kpmg accounting and auditing update january 2015

8/9/2019 KPMG Accounting and Auditing Update January 2015

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January 2015

ACCOUNTINGAND AUDITING

UPDATE

In this issue

Government announces roadmap for implementation of Ind AS p1

The Ministry of Finance issues revised drafts on tax computationstandards p3

Liquor industry in India p7 AICPA’s National Conference 2014 on current SEC and PCAOBdevelopments p12

Guidance note on derivative contracts p17

Income taxes – the mystery of uncertainties p19

Revisions in NBFC framework: an overview of keyrevisions p23

Regulatory updates p27

KPMG IFRS Conference 2015 Navigating the

convergence journey5 - 6 February 2015, Mumbai p27


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Editorial

© 2015 KPMG, an Indian Registered Partnership and a member rm of the KPMG network of independent member rms afliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.


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Governmentannounces

roadmap forimplementationof Ind AS


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5/36© 2015 KPMG, an Indian Registered Partnership and a member rm of the KPMG network of independent member rms afliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.

The new year heralds an important update; on 2 January2015 the Ministry of Corporate Affairs (MCA) issued a pressrelease announcing a revised roadmap for implementationof Indian Accounting Standards (Ind AS), converged withInternational Financial Reporting Standards (IFRS). Thisroadmap is applicable to companies other than bankingcompanies, insurance companies and non-banking nance

companies.1

This roadmap was developed after consultations with variousstakeholders and regulators. It comes as a follow up to theannouncement by the Finance Minister in his budget speechthat Ind AS will be made mandatory from the nancial year2016-2017.

In this section, we have provided an overview of the revisedroadmap of implementation of Ind AS.

Overview of the revised roadmapBackground

The MCA, through a press release, on 2 January 2015issued a revised roadmap for companies other than bankingcompanies, insurance companies and non -banking nancecompanies for implementation of Ind AS converged withIFRS.

The Ind AS shall be applicable to companies as follows:

On voluntary basis

For accounting periods beginning on or after 1 April 2015, withthe comparatives for the periods ending 31 March 2015 orthereafter.

On mandatory basisPhase I

i. For accounting periods beginning on or after 1 April 2016,with comparatives for the periods ending 31 March 2016,or thereafter:

a. companies having net worth of INR500 crore or morewhether their equity and/or debt securities are listed orotherwise

b. holding, subsidiary, joint venture or associatecompanies of the class of companies covered in (a)above.

Phase IIi. For the accounting periods beginning on or after 1 April

2017, with comparatives for the periods ending 31 March2017, or thereafter:

a. companies whose equity and/or debt securities arelisted or are in the process of being listed on any stockexchange in India or outside India and having net worthof less than INR500 crore

b. unlisted companies having net worth of INR250 crore ormore but less than INR500 crore

c. holding, subsidiary, joint venture or associate

companies of the above class of companies.

Exceptions

Companies whose securities are listed or in the processof listing on the Small and Medium Enterprises (SME)exchanges will not be required to apply Ind AS and cancontinue to comply with the existing accounting standardsunless they choose otherwise.

Other matters

• Once a company opts to follow the Ind AS, it will berequired to follow the Ind AS standards for all the

subsequent nancial statements.

• Companies not covered by the revised roadmap couldcontinue to apply existing accounting standards prescribedin the Indian GAAP.

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1. Refer to KPMG’s IFRS Notes- Issue 2015/01 released on 5 January 2015Source: KPMG in India Analysis



BackgroundCurrently, the Income-tax Act, 1961 (the Act) noti es twoaccounting standards: one relating to disclosure of accountingpolicies and disclosure of prior period and extraordinary itemsand the other on changes in accounting policies.

The Ministry of Corporate Affairs had earlier announced aroadmap for transition to Indian Accounting Standards (IndAS) from 1 April 2011. At that time, there was lack of clarityof tax implications on adoption of Ind AS by the companies.Therefore, in December 2010, under the aegis of the CentralBoard of Direct Taxes (CBDT) a committee was constituted toharmonise the accounting standards issued by the Institute ofChartered Accountants of India (ICAI) with the provisions ofthe Act.

In August 2012, the committee, after deliberations issued 14draft accounting standards to be applicable in computation of‘pro ts and gains of business or profession’ or ‘income from

other sources’ for taxpayers following a mercantile system.These accounting standards are now termed as IncomeComputation and Disclosure Standards (ICDS).

After the release of the draft ICDS (2012) by the CBDT,concerns were raised by various stakeholders since it hadsigni cant differences with generally accepted accountingprinciples. In order to address some of these concerns, theMinistry of Finance (MOF) reworked on the standards on8 January 2015 issued revised drafts of 12 ICDS (2015) forpublic comments.

This article provides an overview of key revisions made in therevised draft ICDS (2015).

The Ministry of Finance

issues revised drafts on taxcomputation standards 1This article aims to:

– Summarise key changes between the draft ICDS issued in 2012 and revised draft ICDS issued in 2015.

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1. Refer to KPMG’s First Notes dated 14 January 2015



Formula for capitalising borrowing cost revisedThe draft ICDS on Borrowing Costs (2012) mentioned the following formula for capitalising borrowing costs on generalborrowings and utilised for acquiring a qualifying asset:

Transitional provisionsDraft ICDS (2012) did not specify any transitional provisionswhich had led to concerns that implementation of draft ICDS(2012) might lead to taxation of a transaction that had already

been subjected to tax in prior years.In order to address this concern, the MOF has proposedtransitional provisions in all revised draft ICDS (2015) exceptfor the revised draft ICDS on Securities (2015) which does notcarry any transitional provision.

Alignment with generally accepted accountingprinciples• The draft ICDS on Revenue Recognition (2012) provided

that in case ultimate collection with reasonable certainty islacking at the time of raising any claim for price escalation/ export incentives, revenue recognition is respect of such

claim should be postponed to the extent of uncertaintyinvolved. For other situations draft ICDS on RevenueRecognition (2012) did not permit non-recognition ofrevenue due to uncertainty in collection. Similarly, draftICDS on Construction Contracts (2012) did not permitnon-recognition of contract revenue due to uncertainty incollection.

In order to align with generally accepted accountingprinciples, it is proposed that revenue (under the reviseddraft ICDS on Construction Contracts (2015) and reviseddraft ICDS on Revenue Recognition (2015)) should berecognised when there is a reasonable certainty of

ultimate collection. It carries forward the requirementrelating to price escalations/export incentives from thedraft ICDS on Revenue Recognition (2012).

• The draft ICDS on The Effects of Changes in ForeignExchange Rates (2012) mentioned that foreign currencytransactions should be recorded on initial recognition byapplying to the foreign currency amount the exchange ratebetween the reporting currency and the foreign currency atthe date of the transaction and foreign currency monetaryitems are converted into reporting currency by applying theclosing rate at the last date of the previous year.

There were concerns that this requirement did not allowpractical expedients to use approximate exchange ratebetween the foreign currency and reporting currency.Therefore, the revised draft ICDS (2015) proposes thataverage rate for a week or a month that approximates theactual rate at the date of the transaction may be used forrecording all foreign currency transactions occurring duringthat period. If the exchange rate uctuates signi cantly,then the actual rate at the date of the transaction should beused.

Additionally, in the situations:

– foreign currency monetary item has a restriction onremittances, or

– the closing rate is unrealistic and it is not possible toeffect an exchange of currencies at that rate.

then the relevant monetary item should be reported inthe reporting currency at the amount which is likely to berealised from or required to be disbursed at the last date ofthe previous year.

• Under the draft ICDS on Inventories (2012), inventoryof a service provider was required to be valued at cost.The revised draft ICDS (2015) proposes to align with thegeneral inventory valuation principle i.e. at cost or netrealisable value, whichever is lower.

Borrowing costs incurred duringthe previous year except onborrowings directly relatable tospecic purposes (A)

Average of cost of qualifying assetappearing in the balance sheet onthe rst day and the last day of theprevious year, other than thosequalifying assets directly funded outof specic borrowings (B)

Average of total assets (otherthan assets directly funded out ofspecic borrowings) as appearing inthe balance sheet on the rst dayand the last day of the previous year(C)

X

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In the revised draft ICDS (2015), the above formula has been proposed to be revised to envisage a situation when the qualifyingassets (capital work-in-progress) do not appear in the balance sheet either on the rst day/last day, or both on the rst and lastday in the previous year. The formula in the revised ICDS (2015) now proposes that:

When the qualifying asset does not appearin the balance sheet on the

The numerator (B) of the above formula would be

First day or both on the rst and the last day ofthe previous year

The half of the cost of the qualifying asset (other than those qualifyingassets directly funded out of specic borrowings)

Last day of the previous year Average of cost of qualifying asset (other than those qualifying assetsdirectly funded out of specic borrowings) as on the rst day of theprevious year and on the date of completion

Recognition and initial measurement requirements modi edThe draft ICDS on Tangible Fixed Assets (2012), Intangible

Assets (2012) and Securities (2012) mentioned followingrequirements when an item is acquired in exchange foranother asset/shares/securities:

• A tangible xed asset acquired in exchange for anotherasset/shares/securities, the cost of the tangible xed assetshould be recognised at lower of:

– fair market value of the tangible xed asset acquired, or

– fair market value of the assets/securities given up/ issued.

• An intangible asset acquired in exchange for another asset/

shares/securities, the cost of the intangible asset shouldbe recognised at the fair value of:

– asset given up if it is acquired in exchange for anotherasset

– securities issued if it is acquired in exchange for sharesor other securities.

• The cost of a security acquired in exchange for anotherasset should be recognised at lower of:

– fair value of the security acquired, or

– fair market value of the asset given up.

The revised draft ICDS (2015) on above topics propose thatactual cost of a tangible xed asset/intangible asset/securityacquired in the above cases would be recognised at the valueof the asset acquired. Therefore, the revised draft ICDS (2015)requires the use of value of the asset acquired and not thevalue of the asset given up.

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Other key revisions• Under the draft ICDS on Tangible Fixed Assets (2012)

machinery spares should be charged to revenue whenconsumed for the purpose of preserving or maintaining

an already existing tangible xed asset and which doesnot bring a new asset into existence or does not resultinto a new or different advantage that increases the futurebene ts from the existing asset.

The revised draft ICDS (2015) proposes that the machineryspares should be charged to revenue when consumed.When such spares can be used only in connection with anitem of tangible xed asset and their use is expected to beirregular, they should be capitalised.

• The revised draft ICDS on Intangible Assets (2015)proposes to include exchange uctuations as anadjustment to cost of an intangible asset subsequent to itsacquisition.

Draft ICDS (2012) not re-issuedFollowing draft ICDS (2012) have not been issued as reviseddrafts (2015):

• Events occurring after the previous year

• Prior period expense.

Comment periodThere is one month of comment period is available and itwould be important that the taxpayers actively participatein the comment process to help ensure that ICDS that getnalised and noti ed are the ones that are fair and reasonableto the interests of both the taxpayers and the tax authorities.

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Liquor industryin India

What is Liquor?The origin of liquor and its close relative ‘liquid’ was theLatin verb liquere, meaning ‘to be uid’. According to theOxford English Dictionary, an early use of the word inthe English language, meaning simply ‘a liquid’, can bedated to 1225.

Liquors, commonly referred to as ‘spirits,’ aremanufactured by concentrating alcohol in fermentedfruits and grains through a process of distillation. This

process results in the production of ethanol, a form ofalcohol that is found in all alcoholic drinks.

Alcoholic beverages can be produced through un-distilled fermentation of agricultural produce such asfruits (grapes), grains (barley, wheat, rye, oats, rice,etc.), and vegetables (sugarcane, potato). As mentionedabove, liquor is produced rst by fermenting these andthen concentrating the ethanol through distillation.Accordingly, not all alcoholic beverages are classi ed asliquors. Wine and beer are examples of alcoholic drinks

and are not liquor, these are fermented and not distilled.Examples of a few distilled alcoholic beverages includewhisky, rum, vodka, gin, tequila.

This article aims to:

– Highlight certain key challenges, accounting and reporting implications in the Indian liquor industry.


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The industry landscapeThe Indian liquor industry is one of the fastestgrowing industries in the world. The industrylandscape can be categorised in the followingmanner:

• Beer

• Wine

• Distilled beverages

– Indian made foreign liquor (IMFL)

– Imported liquor

* Bottled in origin (BIO)

* Bottled in India (BII)

• Country liquor


BeerBeer is a beverage fermented from molasses or from grain mash. Internationally,beer is generally made from barley or a blend of several grains.

WineWine is also a fermented beverage produced from grapes.

Distilled beveragesDistilled beverages are produced by distilling ethanol produced by means offermenting grain, fruit, or vegetables.

Country liquorCountry liquor also known as desi daru, represents relatively cheaper, avouredliquor usually distilled from molasses. Country liquor such as fenny, toddy, arrackis generally consumed by less af uent members of the society at it is pr icedsigni cantly lower than other alcoholic beverages.

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Key challengesAlcohol is a state subject as per the State List under the SeventhSchedule of the Constitution of India. Therefore, the lawsgoverning alcohol vary from state to state. The governmentof each State is in receipt of the revenue generated from this

industry and therefore, have formulated their own excise policiesfor alcoholic beverages including speci c requirements inrelation to manufacturing, warehousing, distribution, retailing andlabeling. These policies are reviewed on an annual basis and areimplemented by respective ‘state excise departments’.

Accordingly, companies in this industry have to comply withthe tax regime of each state which includes obtaining separatelicenses for manufacture, bottling and distribution in the state inwhich a company has its operations. Further, there are a numberof levies which are imposed at various stages of the value chainof manufacturing till the ultimate distribution of the product to theend consumer which greatly impact the pricing of the product in

each state and accentuates the challenge faced in this industryespecially for new entrants. Some of the taxes include stateexcise duty, import fees, export fees, bottling fees, labeling fees,etc.

The distribution channel of liquor to the end consumer is alsodiverse in accordance with respective state policies. In ourexperience, many states in India have adopted a varied marketstructure, for example

– Free market - permits the license holder to distribute liquorafter obtaining a license

– Auction market - license to distribute are auctioned on anannual basis

– Government market - distribution is through governmentcontrolled corporations in the wholesale and/or retail market.

Liquor in India is not sold on certain designated dates (usuallygazetted holidays) during the year which are known as ‘dry days’.In addition, certain states have complete prohibition on sale ofliquor and are therefore known as ‘dry states’. These include thestates of Gujarat, Nagaland, Mizoram, Manipur, and the Unionterritory of Lakshadweep. The governments of certain otherstates such as Kerala, have also announced policies to prohibitsale of liquor in the state over a period of time.

Brand building is considered to be extremely challenging as there

is a prohibition on direct advertising of liquor brands. Further,there is an inherent volatility in the prices of major raw materials,glass (for bottling), Extra Neutral Alcohol (ENA) and molasses,owing to seasonality factors and demand supply pressures andas a result of government policies. These factors, along withstate tax policies,therefore, add volatility to the margins of liquorcompanies who also have to guard against the manufacture andsale of spurious liquor.

Accounting and reporting implicationsIn this article, we focus on two issues - one, arrangements withcontract bottling units and two, revenue recognition in relation to

sales made to corporations.Arrangements with contract bottling units

Selling liquor across states generally attracts higher excise dutyas compared to liquor manufactured and sold within a state.The higher excise duty on liquor imported from other states

results in a higher price which puts a pressure on sales volumes.As a result, almost all liquor manufacturers have either set-updistilleries in the state where they want to have a distributionnetwork or partner with a local state distiller or brewer knownas contract bottling units (CBU) in order to remain competitive.Typical features of such arrangement may include:

• An agreed consideration in the form of fee per case is paidto the CBU by a liquor manufacturer in lieu of productionoverheads.

• All other cost of production and dispatch such as purchaseof raw material, freight, etc. are incurred by the CBU (as aprincipal) but in substance, these are on account of the liquormanufacturer except to the extent of wastage in excess ofagreed limits and statutory compliances. The CBU purchasesthe raw material from vendors approved by the liquormanufacturer

• The liquor manufacturer funds the working capital

requirements of the CBU. In order to facilitate this, each CBUwill usually open a designated bank account which will beoperated by the representatives of the liquor manufacturer

• The sales are legally in the name of the CBU but at theinstance of the liquor manufacturer i.e. the liquor manufacturerhas the onus of identi cation of customers, determining thesales price and the relevant terms and condition of the sale.The responsibility of the CBU ceases at the time of makingsale in accordance with the stated terms

• The CBU is debarred from creating any lien on inventory anddebtors in relation to the goods manufactured on behalf of theliquor manufacturer

• The liquor manufacturer is also generally responsible tobear the insurance risk of inventories and transit and alsoreimburses the cost of various import and export permits tothe CBU

• A periodic statement of pro t and loss account is drawnup by the CBU and the net gain or loss on the transactionundertaken by the CBU on behalf of the liquor manufacturerare transferred to the liquor manufacturer’s account

• In the event of termination of such agreements, the inventorywill be transferred at cost by the CBU to the company

• In certain circumstances, the CBU may be barred from

entering into similar arrangement with other competitive liquormanufacturer.

Thus, while the sales are legally and contractually made by theCBU in its own name, in substance these are made at the behestof the liquor manufacturer. Accordingly, a question arises in termsof the manner of presentation of revenue from sale made by suchCBU i.e. either on a gross (sales to customers) or on a net basis(conversion charges received from the liquor manufacturer) in thenancial statements of the CBU.

Paragraph 10 of AS 9, Revenue Recognition , states that “revenuefrom sales or service transactions should be recognised when

the requirements as to performance set out in paragraphs 11 and12 are satis ed, provided that at the time of performance it isnot unreasonable to expect ultimate collection. If at the time ofraising any claim it is unreasonable to expect ultimate collection,revenue recognition should be postponed”.



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Paragraph 11 of AS 9 further states that in a transactioninvolving the sale of goods, performance should be regardedas being achieved when the following conditions have beenful lled:

i. the seller of goods has transferred to the buyer the

property in the goods for a price or all signi cant risks andrewards of ownership have been transferred to the buyerand the seller retains no effective control of the goodstransferred to a degree usually associated with ownership

ii. no signi cant uncertainty exists regarding the amount ofthe consideration that will be derived from the sale of thegoods.

Thus, the main principle enunciated in paragraph 11(i) ofAS 9 is that sales should be recognised when either of thefollowing two conditions are satis ed:

a. The property in the goods has been transferred to the

buyer for a price, orb. All signi cant risks and rewards of ownership have been

transferred to the buyer and the seller retains no effectivecontrol over the goods.

In general, property refers to a person’s legal right of whateverdescription. It is the right to possess, use and enjoy adeterminate thing. Accordingly, it is important to analysewhether either of the two conditions above have beensatis ed by the liquor manufacturer or the CBU.

Reading the requirements of AS 9, it seems that the CBU’srole is limited to manufacturing the products in the quantity

and the as per the quality speci ed by the liquor manufacturer.For such services, the CBU earns a consideration in the formof a xed amount per case manufactured and actual costincurred on speci ed items. It is the liquor manufacturer andnot the CBU who bears the signi cant risk and rewards ofthe product and has control of the products. The margin ofthe CBU remains xed irrespective of the changes in the saleprice or the related material cost of the product. In essence,if it is the liquor manufacturer who has the effective controlof stocks at all times even though these are in physicalpossession of the CBU i.e. the CBU can distribute these onlyat the behest of the liquor manufacturer, is not permitted tocreate a lien and is also required to hand over unsold inventoryat cost in the event of termination of the agreement.Accordingly, there could be an argument that the revenueaccruing to the CBU is in the form of the fee earned per case.

However, it is pertinent to note that AS 9 also gives credenceto the legal position by including the de nition of sale as perthe Sale of Goods Act by giving reference to the ‘transferof property in the goods’ apart from principles based oneconomic substance i.e. transfer of signi cant risks andrewards, as a trigger for revenue recognition. Thus, the keyaspect which merits an evaluation is to determine whetherthe CBU owns property in the goods at any time. While the

CBU performs the transactions at the behest of the liquormanufacturer, all legal documentation such as purchaseorders, invoices, excise duty , sales tax and the legal permitsas per requirement of the relevant state are in the nameof the CBU. Thus, even though there may be a contractualarrangement between the liquor manufacturer and the CBU,

there could be an argument that for external stakeholdersbeing excise authorities, suppliers of raw materials anddebtors that the CBU is conducting these transactions on itsown account.

Thus, in view of the above complexity, a liquor manufacturer

should apply judgement and may seek a legal advice in orderto ascertain the true owner of the property in goods whichwill be therefore, be one of the guiding principles insofar aspresentation of revenue is concerned.

Revenue recognition in relation to sales madeto corporationsAs mentioned earlier, in certain states, market structureinvolves government market wherein the distribution isthrough government controlled corporations (‘corporations’)in the wholesale and/or retail market.

In this regard, each corporation will generally enter into

an agreement with the liquor manufacturer in relation topurchase and onward sale of liquor produced by the liquormanufacturer. Such agreements also contain clauses to theeffect of levy of demurrage charges, payment terms andcircumstances in which the loss associated with unsoldstocks will be required to be borne by the liquor manufacturer.The agreement also envisages a speci c right to return goodsafter a particular period of time in relation to expired goods inorder to ensure that expired goods can not and should not besold in the market.

Over the years, certain corporations have been additionallyincluding a clause in the agreement with the liquor

manufacturer to the effect that the supply of liquor to thecorporation against order for supplies shall be construed asan ‘agreement to sell under sub-Section 3 of Section 4 of theSale of Goods Act’. The sale shall be concluded only whenthe liquor is delivered to the buyers by the corporation. Thecorporation would take necessary care of the stocks held forsale as it is reasonably possible and expected of it.

A question, therefore, arises on the timing of revenuerecognition in sales made to such corporation i.e. on dispatchof goods to the corporation or as and when the goods aredelivered to the buyers i.e. distributors by the corporation.

As per the Sale of Goods Act, 1930, (the Act):a. A contract of sale of goods is a contract whereby the seller

transfers or agrees to transfer the property in goods to thebuyer for a price.

b. There may be a contract of sale between one part-ownerand another.

c. A contract of sale may be absolute or conditional.

d. Where under a contract of sale the property in the goodsin transferred from the seller to the buyer, the contract iscalled a sale, but where the transfer of the property in thegoods is to take place at a future time or subject to somecondition thereafter to be ful lled, the contract is cal led anagreement to sell.

e. An agreement to sell becomes a sale when the timeelapses or the conditions are ful lled subject to which theproperty in the goods is to be transferred.



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Additionally, some of the corporations have, in the past, alsorepresented to government authorities that they are the legalowners of the goods. Accordingly, there is divergence in practiceon revenue recognition in relation to sales made to corporations.

In practice, certain liquor manufacturers conclude that signi cantrisks and rewards associated with ownership have beentransferred to the corporation along with the transfer of theproperty in goods since the corporations have complete physicalcontrol over the goods and the liquor manufacturer would usuallynot have any right to take back or have lien on such goods.Accordingly, revenue is recognised at the time of dispatch/ delivery to the corporation in accordance with the generalterms of sales contained in the agreement. However, it wouldbe appropriate for the liquor manufacturer to clearly state therevenue recognition policy on such sale.

However, based on the facts and circumstances, it can also beconsidered that the property in the goods vests with the liquormanufacturer and is not transferred to such corporations at thetime of dispatch. As per the agreement, the property in suchgoods will transfer only when it is delivered to the buyers by thecorporation which will also coincide with the transfer of risks and

rewards. Hence, it may be prudent for the liquor manufacturerto recognise revenue at the time of sale to the customer of thecorporation and not at the time of dispatch of goods to suchcorporation. From an Indian GAAP perspective, such corporationsare, therefore, considered as a distribution agents of the liquor

manufacturer which hold the goods in trust for the liquormanufacturer for sale to further customers. The stock with thecorporation may, therefore, also be considered as the inventory ofthe liquor manufacturer till sale is concluded.

Thus, in order to determine when revenue should be recognised,one should apply judgement and care should be taken toascertain the facts and circumstances as the terms of agreementwith corporations could vary from state to state.

ConclusionThere are numerous aspects in the Indian liquor industry whichare complex and yet interesting akin to the blends used in

whisky or whiskies. The challenges associated with this sectorin India are largely due to complex state tax regulations and otherrestrictions. The adoption of Ind AS could also have an impact onthe revenue recognition accounting policy of this sector.



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AICPA’s NationalConference 2014 oncurrent SEC and PCAOBdevelopments 1

This article aims to :

– Summarise the important messages of the AICPA conference held in Washington, D.C. in December 2014.

1. KPMG’s Issues-In-Depth, 2014 AICPA NationalConference on Current SEC and PCAOB Developments

2. AICPA: American Institute of Certi ed Public Accountants3. SEC: U.S. Securities Exchange Commission

4. PCAOB: Public Company Accounting Oversight Board5. FASB: Financial Accounting Standards Board6. IASB: International Accounting Standards Board

The annual AICPA 2 conference on SEC 3 and PCAOB 4 developments was held from 8 to 10 December 2014 inWashington D.C. It featured speakers from the SEC, PCAOB, FASB 5, IASB 6, Center for Audit Quality (CAQ), AICPA, etc.The speakers discussed recent developments and initiatives in accounting, auditing and nancial reporting whichincluded discussions on the new revenue recognition standard, management’s responsibility on internal nancialcontrols, COSO 2013 and disclosure effectiveness initiatives, amongst others.



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In this article, we present to you some of the importantdiscussions during the conference.

IFRS adoption by the U.S. domestic issuersJames Schnurr, the SEC’s recently appointed Chief

Accountant, Of ce of the Chief Accountant (OCA),announced that making a recommendation to theCommission regarding the possible incorporation of IFRSinto the nancial reporting regime for U.S. issuers is one ofhis near-term priorities. Since 2007, the Commission hasallowed foreign private issuers to report under IFRS withoutreconciling to the U.S. GAAP. These issuers are clearly asigni cant component of the U.S. capital markets, making uptrillions of dollars in aggregate market capitalisation. The SECemphasised that the regulatory considerations for foreignprivate issuers are different than for domestic registrants.Therefore, while historical knowledge gained through the use

of IFRS by foreign private issuers has proven to be useful, anyrecommendation with respect to U.S. domestic registrantswill need to be made independently of those considerationsused for foreign private issuers. He acknowledged that thecontinued uncertainty related to IFRS has caused uneasinessamong some investors as well as the international nancialreporting community. In addition to approaches previouslyconsidered by the SEC staff, Mr. Schnurr described thepossibility of allowing U.S. domestic issuers an option toprovide supplemental IFRS-based nancial information andsuch information, if provided by registrants, may not beconsidered as non-GAAP.

New revenue recognition standardThe SEC staff emphasised on the importance of successfulimplementation of the new revenue recognition standardand stated that implementation of this standard is critical inbringing comparability among the U.S registrants. The SECstaff acknowledged that there would be numerous questionsrelated to accounting for transactions under the new revenuestandard. The Transition Resource Group (TRG), has beenconstituted to consider issues that could have a widespreadand signi cant impact on implementation. The SEC staffcontinues to monitor implementation issues and will workclosely with the FASB to identify issues that may requireadditional guidance or standard setting and will consider ifany existing SEC disclosure or reporting requirements willbe affected by the adoption of the new revenue standard.The staff noted that the new revenue standard allows forgreater use of management judgement, but also results inmore robust and transparent disclosure. Companies will needto evaluate their existing systems, processes, and controlsto support the application of the new revenue standard andmake modi cations as appropriate.

Management’s responsibility over ICFRThe SEC staff emphasised the need for registrants to ensure

that their responsibilities related to Internal Control overFinancial Reporting (ICFR) are ful lled. Representatives fromthe SEC staff stated that they have been and will continue

to be focussed on registrants’ assessments of ICFR.Additionally, the staff reminded registrants that they have aquarterly responsibility to report material changes to ICFR,as well as material weaknesses. The SEC staff reminded theregistrants on the following:

– The SEC staff believes that the top-down, risk-basedapproach described in the SEC’s 2007 CommissionGuidance Regarding Management’s Report on InternalControl over Financial Reporting is a reasonable basisfor determining whether a material weakness exists,because it helps to ensure that suf cient and appropriateconsiderations are being applied when identifying anddescribing a de ciency

– The SEC staff recommended that management shouldconsider factors such as nature of control de ciency,its impact on ICFR, root cause of the de ciency andremediation efforts in describing a control de ciency

– While evaluating the severity of a control de ciency,the SEC staff emphasised on the need for carefulconsideration of the magnitude of the potentialmisstatement that could result from a de ciency. Thepotential magnitude of the transaction goes beyond theerror identi ed and requires consideration of the nature ofthe transactions and the amounts or total population thatcould be exposed to the de ciency.

Implementation of COSO 2013In May 2013, the COSO 7 released its updated Internal

Control – Integrated Framework (2013 Framework). The 2013Framework updates the original COSO Framework releasedin 1992. COSO announced that the 1992 Framework will nolonger be supported as of 15 December 2014.

In response to a question, Mr. Croteau, Deputy ChiefAccountant, SEC Of ce of the Chief Accountant stated thatthe SEC has not set a deadline for transition to the 2013Framework. Both he and Ms. Shah, Deputy Chief Accountant,Division of Corporate Finance (DCF) stated that the SECstaff will not object if registrants continued to use the 1992COSO Framework for the 2014 scal year lings but reiteratedthat the SEC staff are more likely to question the use of an

outdated framework with the passage of time. Both Mr.Croteau and Ms. Shah indicated, however, that registrantsshould disclose the framework that has been used.


7. The Committee of Sponsoring Organisations of the TreadwayCommission


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Division of Corporation Finance (DCF) focusareasIncome taxes

The DCF staff discussed circumstances where there could beimprovements in income tax disclosures including situationsin which there are:

• Signi cant differences between the expected income taxexpense and the actual income tax expense

• Signi cant changes in the annual effective income tax rateor materially volatile but offsetting components

• Material components in the rate reconciliation thatsigni cantly impact the effective income tax rate

• Foreign earnings that are a signi cant component of aregistrant’s total pre-tax earnings.

Foreign taxesThe DCF staff observed that they continue to see registrantsmaking generic disclosures about changes in foreign taxes.Where foreign pre-tax earnings are signi cant, the DCF staffrecommended disclosing the description of the compositionof foreign earnings line of the rate reconciliation, the materialjurisdictions in which the company has operations alongwith their pre-tax earnings and the statutory and effectivetax rates and signi cant reconciling items between thestatutory and effective tax rates, and trends, uncertainties,and expectations associated with the speci c jurisdictions inwhich the company operates.

Fair value

The DCF staff continues to focus on fair value measurementsand disclosures that affect initial recognition, particularly asthey relate to business combinations and impairments, anddisclosure requirements associated with nonrecurring fairvalue measurements.

The DCF staff reminded registrants to consider the followingrelated to fair value measurements and disclosures:

• Situations in which material impairment indicators havebeen disclosed or are known to exist, but no impairment

charge has been recorded• Required disclosures for nonrecurring fair value

measurements

• Careful selection of the proper fair value hierarchyclassi cations.

Current accounting practice issuesThe staff stated that excessive reliance on SEC speechesas a basis for accounting conclusions should be avoided,because the facts and circumstances are often unique andthe speeches are not authoritative. In addition, Mr. Murdock,

SEC Of ce of the Chief Accountant noted that OCA’s viewson issues tend to evolve over time and as a result speechestend to become less relevant and less re ective of the currentOCA staff’s view over time.

The SEC staff discussed on several topics and its experienceon queries received on topics such as segment reporting,gross versus net presentation of revenues, consolidation andjoint ventures, statement of cash ows, nancial instruments,goodwill impairment test and push down accounting. A few

takeaways are highlighted below:

Segment identi cation and aggregation

Mr. Murdock indicated that SEC staff will be taking arefreshed approach when evaluating operating segmentdisclosures. The SEC highlighted the following segmentidenti cation steps.

• The SEC staff noted that they have seen companiesdefault to the CEO as the chief operating decision maker(CODM) and urged registrants to take a fresh look atthose determinations and consider what the key operatingdecisions are and who is actually making the key decisions

• The staff referenced that an operating segment is oftenevident from the structure of a company’s internalorganisation. The SEC staff also cautioned againstover reliance on the information package provided to,and regularly reviewed by, the CODM noting that thisis only one factor to consider, and it is not necessarilydeterminative

• The SEC staff emphasised the aggregation of segmentshould be carried out only when all of the criteria are met.Given that a core objective of the standard is to providedisaggregated information, meeting the aggregation

criteria is intended to be a ‘high hurdle.’

Gross versus net revenue recognition

The SEC staff commented on the questions they havereceived on the gross versus net application issues inemerging business models of internet advertising, onlinegaming and stated that evaluation of gross versus net forthese business models is consistent with the historicalviews. Principal versus agent assessment is more than apresentation exercise. The results of the assessment provideinformation to nancial statement users on: (1) who is thecustomer in the transaction, (2) what is being sold to thatcustomer, and (3) the ultimate revenue stream earned for thattransaction.

Its analysis should begin with identi cation of thedeliverables in the arrangement, followed by an evaluationof which party in the arrangement is the primary obligorwith respect to those deliverable. In some circumstancesthe primary obligor may not be clear, and in such a case theinventory risk and pricing latitude indicators take on greaterimportance.



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Goodwill impairment testing date

The SEC staff has required a ‘preferability letter’ for changesin an entity’s goodwill impairment testing date because this isconsidered a change in the method of applying an accountingprinciple. The SEC staff indicated that a preferability letterwould no longer be required if:

• An entity determines that a change in its goodwillimpairment testing date does not result in a materialchange in the method of applying the accounting principle,which may be the case even if goodwill is material to thenancial statements

• The change in the goodwill impairment testing date isprominently disclosed.

Consolidation and joint ventures

The staff has discussed several practice issues regarding theapplication of the variable interest entity (VIE) consolidationmodel which included the following:

Shared power Topic 810 provides that no party is the primarybene ciary of a VIE when power to direct the signi cantactivities of the entity is shared by multiple unrelated parties.The OCA staff commented that for shared power to exist,all the decisions related to the signi cant activities of theVIE must require the consent of each of the parties sharingpower.

Decision maker acting as an agent The OCA staff discussedinstances in which a decision maker is not a variable interestholder (i.e., is acting as an agent on behalf of another party)and whether it would be appropriate for other parties tostop their consolidation analysis upon that determination.When the decision maker is determined to not be a variableinterest holder, the other parties should further considerthe substance of the arrangement to determine if any of theparties would be considered the party with power.

Joint ventures The OCA staff speci cally discussedinstances in which two businesses are contributed to aventure in an effort to generate synergies and the signi cantjudgement required in determining whether this type oftransaction meets the de nition of a joint venture under ASCTopic 323. The OCA staff encourages registrants to considerpre-clearing joint venture formation transactions with theOCA staff in light of the lack of the U.S. GAAP guidance andthe related complexity.

Financial instruments

Preferred shares . The SEC staff commented on thelack of U.S. GAAP guidance for determining whether anamendment to equity classi ed preferred shares representsan extinguishment or modi cation, and referenced fourmethods: the quantitative approach, the fair value approach,the cash ow approach and the legal form approach used byregistrants to make this determination.

In situations where the conclusion is reached that an

amendment to a preferred instrument is a modi cation,the SEC staff indicated that analogy to the guidance in ASC

Subtopic ASC 718-20 related to the modi cation of equityclassi ed share-based payment awards is an appropriatemethod to measure the impact of the modi cation. Withrespect to recognition, the SEC staff indicated that theyhave accepted re ecting the impact of the modi cation as adeemed dividend, or, in limited circumstances, as a chargeto earnings ‘as a form of compensation for agreeing to

restructure.’Derivative novations. A novation of a derivative instrumentis when one counterparty is replaced with another and istypically viewed as a legal termination and therefore, wouldgenerally have an impact on hedging conclusions reachedunder ASC Topic 815.

The SEC staff noted that they have received questions relatedto the impact of novations on hedging relationships in otherfact patterns, including:

• The merger of an entity’s derivative counterparty intoa surviving entity that assumes the same rights and

obligations that existed under the derivative instrumentprior to the merger

• The novation of an entity’s derivative counterparty to anentity under common control of the derivative counterparty

• Instances where an entity is aware of and documentscontemporaneously the novation of a derivativecounterparty that will occur in the future.

In the instances above, the SEC staff did not object to thecontinuation of hedge accounting by the entity. The SEC staffindicated that the conclusions on the above fact patternsshould not be applied by analogy.

Statement of cash ows

The staff commented that statement of cash owrestatements continue to increase each year and noted thatmany of the restatements were in areas that are consideredto be less complex in nature. The SEC staff commented thatentities should consider how they collect the data necessaryto prepare the statement of cash ows including the controlson accuracy and completeness of data, the understanding ofthe professionals responsible for preparation of the statementof cash ows and timing of preparation of the cash ow toallow suf cient time for review.

International reporting matters

The SEC staff highlighted the following reporting issueswhich could impact foreign private issuers which included thefollowing:

• Disclosures of known trends and uncertainties related tothe economic turmoil in the Venezuela Region

• Lack of adequate guidance on reorganisation transactionssuch as carve-outs, common control reorganisations, anddrop downs for entities applying IFRS, which has causedchallenges for registrants undertaking IPOs, spinoffs, etc.



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Guidance note ofderivative contractsissued by the ICAIThis article aims to:

– Provide background on the need for this guidance note and its key features.

BackgroundIn 2007, the ICAI issued AS 30, Financial Instruments:Recognition and Measurement and AS 31, FinancialInstruments: Presentation . Both of these accountingstandards were to come into effect in respect ofaccounting periods commencing on or after 1 April 2009and were to be recommendatory in nature for an initialperiod of two years. These were to become mandatoryin respect of accounting periods commencing on or after1 April 2011. However, till date these standards are notmandatory in nature and while they provide persuasiveguidance, they are not required to be followed per se inthe Indian context.

Separately in March 2008, the ICAI issued anannouncement that in case of derivatives, if an entity doesnot follow AS 30, keeping in view the principle of prudenceas enunciated in AS 1, Disclosure of Accounting Policies ,the entity is required to provide for losses in respect of all

outstanding derivative contracts at the balance sheet dateby marking them to market. This announcement becameapplicable to nancial statements for the period ending 31March 2008, or thereafter. In case of forward contracts towhich AS 11, The Effects of Changes in Foreign ExchangeRates (revised 2003) applies, entities need to fully complywith the requirements of AS 11.

Currently, the relevant source of guidance for accountingof foreign currency forward exchange contracts is AS11, which is noti ed under the Companies (AccountingStandards) Rules, 2006. AS 11 lays down accounting

principles for foreign currency transactions and foreignexchange forward contracts and in substance similarcontracts. However, it does not cover all types of foreignexchange forward contracts since contracts used tohedge highly probable forecast transactions and rmcommitments are outside the scope of AS 11.

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The Institute of Chartered Accountants of India (ICAI) has recently issued anexposure draft of a proposed guidance note on derivatives. This exposuredraft is open for public comment till 21 January 2015 and proposes certainimportant changes to how derivatives are currently accounted for in practicein India. This article seeks to provide background on the need for thisguidance note and its key features.


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Key aspects of the guidance noteThe objective of the guidance note is to provide guidanceon recognition, measurement, presentation and disclosurefor derivative contracts so as to bring uniformity in theiraccounting and presentation in nancial statements. Theguidance note, while addressing some aspects of hedgingactivities, does not purport to be a guidance note on allhedging activities. This is because of the fact that many typesof hedging involve potential con icts with existing noti edaccounting standards and a guidance note does not have theability to override such authoritative guidance.

The guidance note also provides accounting treatment forderivatives where the hedged item is covered under noti edaccounting standards, e.g., a commodity, an investment,etc., because except AS 11, no other noti ed accountingstandard prescribes any accounting treatment for derivativeaccounting.

The guidance note is an interim measure (till IFRSconvergence is achieved in India) to provide recommendatoryguidance on accounting for derivative contracts and hedgingactivities considering the lack of mandatory guidance inthis regard with a view to bring about uniformity of practicein accounting for derivative contracts by various entities.For certain entities that do not require to move to Ind AS(IFRS converged standards), this guidance note will have anenduring impact.

To a signi cant extent, the guidance note does not materiallyimpact entities that have been already following AS 30 type

accounting policies and guidance, and transition to the newguidance note will be relatively smooth for such entities.

The guidance note includes de nitions of various termsincluding of what is a derivative, hedging instrument, hedgeditem, etc. These de nitions are largely comparable with thoseused internationally.

Hedge accounting continues to be optional under thisguidance note but once applied needs to be based on theentity’s risk management objective and goals and then cannot be subsequently turned on or off if the risk managementobjective remains the same.

Compared to the earlier guidance under AS 30, hedgeaccounting is considerably easier to apply in many situationsand in particular there is additional guidance on the followingaspects:

• Synthetic accounting

• Fair value of derivatives – focus on exit price

• Situations where the hedged item is covered by an existingnoti ed standard (AS 2, Valuation of Inventories, AS 13,Accounting for Investments and AS 11, The Effects ofChanges in Foreign Exchange Rates (revised 2003) )

• The application of this guidance to non-foreign currencyderivatives

• What constitutes a hedgable risk including aggregated andnet exposures and components of non- nancial items

• Which instruments can qualify as hedging instrumentsincluding improving the ability to hedge with options

• Removes bright line 80/125 per cent hedge effectivenesstest requirements

• Allows for qualitative assessments in certain situations

• Clari es that permissibility (e.g. RBI) of a product is notadequate to qualify for hedge accounting

• Permits basis adjustments for hedges relating torecognition of non- nancial items

• Prohibits voluntary hedge de-designation if riskmanagement objectives and hedging instruments areunchanged

• Presentation in the nancial statements including guidanceon current vs non-current designation.

Potential impact of the draft guidance noteThe guidance note represents a signi cant move forward inthe reporting guidance and requirements for companies inIndia. It is expected to bring some much needed transparencyin the area of derivative and hedge accounting using suchderivative instruments. The changes for some companiescould, however, be signi cant and while simpler to applythan the AS 30 type rules, the guidance note would add tothe already full work plan for many preparers of nancial

statements in the coming year.

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Income taxes- the mystery ofuncertaintiesThis article aims to:

– Discuss the concept of the uncertain tax positions – Discuss the guidance available under Indian GAAP, IFRS and U.S. GAAP.

The tax laws is one of the most talked about subjects by regulators and accountingprofessionals across the globe given the dynamic and complex nature of tax rules.Generally, there are complexities involved in tax computation due to judgementsand estimates required in determining tax liabilities and sometimes contrary

judgements available are tax matters that appear similar.

On account of attributes mentioned above, there might be situations where anentity is uncertain about the sustainability of a tax position it has taken in itsincome tax returns. Such uncertainty may be challenged by tax authorities. Theymay result in additional taxes, penalties or interests. They could lead to changein the tax basis of assets and liabilities and changes in the amount of availabletax losses carried forward that would reduce a deferred tax asset or increase adeferred tax liability. These types of uncertainties are referred to as ‘uncertain taxpositions’ (UTPs) or ‘income tax exposures’ (ITEs). There is no speci c guidanceunder Indian GAAP on this subject. U.S. Generally Accepted Accounting Standards(U.S. GAAP) extensively discusses the UTPs under ASC 740, Income Taxes. UnderIFRS, IAS 12, Income Taxes , does not provide any explicit guidance on how toaccount for uncertain tax positions and divergence in treatment has developed inpractice. In practice, many entities have adopted an ‘all or nil’ approach, i.e. thebene t of a tax deduction is recognised in full in the nancial statements if it isprobable that it would be sustained.



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In this article, we aim to highlight key practicalimplementation challenges resulting from such uncertainties.

Identifying the tax positionsExamples of ‘tax position’ include deductions taken ontax returns that may be disallowed by the tax authorities,transactions structured to utilise existing tax losses carried

forward that may otherwise expire unused, transactions thatcould affect an entity’s non-taxable or tax-exempt status, andan unresolved dispute between the entity and the relevanttax authority about the amount of tax due. Identifying thetax position is itself a time consuming and complex processgiven that this requires companies to make an inventoryof all such uncertain tax positions for open tax years andin respect of all individual tax jurisdictions. There is nospeci c threshold provided under IFRS, U.S. GAAP, or IndianGAAP, for identi cation of such tax positions. Therefore,it is critical for companies to identify all such positionseven if the recognition threshold under the accounting

standards is clearly met. In certain situations, contraryjudicial pronouncements could be available and this couldlead to dif culties in the identi cation of tax positions forcompanies. Similarly, for companies having operations inmultiple jurisdictions, it is critical to identify the compliancerequirements and understand the statute of limitations andtax rulings and tax treaties between taxing authorities foreach jurisdiction before making a repository of such uncertainincome tax positions.

Unit of accountThere is no de nition of ‘unit of account’ under the accountingstandards. A unit of account could be used to identify anindividual tax position. This would represent the mannerin which a company would like to take up income taxpositions and the approach expected to be taken up by theregulatory authorities to examine such positions. Some ofthe key aspects to consider while determining the unit ofaccount would be the nature of tax bene t, signi cance ofa particular tax position to the entity’s tax return as a whole,inter-dependence with other tax positions, etc. Given thatthe approach of tax authorities could differ from country tocountry, it could make it dif cult for companies to determinethe unit of account. Similarly, if there are multiple tax positionsof a similar nature, where contrary judicial pronouncements

exist, it may pose additional challenges while ascertaining theunit of account.

Determining the recognition threshold for eachtax position

This is one of the most critical elements in the process ofaccounting for UTPs/ITEs. There is no speci c guidance onrecognition of income tax exposures under Indian GAAP andIFRS and therefore, the general guidance in Indian GAAP/IFRS

applies. However, under U.S. GAAP, the bene ts of UTPsare recognised only if it is more likely than not (likelihood ofgreater than 50 per cent) that the positions are sustainablebased on their technical merits (i.e. ignoring the detectionrisk) and facts and circumstances as of the reporting date.

Under U.S. GAAP, probability threshold is appliedfor recognition of uncertain income tax exposure, itinvolves application of judgement based on the facts andcircumstances of each case. In evaluating the recognitioncriteria, consideration is also given to past practices andprocedures. This will help companies to avoid biasedconclusion on certain UTPs based on judicial pronouncements

that supports their position.Additionally, the conclusion on whether the UTPs aresustainable should not be based on the fact that the taxauthority has not speci cally evaluated the item of UTP.The analysis of whether it is remote that the tax authoritywill examine such UTP should be based on the premisethat such authorities have full knowledge of the facts andcircumstances of the UTPs.

In the situations where companies may tend to write backa provision for a particular UTP when an assessment fora tax authority is complete for a particular UTP and suchtax authority has not inspected or enquired about suchUTP. However, companies will have to evaluate the factsand circumstances on a case to case basis. Some of theconsiderations for such evaluation could be (a) whether suchitem of UTP was a discrete entry in the tax computation (b)whether the detailed computation and supporting informationto the tax computation provides suf cient clarity/descriptionabout such UTP (c) whether tax authorities speci callyenquired about or sought additional information about thesaid UTP during examination, etc. Therefore, a conclusionbased on the fact that the assessment is complete by the taxauthorities may not be appropriate.



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Measurement of tax positionOnce the income tax position has been identi ed, anotherchallenging aspect is to measure such position. There is nospeci c guidance on recognition of income tax exposuresunder Indian GAAP and IFRS and therefore, the generalguidance in Indian GAAP/IFRS applies. However, underU.S. GAAP, once a tax position has met the recognitionthreshold it is initially measured at the largest amount ofbene t that is greater than 50 per cent l ikely of being realisedupon settlement with tax authority assuming that the taxauthorities have full knowledge of all relevant information. Thebene ts of UTPs are recognised only if it is more likely thannot (likelihood of greater than 50 per cent) that the positionsare sustainable based on technical merits and facts andcircumstances of each case as of the reporting date.

A critical element in ascertaining the amount of bene t isassigning probabilities to each possible outcomes. Unlikein the U.S. and certain other jurisdictions, where there isa likelihood of settlement of different amounts with taxauthorities, in India, a tax bene t is either fully allowed orfully disallowed by the tax authorities. Accordingly, in practicecompanies in India follow a binary approach to measuresuch tax positions. While this may sound to be an easy-to-doexercise for the India jurisdiction, it will require signi cantjudgement and evaluation of history of negotiation withregulators, understanding the tax treaties with regulators, etc.in respect of income tax positions in jurisdictions like U.S.

The principle of effective settlement

There is no guidance under IFRS/Indian on the concept of‘effective settlement’. Under U.S. GAAP, a tax position isconsidered as ‘effective settlement’ when all the following

three conditions are satis ed:a. the tax authorities have completed the examination

procedures including all appeals and administrativereviews that they are required and expected to perform fora particular tax position

b. a company does not intend to appeal or litigate any aspectof the tax position included in the completed examination

c. it is remote that the tax authorities would examine or re-examine any aspect of the tax position.

The criteria of effectively settled is another matter ofsigni cant judgement which requires a detailed study ona case to case basis depending on the facts of the matter.Additionally, the tax authority’s policies around opening thealready concluded examinations could differ from countryto country. If a country’s tax laws allow tax authorities tore-examine the assessments of completed years based onadditional information for subsequent assessments, it wouldbe dif cult for companies to conclude whether the ‘effectivesettlement’ criteria has been met. Similarly, a tax positionmay be evaluated by various levels of tax authorities duringthe course of the assessment. If a tax bene t is allowed by alower level tax authority based on certain preliminary inputsby the assessee, it may be disallowed by a higher level tax

authority during re-examination.



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One of the practical implementation issues that companiesoften face is whether a tax position can be considered as‘effectively settled’ for all open assessment years if the taxregulator has completed the assessment for a particularyear and not speci cally reviewed a particular uncertain tax

position. This matter becomes very judgemental and is largelydependent on the facts and circumstances.

Timing of evaluation of UTPs/ITEsOnce an UTP/ITE is recognised and measured, it shouldcontinue to be recognised in the balance sheet. A newinformation about the recognition and measurement shouldtrigger the re-evaluation. New information may includechanges in tax laws, developments in tax rules/case laws,tax return examination by regulators or any other rulings orpronouncements by tax authorities. Companies should carryout an evaluation on whether a new information has becomeavailable about the existing tax positions at each balancesheet date.

ConclusionAccounting and measurement of UTPs/ITEs is quite complexand has a signi cant impact on an entity’s tax liabilities for thecurrent and future period. There is a continuous requirementfor entities to evaluate each of its tax positions, both certainand uncertain, based on new information available regardingits recognition and measurement. Robust analysis anddocumentation would be required when the position involvesa signi cant amount of uncertainty.

U.S. GAAP contains extensive guidance on the accounting ofsuch UTPs.

It may be noted that like IFRS/Indian GAAP, even in Ind AS12, Income Taxes , which would be effective from 2016-17,no speci c guidance is available with respect to recognition,measurement and disclosure of UTPs/ITEs. In order to ensuresmooth transition to Ind AS 12 entities should also implement

a variety of processes, controls, and procedures for evaluatingtheir tax positions based on the nature of the positionsas well as their level of uncertainty. Among other things,those controls and procedures and related documentationshould address all relevant facts and circumstances thataffect the entity’s conclusions, including, but not limited to,relevant tax laws (e.g. legislation and statutes, legislativeintent, regulations, rulings, case law), prior experience withthe taxing authority, and widely-understood administrativepractices and precedents.



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Revisionsin NBFCframework:an overview ofkey revisionsThis article aims to:

– Summarise the revisions to the NBFC framework.

The Reserve Bank of India (RBI) on 10 November 2014 issuedrevised ‘Regulatory Framework for Non-banking FinanceCompanies (NBFC)’ (the framework). The framework aimsto address the issues relating to systemic r isk in the sector,focusses on dealing with some of the identi ed regulatorygaps and arbitrage arising from differential regulations, bothwithin the NBFC sector as well as in relation to other nancialinstitutions, harmonise and simplify regulations to facilitate asmoother compliance culture among NBFCs and strengthenthe overall governance standards. The framework wasrevised keeping in mind the recommendations made by the

‘Working Group on Issues and Concerns in the NBFC Sector’and the committee on ‘Comprehensive Financial Services forSmall Businesses and Low Income Households’. This articleaims to summarise the salient features of the signi cantchanges made to the revised framework by the RBI.


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Minimum net owned fund (NoF) of INR20million for all NBFCsAs per the RBI regulations, NBFCs which were in existencebefore 21 April 1999 are required to have a minimum NoF ofINR2.50 million and NBFCs incorporated after 21 April 1999are required to have a minimum NoF of INR20 million.

Given the need for strengthening the nancial sector,technology adoption and in view of the increasing complexityof services offered by the NBFCs, the framework hasprescribed a uniform minimum NoF requirement for allNBFCs.

NBFCs existing before 21 April 1999 would be required toattain the minimum NoF of INR20 million in a phased manneras follows:

• INR10 million by the end of March 2016

• INR20 million by the end of March 2017.In case the NBFC fails to achieve the minimum NoF withinstipulated time, the RBI would initiate its procedures tocancel the registration certi cate of the said NBFC.

Statutory auditors of the NBFCs having NoF below INR20million would need to submit a certi cate at the end ofeach of the two nancial years as given above certifyingcompliance to the revised levels.

Deposit acceptanceIn order to harmonise the deposit acceptance regulations

across all deposit taking NBFCs (NBFC-D) and to move overto a regiment of only credit rated NBFCs-D accessing publicdeposits, the following changes have been introduced:

Particulars Existing depositacceptance limits

Revised limits

Unrated AssetFinance Company

1.5 times of NOFor INR100 million,whichever is lower

To get themselvesrated by 31 March2016, failingwhich they renewor accept freshdeposits*

Rated Asset Finance

Company

4 times of NOF 1.5 times of NOF**

Source: KPMG in India analysis

*until rating is obtained or rating obtained is of sub-investment grade, existingdeposits can only be renewed on maturity and no fresh deposits can be raised.

**Companies holding public deposits in excess of the revised limits would notbe allowed to raise fresh deposits or renew existing deposits until they conformto the revised limits, the existing deposits can run off till maturity.

Based on the data available with the RBI, most ‘Asset FinanceCompanies’ are already in compliance with the revised limitsand very few NBFCs have deposits in excess of 1.5 times ofthe NOF. As the excess is not expected to be not substantial,therefore, the RBI does not expect this harmonisation

measure to be disruptive.

Threshold for systemic signi cance rede nedThe threshold for de ning systemic signi cance has beenrevised in the light of the overall increase in the growth ofthe NBFC sector. The framework has revised the asset sizethreshold as follows:

NBFC groups Present asset sizethreshold

Revised asset sizethreshold*

Non-deposit takingNBFCs (NBFCs-ND)

Less than INR1,000million

Less than INR5,000million

Non-deposit takingsystemicallyimportant NBFCs(NBFCs-ND-SI)

INR1,000 millionand above

INR5,000 millionand above

*based on last audited balance sheet


Where NBFCs are part of a corporate group or are oated bya common set of promoters, those NBFCs will not be viewedon a standalone basis. The total assets of NBFCs in a groupincluding NBFCs - D, if any, will be aggregated to determineif such consolidation falls within the asset sizes of the twocategories mentioned in the above table. Regulations asapplicable to the above two categories equally apply to eachof the NBFC-ND within the group. Statutory auditors wouldbe required to certify the asset size of all the NBFCs in thegroup.

The term ‘group’ will have the same meaning as containedin accounting standards (AS). ‘Companies in the group’ shall

mean an arrangement involving two or more entities relatedto each other through any of the following relationships:

• subsidiary, parent, joint venture, associate (as de ned inrelevant AS)

• promoters, promotee (as provided in the SEBI Regulations)

• for listed companies, a related party (as per AS 18, RelatedParty Disclosures ), common brand name, and investmentin equity shares of 20 per cent and above.

Prudential normsThe framework provides that systemic risks posed by the

NBFCs functioning exclusively out of their own funds andNBFCs accessing public funds can not be equated and hence,can not be subjected to the same level of regulation. As aresult, enhanced prudential regulations viz. Fair PracticesCode (FPC), Know Your Customer (KYC) norms shouldbe made applicable to NBFCs wherever public funds areaccepted and conduct of business regulations will be madeapplicable wherever customer interface is involved.



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Asset classi cationThe framework has harmonised the asset classi cation criteria norms in respect of NBFC-ND-SI and NBFC – D, and havealigned it in a phased manner with that of banks as given below:

Classication Existing requirements Revised requirements

Non-performing asset(NPA) lease rentals and hirepurchase assets

NPA other than lease rentalsand hire purchase assets

Overdue for 12 monthsor more

Overdue for 6 months ormore

– Overdue for 9 months for FY ending 31 March 2016 – Overdue for 6 months for FY ending31 March 2017

– Overdue for 3 months for FY ending 31 March 2018 and thereafter

– Overdue for 5 months for FY ending 31 March 2016 – Overdue for 4 months for FY ending 31 March 2017

– Overdue for 3 months for FY ending 31 March 2018 and thereafter

Sub-standard loans/hirepurchase assets/leasedassets

NPA for 18 months ormore

– NPA for a period not exceeding 16 months for FY ending 31 March 2016 – NPA for a period not exceeding 14 months for FY ending 31 March 2017

– NPA for a period not exceeding 12 months for FY ending 31 March 2018and thereafter

Doubtful loans/hire purchaseassets/ leased assets

Sub-standard assets for 18months or more

– Sub-standard asset for period exceeding 16 months for FY ending 31March 2016

– Sub-standard asset for period exceeding 14 months for FY ending 31March 2017

– Sub-standard asset for 12 months for period exceeding FY ending 31March 2018 and thereafter

The RBI has also revised the maintenance of capital to risk weighted assets ratio, compliance with credit concentration normsand Tier 1 capital requirements. In this regard, the framework prescribes as under:



Note: The term public funds has been dened to include funds raised directly or indirectly through public deposits, commercial papers, debentures, inter-corporatedeposits and bank nance but, excludes funds raised by issue of instruments compulsorily convertible into equity shares within a period of ve years from the dateof issue.

* Exempted from the requirement of maintaining capital to risk weighted assets ratio and complying with credit concentration norms and should maintain aleverage ratio (i.e. total outside liabilities/owned funds) of seven.

** Tier 1 capital should be increased in a phased manner as follows:

– 8.5 per cent by the end of March 2016 – 10 per cent by the end of March 2017


For the existing loans, a one-time adjustment of the repayment schedule which should not be a restructuring would bepermitted under the framework.


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IRDA (Insurance Brokers) Regulations, 2013– certain clari cationsThe Insurance Regulatory and Development Authority (IRDA)has clari ed that the net worth of any insurance broker shouldbe calculated as speci ed in Section 2(57) of the CompaniesAct, 2013 and thus, should not be calculated by any othermethod. Further, each component of the net worth should

be mentioned separately while furnishing the net worthcerti cate.

As regards appointment of statutory auditors for nancialyear 2015-16 or thereafter, the insurance brokers have beenadvised to ensure that the auditors should be retained for amaximum period of ve years.

[Source: IRDA/BRK/MISC/CIR/240/10/2014 and IRDA/BRK/MISC/

CIR/241/10/2014 dated 30 October 2014]

Penalty for non-compliance with CorporateSocial Responsibility (CSR) provisions of

the Companies Act, 2013The Minister of Corporate Affairs, Mr. Arun Jaitley, inresponse to a question raised in the Rajya Sabha said thatpenalty provisions under Section 134(8) of the CompaniesAct, 2013 shall apply in case of non-compliance of provisions

relating to CSR as per Section 135 of the Companies Act,2013.

Sction 134(8) of the Companies Act, 2013 states that ‘if acompany contravenes the provisions of this section, thecompany shall be punishable with ne which shall not be lessthan fty thousand rupees but which may extend to twenty- ve lakh rupees and every of cer of the company who is indefault shall be punishable with imprisonment for a termwhich may extend to three years or with ne which shall notbe less than fty thousand rupees but which may extend tove lakh rupees, or with both’.

[Press Information Bureau, Government of India, Ministry of Corporate Affairsdated 9 December 2013]

Information regarding guidance note on‘Audit of Internal Financial Controls OverFinancial Reporting’The Institute of Chartered Accountants of India (ICAI) haswithdrawn its recently issued guidance note on ‘Audit of

Internal Financial Controls Over Financial Reporting’. It isunder revision and the revised versionis expected to beavailable in due course.

[Source: ICAI’s announcement dated 12 December 2014]

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Framework for Revitalising DistressedAssets in the Economy – Non-cooperativeborrowersIn 2014, the Reserve Bank of India (RBI) had released‘Framework for Revitalising Distressed Assets in the

Economy’ (the framework). The framework had laid downguidelines for early recognition of nancial distress, takingprompt steps for resolution, and thereby attempting to ensurefair recovery for lending institutions. It had also includedspeci c prudential measures and reporting requirements inrespect of Non-Cooperative Borrowers (NCBs).

The RBI has now changed the de nition of NCBs and alsoadvised banks on measures to be taken in classifying/ declassifying a borrower as NCB and reporting information onsuch borrowers to the Central Repository of Information onLarge Credits (CRILC). The de nition of NCBs now includesa borrower who defaults in timely payment of dues while

having the ability to pay and who is in effect, a defaulter whodeliberately stonewalls legitimate efforts of the lenders torecover their dues. The measures suggested to the banks inthis regard include:

a. The borrowers should be classi ed as NCBs if theiraggregate borrowing (fund-based and non-fund basedtaken together) from the concerned bank or nancialinstitution (FI) is more than INR50 million

b. In case of a company, a NCB will also include, besidesthe company, its promoters and directors (excludingindependent directors and directors nominated by thegovernment and the lending institutions)

c. The banks are expected to put a transparent mechanism inplace to classify borrowers as a NCB. The decisions aboutsuch classi cation should be entrusted to a Committeeof higher functionaries headed by an Executive Directorand consisting of two other senior of cers of the rank ofGeneral Managers/Deputy General Managers as decidedby the Board of the concerned bank/FI.

d. It is clari ed that a single or isolated instance should not bethe basis for such classi cation.

e. If the Committee concludes that the borrower is non-cooperative, it shall issue a Show Cause Notice to theconcerned borrower (and the promoter/whole-timedirectors in case of companies).

f. After considering the submissions of the borrower, theCommittee should issue an order classifying the borroweras NCB along with reasons for the same. The borrowershould be given an opportunity of being heard if theCommittee feels such an opportunity is necessary.

g. The order of the Committee should be reviewed byanother Committee headed by the Chairman/CEO andManaging Director and in addition consisting of twoindependent directors of the Bank/FI. Only if the order is

con rmed as reviewed, the nal order should be issued

h. Banks/FIs will be required to report such informationregarding their NCBs to CRILC through their quarterlysubmissions.

i. The status of NCBs should be reviewed by the Boardsof banks/FIs on a half-yearly basis. If based on the creditdiscipline and cooperative dealings, a NCB is decided notto be classi ed as such, then such information should beseparately reported under CRILC with adequate reasoning/ rationale for such declassi cation.

j. It is clari ed that any fresh exposure to a NCB will entailgreater risk and thus, banks/FIs will be required to makehigher provisioning as applicable to sub-standard assetsin respect of new loans sanctioned to NCBs. Such higherprovisioning will also be required for any new loanssanctioned to any other company that has on its Boardof Directors any of the whole time directors/promotersof a non-cooperative borrowing company or any rm inwhich such a NCBs is in charge of management of theaffairs. However, for the purpose of asset classi cation andincome recognition, the new loans would be treated asstandard assets.

[Source: RBI/2014-15/362 dated 22 December 2014]

SEBI’s discussion paper - Re-classi cationof Promoters as PublicThe Securities and Exchange Board of India (SEBI) hasreleased a discussion paper (DP) on ‘Re-classi cation ofPromoters as Public’.

The DP aims to lend objectivity to the process ofreclassi cation of promoters of listed companies as publicshareholders under various circumstances. This is owingto the fact that the present regulatory framework does not

prescribe criteria for such re-classi cation.The DP proposes the following

kpmg accounting and auditing update january 2015

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