against completed contract method. Non allowance of Marked to Market or expected losses to the taxpayers. Compulsory recognition of Government Grants in year of receipt. Removal of 'substantial period' criteria for capitalization of borrowing costs in value of qualifying assets. Recognition of inventories by service providers.
Does the above changes, in effect, lead to preponement of income and deferral of expenses, might be yes. It can also lead to certain situations where the taxpayer might have to recognise income in normal tax in one year and pay tax thereon; and again recognise same income in its books in next year and might pay MAT thereon. ICDS also does away the concept of Materiality, thereby, requiring the taxpayer capitalize purchase of all small value assets and also maintain records even for several small value items which may not have been required earlier.
Thus, ICDS require reconciliation with accounting standards and now Ind-AS. It also require maintenance of effective systems and controls to give necessary effect to accounting, the changes prescribed under ICDS. It also require maintenance of proper records to capture even the smallest and low value items; and above all,
a highly proactive and tireless approach of the businesses to identify the effect of ICDS and comply with it efficiently...
