GROUP - I PAPER - 1 ACCOUNTING V1 CHAPTER 2

2 F S C INANCIAL TATEMENTS OF OMPANIES Unit – 1: Preparation of Financial Statements Learning Objectives After studying this unit, you will be able to: ♦ Know how to maintain books of account of a company. ♦ Learn about statutory books of a company. ♦ Prepare and present the final account of a company as per revised Schedule VI of the Companies Act, 1956. ♦ Calculate managerial remuneration of managers in a company. ♦ Appreciate the term divisible profit. 1.1 Meaning of Company (a) The word ‘company’ derived from the Latin word ‘com’ i.e. with or together and ‘panis’ i.e. Bread. Originally the word referred to an association of persons or merchant men discussing matters and taking food together. (b) In short it refers to a corporate body having perpetual succession and a common seal. (c) As per section 3 of the Companies Act meaning of following expressions has been defined. (i) ‘Company’, (ii) ‘Existing Company’, (iii) ‘Private company’ (iv) ‘Public company’. (d) Apart from these categories, the different kinds of company are (i) Holding company, (ii) Subsidiary company, (iii) Foreign company and © The Institute of Chartered Accountants of India Accounting (iv) Companies which are limited by guarantee (v) Unlimited company. All these have already been discussed in the Common Proficiency Test Study Material. For their understanding, students can refer it. 1.2 Maintenance of Books of Account 1.2.1 Maintenance at Registered Office Section 209 of the Companies Act states that books of account shall be maintained at the company’s registered office unless the Board of Directors decide to keep them at another place in India. 1.2.2 Maintenance at Place Other than Registered Office It is a duty of the company to inform the Registrar of Companies within seven days of the decision in case the Board of Directors decides to maintain books at the place other than the registered office. 1.2.3 In Case of Branch Office Where the company has a branch office, whether in or outside India the proper books of accounts relating to the transactions effected at the branch office are kept at that office and proper summarized returns made up to date at intervals of not more than three months are prepared and sent within reasonable time to head office 1.2.4 Requisites of Proper Books of Accounts Every company is required to keep proper books of account showing (i) Al monies received and spent and the details thereof, (ii) Sales and purchases of goods, and (iii) Assets and liabilities. (iv) A company engaged in production, processing, manufacturing or mining activities has also to maintain, if required by the Central Government, cost accounting records i.e., particulars relating to utilization of material, labour and other items of costs. 1.2.5 Proper Books not Deemed to be Kept (a) If such books are not kept as are necessary to give a true and fair view of the state of affairs of the company or branch office, as the case may be, and to explain its transactions. (b) Also if such books are not kept on accrual basis and according to system of double entry book keeping. 2.2 © The Institute of Chartered Accountants of India Financial Statements of Companies 1.3 Statutory Books The following statutory books are required to be maintained by a company under different sections of the Companies Act: ♦ Register of Investments of the company not held in its own name (Section 49). ♦ Register of Mortgages and Charges (Section 143). ♦ Register of Members and Index (Sections 150 & 151). ♦ Register of Debenture-holders and Index (Section 152). ♦ Foreign Register of Members and of Debenture-holders and their duplicates (Sections 157 and 158). ♦ Minute Books (Section 193). ♦ Register of Contracts, Companies, and firms in which directors are interested (Section 301). ♦ Register of directors, managing director, manager and secretary (Section 303). ♦ Register of Directors’ share-holding (Section 307). ♦ Register of investments in securities of any other body corporate, loans made, guarantees given or securities provided to any body corporate. In addition, a company usually maintains a number of statistical books to keep a record of its transactions which have resulted either in the payment of money to it or constitute the basis on which certain payments have been made by it. ♦ Registers and documents relating to the issue of shares are: (i) Share Application and Allotment Book; (ii) Share Call Book; and (iii) Certificate Book. (iv) Register of Members (v) Share Transfer Book (vi) Dividend Register 1.4 Annual Return (1) Section Applicable Section 149 of the Companies Act, (2) Applicability Every company having a share capital, (3) Number of Days 60 days from the day of which each of the annual general meeting is held 2.3 © The Institute of Chartered Accountants of India Accounting (4) Documents to be filed Prepare and file with the Registrar the annual return containing the particulars specified in Part I of Schedule V. (5) Form Applicable The annual return shall be in the Form set out of Part II of Schedule V or near thereto as circumstances meet. 1.5 Final Accounts (1) Company carrying on business for profit Under Section 210 of the Companies Act, at the annual general meeting of a company, the Board of Directors of the company shall lay before the company: (a) a balance sheet as at the end of the period; (b) a profit & loss account for that period. (2) Company not carrying on business for profit Income and expenditure account shall be laid before the company at its annual general meeting instead of profit and loss account. Requisites of Balance Sheet And Profit And Loss Account It shall give a true and fair view of the state of affairs of the company as at the end of the financial year Provisions Applicable (1) Specific Act is Applicable For instance any (a) insurance company (b) banking company or (c) any company engaged in generation or supply of electricity∗ or (d) any other class of company for which a Form of balance sheet or Profit and loss account has been prescribed under the Act governing such class of company Respective Acts may be applicable (2) No Specific Act is applicable Balance Sheet as per Form set out in Part I of Schedule VI, or as near thereto as circumstances admit. ∗ The Electricity Act, 2003 does not specify any format for presentation of Financial Statements. Therefore, Schedule VI of the Companies Act, 1956 is followed by Electricity Companies in preparation of their financial statements. 2.4 © The Institute of Chartered Accountants of India Financial Statements of Companies Profit and Loss Account as per Part II of Schedule VI. Points to be kept in mind while preparing final accounts: ♦ Requirements of Schedule VI (Revised in 2011); ♦ Other statutory requirements; ♦ Accounting Standards issued by the Institute of Chartered Accountants of India on different accounting matters and notified by the Central Government (AS 1 to AS 32); ♦ Statements and Guidance Notes issued by the Institute of Chartered Accountants of India; which are necessary for understanding the accounting treatment / valuation / disclosure suggested by the ICAI. Compliance with Accounting Standards As per the Companies Act, it is mandatory to comply with accounting standards as per Sub- sections 3A, 3B and 3C in Section 211. These are : ‘(3A) Every profit and loss account and balance sheet of the company shall comply with the accounting standards. (3B) Where the profit and loss account and the balance sheet of the company do not comply with the accounting standards, such companies shall disclose in its profit and loss account and balance sheet, the following, namely : (a) the deviation from the accounting standards; (b) the reasons for such deviation; and (c) the financial effect, if any, arising due to such deviation. (3C) For the purposes of this section, the expression “accounting standards” means the standards of accounting recommended by the Institute of Chartered Accountants of India constituted under the Chartered Accountants Act, 1949, as may be prescribed by the Central Government in consultation with the National Advisory Committee on Accounting Standards established under Sub-section (1) of Section 210A. 1.5.1 Revised Schedule VI The Central Government, in exercise of the powers under section 641(1) of the Companies Act, 1956 has replaced the existing Schedule VI with the revised Schedule VI on the 28th February, 2011 pertaining to the preparation of Balance Sheet and Profit and Loss Account under the Companies Act, 1956. This revised Schedule VI has been framed as per the existing non- converged Indian Accounting Standards notified under the Companies (Accounting Standards), Rules, 2006. The Revised Schedule VI shall come into force for the Balance Sheet and Profit and Loss Account to be prepared for the financial year commencing on or after 1.4.2011. Given below is the revised Schedule VI as notified by the Central Government: 2.5 © The Institute of Chartered Accountants of India Accounting SCHEDULE VI (See section 211) General Instructions for preparation of Balance Sheet and Statement of Profit and Loss of A Company in addition to the Notes incorporated above the heading of Balance Sheet under General Instructions 1. Where compliance with the requirements of the Act including Accounting Standards as applicable to the companies require any change in treatment or disclosure including addition, amendment, substitution or deletion in the head/sub-head or any changes inter se, in the financial statements or statements forming part thereof, the same shall be made and the requirements of the Schedule VI shall stand modified accordingly. 2. The disclosure requirements specified in Part I and Part II of this Schedule are in addition to and not in substitution of the disclosure requirements specified in the Accounting Standards prescribed under the Companies Act, 1956. Additional disclosures specified in the Accounting Standards shall be made in the notes to accounts or by way of additional statement unless required to be disclosed on the face of the Financial Statements. Similarly, all other disclosures as required by the Companies Act shall be made in the notes to accounts in addition to the requirements set out in this Schedule. 3. Notes to accounts shall contain information in addition to that presented in the Financial Statements and shall provide where required (a) narrative descriptions or disaggregations of items recognized in those statements and (b) information about items that do not qualify for recognition in those statements. Each item on the face of the Balance Sheet and Statement of Profit and Loss shall be cross-referenced to any related information in the notes to accounts. In preparing the Financial Statements including the notes to accounts, a balance shall be maintained between providing excessive detail that may not assist users of financial statements and not providing important information as a result of too much aggregation. 4. Depending upon the turnover of the company, the figures appearing in the Financial Statements may be rounded off as below: Turnover Rounding off (i) less than one hundred crore rupees to the nearest hundreds, thousands, lakhs or millions, or decimals thereof (ii) one hundred crore rupees or more to the nearest, lakhs, millions or crores, or decimals thereof. Once a unit of measurement is used, it should be used uniformly in the Financial Statements. 5. Except in the case of the first Financial Statements laid before the Company (after its incorporation) the corresponding amounts (comparatives) for the immediately preceding 2.6 © The Institute of Chartered Accountants of India Financial Statements of Companies reporting period for all items shown in the Financial Statements including notes shall also be given. 6. For the purpose of this Schedule, the terms used herein shall be as per the applicable Accounting Standards. Notes This part of Schedule sets out the minimum requirements for disclosure on the face of the Balance Sheet, and the Statement of Profit and Loss (hereinafter referred to as “Financial Statements” for the purpose of this Schedule) and Notes. Line items, sub-line items and sub-totals shall be presented as an addition or substitution on the face of the Financial Statements when such presentation is relevant to an understanding of the company’s financial position or performance or to cater to industry/sector-specific disclosure requirements or when required for compliance with the amendments to the Companies Act or under the Accounting Standards. PART I – Form of BALANCE SHEET Name of the Company……………………. Balance Sheet as at ……………………… (Rupees in…………) Figures Figures as at the as at the end of end of current previous Notes reporting reporting Particulars No. period period (3) (4) (1) (2) EQUITY AND LIABILITIES 1. Shareholders' funds a Share capital 1 b Reserves and Surplus 2 c Money received against share warrants Share application money pending 2. allotment 3. Non-current liabilities a Long-term borrowings 3 b Deferred tax liabilities (Net) c Other long term liabilities 4 d Long-term provisions 5 4. Current liabilities a Short-term borrowings 6 2.7 © The Institute of Chartered Accountants of India Accounting b Trade Payables c Other current liabilities 7 d Short-term provisions 8 Total ASSETS 1 Non-current assets a Fixed assets i Tangible assets 9 ii Intangible assets 10 iii Capital Work-in-progress iv Intangible assets under development b Non-current investments 11 c Deferred tax assets (Net) d Long-term loans and advances e Other non-current assets 2 Current assets a Current investments b Inventories 12 c Trade receivables 13 d Cash and cash equivalents e Short-term loans and advances f Other current assets Total Notes GENERAL INSTRUCTIONS FOR PREPARATION OF BALANCE SHEET 1. An asset shall be classified as current when it satisfies any of the following criteria: (a) it is expected to be realized in, or is intended for sale or consumption in, the company’s normal operating cycle; (b) it is held primarily for the purpose of being traded; (c) it is expected to be realized within twelve months after the reporting date; or (d) it is cash or cash equivalent unless it is restricted from being exchanged or used to settle a liability for at least twelve months after the reporting date. All other assets shall be classified as non-current. 2.8 © The Institute of Chartered Accountants of India Financial Statements of Companies 2. An operating cycle is the time between the acquisition of assets for processing and their realization in cash or cash equivalents. Where the normal operating cycle cannot be identified, it is assumed to have a duration of 12 months. 3. A liability shall be classified as current when it satisfies any of the following criteria: (a) it is expected to be settled in the company’s normal operating cycle; (b) it is held primarily for the purpose of being traded; (c) it is due to be settled within twelve months after the reporting date; or (d) the company does not have an unconditional right to defer settlement of the liability for at least twelve months after the reporting date. Terms of a liability that could, at the option of the counterparty, result in its settlement by the issue of equity instruments do not affect its classification. All other liabilities shall be classified as non-current. 4. A receivable shall be classified as a ‘trade receivable’ if it is in respect of the amount due on account of goods sold or services rendered in the normal course of business. 5. A payable shall be classified as a ‘trade payable’ if it is in respect of the amount due on account of goods purchased or services received in the normal course of business. 6. A company shall disclose the following in the notes to accounts: A. Share Capital for each class of share capital (different classes of preference shares to be treated separately): (a) the number and amount of shares authorized; (b) the number of shares issued, subscribed and fully paid, and subscribed but not fully paid; (c) par value per share; (d) a reconciliation of the number of shares outstanding at the beginning and at the end of the reporting period; (e) the rights, preferences and restrictions attaching to each class of shares including restrictions on the distribution of dividends and the repayment of capital; (f) shares in respect of each class in the company held by its holding company or its ultimate holding company including shares held by or by subsidiaries or associates of the holding company or the ultimate holding company in aggregate; (g) shares in the company held by each shareholder holding more than 5 percent shares specifying the number of shares held; (h) shares reserved for issue under options and contracts/commitments for the sale of shares/disinvestment, including the terms and amounts; 2.9 © The Institute of Chartered Accountants of India Accounting (i) For the period of five years immediately preceding the date as at which the Balance Sheet is prepared: (cid:131) Aggregate number and class of shares allotted as fully paid up pursuant to contract(s) without payment being received in cash. (cid:131) Aggregate number and class of shares allotted as fully paid up by way of bonus shares. (cid:131) Aggregate number and class of shares bought back. (i) Terms of any securities convertible into equity/preference shares issued along with the earliest date of conversion in descending order starting from the farthest such date. (k) Calls unpaid (showing aggregate value of calls unpaid by directors and officers) (l) Forfeited shares (amount originally paid up) B. Reserves and Surplus (i) Reserves and Surplus shall be classified as: (a) Capital Reserves ; (b) Capital Redemption Reserve; (c) Securities Premium Reserve; (d) Debenture Redemption Reserve; (e) Revaluation Reserve; (f) Share Options Outstanding Account; (g) Other Reserves – (specify the nature and purpose of each reserve and the amount in respect thereof); (h) Surplus i.e. balance in Statement of Profit & Loss disclosing allocations and appropriations such as dividend, bonus shares and transfer to/from reserves etc. (Additions and deductions since last balance sheet to be shown under each of the specified heads) (ii) A reserve specifically represented by earmarked investments shall be termed as a ‘fund’. (iii) Debit balance of statement of profit and loss shall be shown as a negative figure under the head ‘Surplus’. Similarly, the balance of ‘Reserves and Surplus’, after adjusting negative balance of surplus, if any, shall be shown under the head ‘Reserves and Surplus’ even if the resulting figure is in the negative. C. Long-Term Borrowings (i) Long-term borrowings shall be classified as: (a) Bonds/debentures. 2.10 © The Institute of Chartered Accountants of India Financial Statements of Companies (b) Term loans • From banks. • From other parties (c) Deferred payment liabilities. (d) Deposits. (e) Loans and advances from related parties. (f) Long term maturities of finance lease obligations (g) Other loans and advances (specify nature). (ii) Borrowings shall further be sub-classified as secured and unsecured. Nature of security shall be specified separately in each case. (iii) Where loans have been guaranteed by directors or others, the aggregate amount of such loans under each head shall be disclosed. (iv) Bonds/debentures (along with the rate of interest and particulars of redemption or conversion, as the case may be) shall be stated in descending order of maturity or conversion, starting from farthest redemption or conversion date, as the case may be. Where bonds/debentures are redeemable by installments, the date of maturity for this purpose must be reckoned as the date on which the first installment becomes due. (v) Particulars of any redeemed bonds/ debentures which the company has power to reissue shall be disclosed. (vi) Terms of repayment of term loans and other loans shall be stated. (vii) Period and amount of continuing default as on the balance sheet date in repayment of loans and interest, shall be specified separately in each case. D. Other Long Term Liabilities Other Long term Liabilities shall be classified as: (a) Trade payables (b) Others E. Long-term provisions The amounts shall be classified as: (a) Provision for employee benefits. (b) Others (specify nature). F. Short-term borrowings (i) Short-term borrowings shall be classified as: (a) Loans repayable on demand 2.11 © The Institute of Chartered Accountants of India Accounting (cid:131) From banks (cid:131) From other parties (b) Loans and advances from related parties. (c) Deposits. (d) Other loans and advances (specify nature). (ii) Borrowings shall further be sub-classified as secured and unsecured. Nature of security shall be specified separately in each case. (iii) Where loans have been guaranteed by directors or others, the aggregate amount of such loans under each head shall be disclosed. (iv) Period and amount of default as on the balance sheet date in repayment of loans and interest shall be specified separately in each case. G. Other current liabilities The amounts shall be classified as: (a) Current maturities of long-term debt; (b) Current maturities of finance lease obligations; (c) Interest accrued but not due on borrowings; (d) Interest accrued and due on borrowings; (e) Income received in advance; (f) Unpaid dividends (g) Application money received for allotment of securities and due for refund and interest accrued thereon. Share application money includes advances towards allotment of share capital. The terms and conditions including the number of shares proposed to be issued, the amount of premium ,if any, and the period before which shares shall be allotted shall be disclosed. It shall also be disclosed whether the company has sufficient authorized capital to cover the share capital amount resulting from allotment of shares out of such share application money. Further, the period for which the share application money has been pending beyond the period for allotment as mentioned in the document inviting application for shares along with the reason for such share application money being pending shall be disclosed. Share application money not exceeding the issued capital and to the extent not refundable shall be shown under the head Equity and share application money to the extent refundable i.e., the amount in excess of subscription or in case the requirements of minimum subscription are not met, shall be separately shown under ‘Other current liabilities’ (h) Unpaid matured deposits and interest accrued thereon (i) Unpaid matured debentures and interest accrued thereon 2.12 © The Institute of Chartered Accountants of India Financial Statements of Companies (j) Other payables (specify nature); H. Short-term provisions The amounts shall be classified as: (a) Provision for employee benefits. (b) Others (specify nature). I. Tangible assets (i) Classification shall be given as: (a) Land. (b) Buildings. (c) Plant and Equipment. (d) Furniture and Fixtures. (e) Vehicles. (f) Office equipment. (g) Others (specify nature). (ii) Assets under lease shall be separately specified under each class of asset. (iii) A reconciliation of the gross and net carrying amounts of each class of assets at the beginning and end of the reporting period showing additions, disposals, acquisitions through business combinations and other adjustments and the related depreciation and impairment losses/reversals shall be disclosed separately. (iv) Where sums have been written off on a reduction of capital or revaluation of assets or where sums have been added on revaluation of assets, every balance sheet subsequent to date of such write-off, or addition shall show the reduced or increased figures as applicable and shall by way of a note also show the amount of the reduction or increase as applicable together with the date thereof for the first five years subsequent to the date of such reduction or increase. J. Intangible assets (i) Classification shall be given as: (a) Goodwill. (b) Brands /trademarks. (c) Computer software. (d) Mastheads and publishing titles. (e) Mining rights. 2.13 © The Institute of Chartered Accountants of India Accounting (f) Copyrights, and patents and other intellectual property rights, services and operating rights. (g) Recipes, formulae, models, designs and prototypes. (h) Licenses and franchise. (i) Others (specify nature). (ii) A reconciliation of the gross and net carrying amounts of each class of assets at the beginning and end of the reporting period showing additions, disposals, acquisitions through business combinations and other adjustments and the related amortization and impairment losses/reversals shall be disclosed separately. (iii) Where sums have been written off on a reduction of capital or revaluation of assets or where sums have been added on revaluation of assets, every balance sheet subsequent to date of such write-off, or addition shall show the reduced or increased figures as applicable and shall by way of a note also show the amount of the reduction or increase as applicable together with the date thereof for the first five years subsequent to the date of such reduction or increase. K. Non-current investments (i) Non-current investments shall be classified as trade investments and other investments and further classified as: (a) Investment property; (b) Investments in Equity Instruments; (c) Investments in preference shares (d) Investments in Government or trust securities; (e) Investments in debentures or bonds; (f) Investments in Mutual Funds; (g) Investments in partnership firms (h) Other non-current investments (specify nature) Under each classification, details shall be given of names of the bodies corporate (indicating separately whether such bodies are (i) subsidiaries, (ii) associates, (iii) joint ventures, or (iv) controlled special purpose entities) in whom investments have been made and the nature and extent of the investment so made in each such body corporate (showing separately investments which are partly-paid). In regard to investments in the capital of partnership firms, the names of the firms (with the names of all their partners, total capital and the shares of each partner) shall be given. 2.14 © The Institute of Chartered Accountants of India Financial Statements of Companies (ii) Investments carried at other than at cost should be separately stated specifying the basis for valuation thereof. (iii) The following shall also be disclosed: (a) Aggregate amount of quoted investments and market value thereof; (b) Aggregate amount of unquoted investments; (c) Aggregate provision for diminution in value of investments L. Long-term loans and advances (i) Long-term loans and advances shall be classified as: (a) Capital Advances; (b) Security Deposits; (c) Loans and advances to related parties (giving details thereof); (d) Other loans and advances (specify nature). (ii) The above shall also be separately sub-classified as: (a) Secured, considered good; (b) Unsecured, considered good; (c) Doubtful. (iii) Allowance for bad and doubtful loans and advances shall be disclosed under the relevant heads separately. (iv) Loans and advances due by directors or other officers of the company or any of them either severally or jointly with any other persons or amounts due by firms or private companies respectively in which any director is a partner or a director or a member should be separately stated. M. Other non-current assets Other non-current assets shall be classified as: (i) Long Term Trade Receivables (including trade receivables on deferred credit terms); (ii) Others (specify nature) (iii) Long term Trade Receivables, shall be sub-classified as: (i) (a) Secured, considered good; (b) Unsecured considered good; (c) Doubtful (ii) Allowance for bad and doubtful debts shall be disclosed under the relevant heads separately. 2.15 © The Institute of Chartered Accountants of India Accounting (iii) Debts due by directors or other officers of the company or any of them either severally or jointly with any other person or debts due by firms or private companies respectively in which any director is a partner or a director or a member should be separately stated. N. Current Investments (i) Current investments shall be classified as: (a) Investments in Equity Instruments; (b) Investment in Preference Shares (c) Investments in government or trust securities; (d) Investments in debentures or bonds; (e) Investments in Mutual Funds; (f) Investments in partnership firms (g) Other investments (specify nature). Under each classification, details shall be given of names of the bodies corporate (indicating separately whether such bodies are (i) subsidiaries, (ii) associates, (iii) joint ventures, or (iv) controlled special purpose entities) in whom investments have been made and the nature and extent of the investment so made in each such body corporate (showing separately investments which are partly-paid). In regard to investments in the capital of partnership firms, the names of the firms (with the names of all their partners, total capital and the shares of each partner) shall be given. (ii) The following shall also be disclosed: (a) The basis of valuation of individual investments (b) Aggregate amount of quoted investments and market value thereof; (c) Aggregate amount of unquoted investments; (d) Aggregate provision made for diminution in value of investments. O. Inventories (i) Inventories shall be classified as: (a) Raw materials; (b) Work-in-progress; (c) Finished goods; (d) Stock-in-trade (in respect of goods acquired for trading); (e) Stores and spares; (f) Loose tools; (g) Others (specify nature). 2.16 © The Institute of Chartered Accountants of India Financial Statements of Companies (ii) Goods-in-transit shall be disclosed under the relevant sub-head of inventories. (iii) Mode of valuation shall be stated. P. Trade Receivables (i) Aggregate amount of Trade Receivables outstanding for a period exceeding six months from the Date they are due for payment should be separately stated. (ii) Trade receivables shall be sub-classified as: (a) Secured, considered good; (b) Unsecured considered good; (c) Doubtful. (iii) Allowance for bad and doubtful debts shall be disclosed under the relevant heads separately. (iv) Debts due by directors or other officers of the company or any of them either severally or jointly with any other person or debts due by firms or private companies respectively in which any director is a partner or a director or a member should be separately stated. Q. Cash and cash equivalents (i) Cash and cash equivalents shall be classified as: (a) Balances with banks; (b) Cheques, drafts on hand; (c) Cash on hand; (d) Others (specify nature). (ii) Earmarked balances with banks (for example, for unpaid dividend) shall be separately stated. (iii) Balances with banks to the extent held as margin money or security against the borrowings, guarantees, other commitments shall be disclosed separately. (iv) Repatriation restrictions, if any, in respect of cash and bank balances shall be separately stated. (v) Bank deposits with more than 12 months maturity shall be disclosed separately. R. Short-term loans and advances (i) Short-term loans and advances shall be classified as: (a) Loans and advances to related parties (giving details thereof); (b) Others (specify nature). (ii) The above shall also be sub-classified as: (a) Secured, considered good; 2.17 © The Institute of Chartered Accountants of India Accounting (b) Unsecured, considered good; (c) Doubtful. (iii) Allowance for bad and doubtful loans and advances shall be disclosed under the relevant heads separately. (iv) Loans and advances due by directors or other officers of the company or any of them either severally or jointly with any other person or amounts due by firms or private companies respectively in which any director is a partner or a director or a member shall be separately stated. S. Other current assets (specify nature). This is an all-inclusive heading, which incorporates current assets that do not fit into any other asset categories. T. Contingent liabilities and commitments (to the extent not provided for) (i) Contingent liabilities shall be classified as: (a) Claims against the company not acknowledged as debt; (b) Guarantees; (c) Other money for which the company is contingently liable (ii) Commitments shall be classified as: (a) Estimated amount of contracts remaining to be executed on capital account and not provided for; (b) Uncalled liability on shares and other investments partly paid (c) Other commitments (specify nature). U. The amount of dividends proposed to be distributed to equity and preference shareholders for the period and the related amount per share shall be disclosed separately. Arrears of fixed cumulative dividends on preference shares shall also be disclosed separately. V. Where in respect of an issue of securities made for a specific purpose, the whole or part of the amount has not been used for the specific purpose at the balance sheet date, there shall be indicated by way of note how such unutilized amounts have been used or invested. W. If, in the opinion of the Board, any of the assets other than fixed assets and non-current investments do not have a value on realization in the ordinary course of business at least equal to the amount at which they are stated, the fact that the Board is of that opinion, shall be stated. 2.18 © The Institute of Chartered Accountants of India Financial Statements of Companies PART II – Form of STATEMENT OF PROFIT AND LOSS Name of the Company……………………. Profit and loss statement for the year ended ……………………… (Rupees in…………) Particulars Note Figures for the Figures for the No. current previous reporting period reporting period I. Revenue from operations xxx xxx II. Other income xxx xxx III. Total Revenue (I + II) xxx xxx IV. Expenses: xxx xxx Cost of materials consumed xxx xxx Purchases of Stock-in-Trade xxx xxx Changes in inventories of finished goods work-in-progress and Stock-in-Trade Employee benefits expense Finance costs Depreciation and amortization expense Other expenses Total expenses xxx xxx V. Profit before exceptional and extraordinary xxx xxx items and tax (III-IV) VI. Exceptional items xxx xxx VII. Profit before extraordinary items and tax (V - xxx xxx VI) VIII. Extraordinary Items xxx xxx IX. Profit before tax (VII- VIII) xxx xxx X Tax expense: (1) Current tax xxx xxx (2) Deferred tax xxx xxx xxx xxx XI Profit (Loss) for the period from continuing xxx Xxx operations (VII-VIII) XII Profit/(loss) from discontinuing operations xxx Xxx XIII Tax expense of discontinuing operations xxx Xxx XIV Profit/(loss) from Discontinuing operations xxx Xxx (after tax) (XII-XIII) 2.19 © The Institute of Chartered Accountants of India Accounting XV Profit (Loss) for the period (XI + XIV) xxx xxx XVI Earnings per equity share: (1) Basic xxx xxx (2) Diluted xxx xxx GENERAL INSTRUCTIONS FOR PREPARATION OF STATEMENT OF PROFIT AND LOSS 1. The provisions of this Part shall apply to the income and expenditure account referred to in sub-section (2) of Section 210 of the Act, in like manner as they apply to a statement of profit and loss. 2. (A) In respect of a company other than a finance company revenue from operations shall disclose separately in the notes revenue from (a) sale of products; (b) sale of services; (c) other operating revenues; Less: (d) Excise duty. (B) In respect of a finance company, revenue from operations shall include revenue from (a) Interest; and (b) Other financial services Revenue under each of the above heads shall be disclosed separately by way of notes to accounts to the extent applicable. 3. Finance Costs Finance costs shall be classified as: (a) Interest expense; (b) Other borrowing costs; (c) Applicable net gain/loss on foreign currency transactions and translation. 4. Other income Other income shall be classified as: (a) Interest Income (in case of a company other than a finance company); (b) Dividend Income; (c) Net gain/loss on sale of investments (d) Other non-operating income (net of expenses directly attributable to such income). 2.20 © The Institute of Chartered Accountants of India Financial Statements of Companies 5. Additional Information A Company shall disclose by way of notes additional information regarding aggregate expenditure and income on the following items:- (i) (a) Employee Benefits Expense [showing separately (i) salaries and wages, (ii) contribution to provident and other funds, (iii) expense on Employee Stock Option Scheme (ESOP) and Employee Stock Purchase Plan (ESPP), (iv) staff welfare expenses]. (b) Depreciation and amortization expense; (c) Any item of income or expenditure which exceeds one per cent of the revenue from operations or Rs.1,00,000, whichever is higher; (d) Interest Income; (e) Interest Expense; (f) Dividend Income; (g) Net gain/ loss on sale of investments; (h) Adjustments to the carrying amount of investments; (i) Net gain or loss on foreign currency transaction and translation (other than considered as finance cost); (j) Payments to the auditor as (a) auditor, (b) for taxation matters, (c) for company law matters, (d) for management services, (e) for other services, (f) for reimbursement of expenses; (k) Details of items of exceptional and extraordinary nature; (l) Prior period items; (ii) (a) In the case of manufacturing companies,- (1) Raw materials under broad heads. (2) goods purchased under broad heads. (b) In the case of trading companies, purchases in respect of goods traded in by the company under broad heads. (c) In the case of companies rendering or supplying services, gross income derived from services rendered or supplied under broad heads. 2.21 © The Institute of Chartered Accountants of India Accounting (d) In the case of a company, which falls under more than one of the categories mentioned in (a), (b) and (c) above, it shall be sufficient compliance with the requirements herein if purchases, sales and consumption of raw material and the gross income from services rendered is shown under broad heads. (e) In the case of other companies, gross income derived under broad heads. (iii) In the case of all concerns having works in progress, works-in-progress under broad heads. (iv) (a) The aggregate, if material, of any amounts set aside or proposed to be set aside, to reserve, but not including provisions made to meet any specific liability, contingency or commitment known to exist at the date as to which the balance-sheet is made up. (b) The aggregate, if material, of any amounts withdrawn from such reserves. (v) (a) The aggregate, if material, of the amounts set aside to provisions made for meeting specific liabilities, contingencies or commitments. (b) The aggregate, if material, of the amounts withdrawn from such provisions, as no longer required. (vi) Expenditure incurred on each of the following items, separately for each item:- (a) Consumption of stores and spare parts. (b) Power and fuel. (c) Rent. (d) Repairs to buildings. (e) Repairs to machinery. (g) Insurance . (h) Rates and taxes, excluding, taxes on income. (i) Miscellaneous expenses, (vii) (a) Dividends from subsidiary companies. (b) Provisions for losses of subsidiary companies. (viii) The profit and loss account shall also contain by way of a note the following information, namely:- (a) Value of imports calculated on C.I.F basis by the company during the financial year in respect of – I. Raw materials; II. Components and spare parts; III. Capital goods; 2.22 © The Institute of Chartered Accountants of India Financial Statements of Companies (b) Expenditure in foreign currency during the financial year on account of royalty, know-how, professional and consultation fees, interest, and other matters; (c) Total value if all imported raw materials, spare parts and components consumed during the financial year and the total value of all indigenous raw materials, spare parts and components similarly consumed and the percentage of each to the total consumption; (d) The amount remitted during the year in foreign currencies on account of dividends with a specific mention of the total number of non-resident shareholders, the total number of shares held by them on which the dividends were due and the year to which the dividends related; (e) Earnings in foreign exchange classified under the following heads, namely:- I. Export of goods calculated on F.O.B. basis; II. Royalty, know-how ,professional and consultation fees; III. Interest and dividend; IV. Other income, indicating the nature thereof Note: Broad heads shall be decided taking into account the concept of materiality and presentation of true and fair view of financial statements,” Illustration 1 You are required to prepare financial statements from the following trial balance of Haria Chemicals Ltd. for the year ended 31st March, 2012. Haria Chemicals Ltd. Trial Balance as at 31st March, 2012 Particulars ` Particulars ` Stock 6,80,000 Equity Shares Furniture 2,00,000 Capital (Shares of ` 10 each) 25,00,000 Discount 40,000 11% Debentures 5,00,000 Loan to Directors 80,000 Bank loans 6,45,000 Advertisement 20,000 Bills payable 1,25,000 Bad debts 35,000 Creditors 1,56,000 Commission 1,20,000 Sales 42,68,000 Purchases 23,19,000 Rent received 46,000 Plant and Machinery 8,60,000 Transfer fees 10,000 Rentals 25,000 Profit & Loss Current account 45,000 account 1,39,000 Cash 8,000 Depreciation 2.23 © The Institute of Chartered Accountants of India Accounting Interest on bank loans 1,16,000 provision : Preliminary expenses 10,000 Machinery 1,46,000 Fixtures 3,00,000 Wages 9,00,000 Consumables 84,000 Freehold land 15,46,000 Tools & Equipments 2,45,000 Goodwill 2,65,000 Debtors 2,87,000 Bills receivable 1,53,000 Dealer aids 21,000 Transit insurance 30,000 Trade expenses 72,000 Distribution freight 54,000 Debenture interest 20,000 85,35,000 85,35,000 Additional information : Closing stock on 31-3-2012: ` 8,23,000. Solution Haria chemicals Ltd. Balance Sheet as at 31st March, 2012 Schedule Rupees as at No. the end of 31st March 2012 (1) (2) (3) Equity and Liabilities (1) Shareholders’ funds : (a) Capital 1 25,00,000 (b) Reserves and Surplus 2 7,50,000 (2) Non Current Liabilities (a) Secured loans Long term borrowings 3 11,45,000 2.24 © The Institute of Chartered Accountants of India Financial Statements of Companies (3) Current Liabilities (a) Trade payables 4 2,81,000 Total 46,76,000 Assets (1) Non current assets Fixed Assets : (a) Tangible assets 5 32,70,000 (2) Current assets (a) Inventories 8,23,000 (b) Trade receivables 2,87,000 (c) Cash and cash equivalents 6 53,000 (d) Short term loans and advances 7 2,33,000 (e) Other current assets 10,000 Total 46,76,000 Note: Other assets represent preliminary expenses not written off Rs. 10,000. Haria Chemicals Ltd. Profit and Loss Account for the year ended 31st March, 2012 Schedule Figures as at No. the end of 31st March 2012 Revenue from operations 42,68,000 Other income 8 56,000 43,24,000 Expenses Cost of materials consumed 9 21,76,000 Manufacturing & other expenses 10 14,01,000 Interest & other financial charges 11 1,36,000 37,13,000 Profit before tax 6,11,000 Provision for tax — 2.25 © The Institute of Chartered Accountants of India Accounting Profit after tax 6,11,000 Balance of profit and loss account brought forward 1,39,000 Balance carried to balance sheet 7,50,000 Notes to Accounts 1. Share capital Rs. Authorised : Equity share capital of Rs. 10 each 25,00,000 Issued and Subscribed : Equity share capital of Rs. 10 each 25,00,000 2. Reserves and Surplus Balance as per last balance sheet 1,39,000 Balance in profit and loss account 6,11,000 7,50,000 3. Long term Borrowings11% Debentures 5,00,000 Bank loans 6,45,000 11,45,000 4 Trade payables Creditors 1,56,000 Bills payable 1,25,000 2,81,000 5. Tangible Assets Gross block Depreciation Net Block Goodwill 2,65,000 2,65,000 Freehold land 15,46,000 15,46,000 Furniture 2,00,000 2,00,000 Fixtures 3,00,000 3,00,000 Plant & Machinery 8,60,000 1,46,000 7,14,000 Tools & Equipment 2,45,000 2,45,000 Total 34,16,000 1,46,000 32,70,000 2.26 © The Institute of Chartered Accountants of India Financial Statements of Companies 6. Cash and cash equivalents Current account balance 45,000 Cash 8,000 53,000 7. Short-term loans and Advances Loan to directors 80,000 Bills receivable 1,53,000 2,33,000 8. Other Income Rent received 46,000 Transfer fees 10,000 56,000 9. Cost of materials consumed Opening stock 6,80,000 Add: purchases 23,19,000 Less: Closing stock 8,23,000 21,76,000 10. Manufacturing and Other Expenses Consumables 84,000 Wages 9,00,000 Bad debts 35,000 Discount 40,000 Rentals 25,000 Commission 1,20,000 Advertisement 20,000 Dealers’ aids 21,000 Transit insurance 30,000 Trade expenses 72,000 Distribution freight 54,000 14,01,000 2.27 © The Institute of Chartered Accountants of India Accounting 11. Interest and Other Financial Charges Interest on bank loans 1,16,000 Debenture interest 20,000 1,36,000 1.6 Managerial Remuneration I. Managerial remuneration is calculated as a percentage on profit. Managerial remuneration payable by a company is governed by various sections of the Companies Act, 1956 and also Schedule XIII of the Companies Act, 1956. II. The scope of the relevant sections are as below : Section 198 prescribes the overall maximum managerial remuneration payable and also managerial remuneration in case of absence or inadequacy of profits. Section 309 prescribes the remuneration payable to whole-time directors and part-time directors. Section 310 states that if there is an increase in managerial remuneration within the scope of Schedule XIII and within the overall ceiling, permission of Central Government is not required for such increase. In other words sanction of Central Government will be required only if the increase in managerial remuneration has the effect of exceeding the overall ceiling as given in Section 198. Section 349 lays down how the net profit of the company will be ascertained for the purpose of calculating managerial remuneration. Section 387 deals with remuneration of manager. Remuneration to manager cannot exceed in the aggregate five per cent of the net profits. However, a manager is included within the scope of the term ‘managerial person’. Schedule XIII consists of three parts. Part I lays down conditions to be fulfilled for the appointment of a managing or wholetime director or a manager without the approval of the Central Government. Part II deals with remuneration payable to managerial person by companies having profits and also by companies having no profits or inadequate profits. Part III specifies the provisions applicable to earlier parts of the schedule. III. It may be noted that the Central Government had amended Schedule XIII to the Companies Act, 1956 on 14th July, 1993 introducing sweeping changes in provisions governing managerial appointment and remuneration. IV. As a result of such amendment, the ceiling on commission on net profit was withdrawn. With a view to give still greater freedom to companies in regard to managerial appointment and remuneration, Central Government have once again amended Schedule XIII to the Companies Act, 1956 effective from 1st February, 1994. V. Managerial Remuneration : Maximum limits : 2.28 © The Institute of Chartered Accountants of India Financial Statements of Companies (A) For companies having profits: (i) Overall (excluding fees for attending meetings) 11% of net profit (ii) If there is one managerial person 5% of net profit (iii) If there are more than one managerial person 10% of net profit (iv) Remuneration of part-time directors : (a) If there is no managing or whole-time director 3% of net profit (b) If there is a managing or whole-time director 1% of net profit (B) For companies having no profits or inadequate profits : VI. In the event of absence or inadequacy of net profits in any financial year, managerial remuneration will have to be limited to amounts (varying from ` 40,000 per month to ` 87,500 per month, depending on the effective capital of the company) specified in Section II of Part II of Schedule XIII. VII. Such remuneration may be paid as ‘minimum remuneration’ without the approval of the Central Government. However, approval of the Central Government will be required if such ‘minimum remuneration’ is sought to be exceeded. Loss making companies or companies with inadequate net profits have the freedom to work out suitable remuneration packages for their managerial personnel within the limits specified in Section II of Part II of Schedule XIII. VIII. The remuneration of managerial person in case of absence or inadequacy of profits shall be calculated on the following scale [vide circular CL-V dated 2nd March, 2000, issued by Department of Company Affairs] Where the effective capital of Monthly remuneration payable company is : shall not exceed : (i) Less than ` 1 crore ` 75,000 (ii) ` 1 crore or more but less than ` 5 crores ` 1,00,000 (iii) ` 5 crores or more but less than ` 25 crores ` 1,25,000 (ix) ` 25 crores or more but less than ` 100 crores ` 2,00,000 IX. Subject to the provisions of Section I and II, a managerial person shall draw remuneration from one or both companies, provided that the total remuneration drawn from the companies does not exceed the higher maximum limit admissible from any one of the companies of which he is a managerial person IX Explanation : 1. Managerial persons include managing or whole-time director and manager. 2.29 © The Institute of Chartered Accountants of India Accounting 2. Effective capital means the aggregate of the paid-up share capital (excluding share application money or advances against shares), amount, if any, for the time being standing to the credit of share premium account, reserves and surplus (excluding revaluation reserves), long-term loans and deposits repayable after one year (excluding working capital loans, over- drafts, interest due on loans unless funded, bank guarantee etc. and other short-term arrangements) as reduced by the aggregate of any investments (except in the case of investment by an investment company), accumulated losses and preliminary expenses not written off. Ascertainment of profit for managerial remuneration I As we have seen above that in case of a company having profits, managerial remuneration is calculated as a percentage on net profit. II Such net profit is to be arrived in accordance with the provisions of Section 349 of the Companies Act, 1956. III The following credits or incomes in addition to the gross profit should be taken into account: Bounties and subsidies received from any Government, or any public authority constituted or authorised in this behalf, by the Government unless and except in so far as the Central Government otherwise directs. IV The following “incomes” or credits should not be taken into account : (a) premium on shares or debentures issued or sold by the company; (b) profit on sale by the company of forfeited shares; (c) profits of a capital nature including profit from the sale of the undertaking or any of the undertakings of the company, or any part thereof; and (d) profits from the sale of any immovable property of fixed assets of capital nature comprised in the undertaking or any of the undertakings of the company, unless the business of the company consists, whether wholly or partly, of buying and selling such property or assets. V But where the amount for which any fixed asset is sold exceeds its written down value (calculated according to Section 350) credit should be given for such of the excess as is not higher than the difference between the original cost of that fixed asset and its written down value: Suppose a machine purchased for ` 30,000, written down to ` 18,000 by writing off depreciation, is sold for ` 35,000. The managerial personnel are entitled to remuneration on profit including ` 12,000 i.e., excluding the profit over and above the original cost of ` 5,000. VI From the incomes of the company, the following have to be deducted : 2.30 © The Institute of Chartered Accountants of India Financial Statements of Companies (a) all the usual working charges; (b) bonus or commission paid or payable to any member of the company’s staff or any engineer, technician or person employed or engaged by the company whether on a wholetime or on a part-time basis; (c) any tax notified by the Central Government as being in the nature of a tax on excess or abnormal profit; (d) any tax on business profit imposed for special reasons or in special circumstances notified by the Central Government in this behalf; (e) interest on debentures issued by the company; (f) interest on mortgages executed by the company and on loans and advances secured by a charge on its fixed or floating assets. (g) interest on unsecured loans and advances; (h) expenses on repairs, whether to immovable property or to movable property, provided the repairs are not of a capital nature; (i) outgoings, inclusive of contributions made under clause (of sub-section) of Section 293. This relates to donations to charitable funds; (j) depreciation calculated according to Section 350. Under Section 350 the depreciation (for the purpose of calculating remuneration to managerial personnel) is to be calculated according to the rates specified in Schedule XIV. Depreciation includes only normal depreciation including extra and multiple shift allowance but excluding any special, initial or other depreciation or any development rebate. VII If an asset is sold, discarded, demolished or destroyed before it is completely written off, the excess of the written down value over its sale proceeds or its scrap value has to be written off in the financial year in which the assets is sold, discarded, demolished or destroyed; (k) the excess of expenditure over income which arises in computing the net profit in accordance with this section in any year (after the commencement of the Act) in so far as its excess has not been deducted in any subsequent year preceding the year in respect of which the net profit have to be ascertained; (l) any compensation or damage to be paid in by virtue of any legal liability including a liability arising from a breach of contract; (m) any sum paid by way of insurance against the risk of meeting any liability such as is referred to in (m); and (n) debts considered bad and written off or adjusted during the year of account. VIII Profit on which remuneration has to be allowed should be ascertained without deducting the following : 2.31 © The Institute of Chartered Accountants of India Accounting (a) income-tax and super tax payable by the company under the Income-tax Act or any other tax on the income of the company not covered by (d) and (e) above; (b) any compensation, damages or payment made voluntarily, that is to say, otherwise than by virtue of a liability such as is referred to in (m) above; and (c) loss of a capital nature including loss or sale of the undertaking or any of the undertakings of the company or of any part thereof not including in any excess of written down value over its sale proceeds of scrap value of any asset sold. The excess has to be written off to the Profit and Loss A/c. IX It should be noted that the Profit and Loss Account should have a statement attached showing how profit has been ascertained for the purpose of remuneration due to directors, managing director or manager as per the requirements of paras 4 and 4A of Part II, Schedule VI. Illustration 2 The following is the Profit & Loss A/c of Mudra Ltd., the year ended 31st March, 2011 ` ` To Administrative, Selling and By Balance b/d 5,72,350 distribution expenses 8,22,542 “ Balance from Trading A/c 40,25,365 ” Donation to charitable funds 25,500 “ Subsidies received from Govt. 2,32,560 ” Directors fees 66,750 “ Interest on Investments 15,643 ” Interest on debentures 31,240 “ Transfer fees 722 ” Compensation for breach of “ Profit on sale of contract 42,530 Machinery: ” Managerial remuneration 2,85,350 Amount realised 55,000 ” Depreciation on fixed assets 5,22,543 Written down value 30,000 25,000 ” Provision for Taxation 12,42,500 ” General Reserve 4,00,000 ” Investment Revaluation Reserve12,500 ” Balance c/d 14,20,185 48,71,640 48,71,640 Additional Information: (1) Original Cost of the machinery sold was ` 40,000 (2) Depreciation on fixed assets as per Schedule XIV of the Companies Act, 1956 was ` 5,75,345. You are required to comment on the managerial remuneration in the following situations: (a) there is only one whole time director; (b) there are two whole time directors; (c) there are two whole time directors, a part time director and a manager. 2.32 © The Institute of Chartered Accountants of India Financial Statements of Companies Solution : Calculation of net profit u/s 349 of the Companies Act, 1956 ` ` Balance from Trading A/c 40,25,365 Add : Subsidies received from Government 2,32,560 Interest on investment 15,643 Transfer fees 722 Profit on sale of machinery (40,000 – 30,000) 10,000 2,58,925 42,84,290 Less : Administrative, selling and distribution expenses 8,22,542 Donation to charitable funds 25,500 Director’s fees 66,750 Interest on debentures 31,240 Compensation for breach of contract 42,530 Depreciation on fixed assets as per Schedule XIV 5,75,345 15,63,907 Profit u/s 349 27,20,383 Situation: (a) When there is only one whole time director: Managerial remuneration = 5% of ` 27,20,383 = ` 1,36,019 (b) When there are two whole time directors : Managerial remuneration =10% of ` 27,20,383 = ` 2,72,038 (c) When there are two whole time directors, a part time director and a manager: Managerial remuneration = 11% of ` 27,20,383 = ` 2,99,242 Comment : In situations (a) and (b) since managerial remuneration as per Profit and Loss account ` 2,85,350 exceeds the maximum amount payable, the company should obtain permission under Section 309(3) for such excess payment. Illustration 3 The following extract of Balance Sheet of X Ltd. was obtained: Balance Sheet (Extract) as on 31st March, 2011 Liabilities ` Authorised capital: 20,000, 14% preference shares of ` 100 20,00,000 2,00,000 Equity shares of ` 100 each 2,00,00,000 2,20,00,000 2.33 © The Institute of Chartered Accountants of India Accounting Issued and subscribed capital: 15,000, 14% preference shares of ` 100 each fully paid 15,00,000 1,20,000 Equity shares of ` 100 each, ` 80 paid-up 96,00,000 Share suspense account 20,00,000 Reserves and surplus Capital reserves (60% is revaluation reserve) 2,50,000 Securities premium 50,000 Secured loans: 15% Debentures 65,00,000 Unsecured loans: Public deposits 3,70,000 Cash credit loan from SBI 4,65,000 Current Liabilities: Sundry creditors 3,45,000 Assets: Investment in shares, debentures, etc. 75,00,000 Profit and Loss account 15,25,000 Preliminary expenses not written off 55,000 Share suspense account represents application money received on shares, the allotment of which is not yet made. X Ltd. has been sustaining loss for the last few years. X Ltd. has only one whole-time director. Find out how much remuneration X Ltd. can pay to its managerial person as per the provisions of Part II of Schedule XIII. Would your answer differ if X Ltd. is an investment company? Solution : Computation of effective capital : Where X Ltd. is Where X Ltd. a non-investment is an investment company company ` ` Paid-up share capital — 15,000, 14% Preference shares 15,00,000 15,00,000 1,20,000 Equity shares 96,00,000 96,00,000 Capital reserves 1,00,000 1,00,000 Securities premium 50,000 50,000 15% Debentures 65,00,000 65,00,000 Public Deposits 3,70,000 3,70,000 (A) 1,81,20,000 1,81,20,000 2.34 © The Institute of Chartered Accountants of India Financial Statements of Companies Investments 75,00,000 — Profit and Loss account (Dr. balance) 15,25,000 15,25,000 Preliminary expenses not written off 55,000 55,000 (B) 90,80,000 15,80,000 Effective capital (A–B) 90,40,000 1,65,40,000 Monthly remuneration shall not exceed 75,000 1,00,000 1.7 Divisible Profit One of the important functions of company accounting is to determine the amount of profits which is available for distribution. This is necessary since the amount of profits disclosed by the Profit & Loss Account, in every case, is not available for distribution. The availability of profits for distribution depends on a number of factors, e.g., their composition, the amount of provisions and appropriations that must be made out of them in priority, etc. Dividends cannot be declared except out of profits Declaration of a dividend presupposes that there is a trading profit or a surplus available for distribution, arrived at after providing for depreciation on assets, not only for the year in which the profits were earned but also for any arrears of depreciation of the past years, calculated in the manner prescribed by sub-section (2) of Section 205 (see below). The balance of undistributed profits of the past years, provided the same has been arrived at in a like manner, is also available for distribution. Any money provided by the Central or State Government for any payment of dividend in pursuance of a guarantee given by the Government also is available for distribution as a dividend. Capital cannot be returned to the shareholders by way of dividend Under the Companies Act it is not obligatory for a company to maintain its capital intact. But the Act has prescribed the procedure for reduction of capital. It must be followed in every case if the paid-up capital is to be reduced. Therefore, no part of the capital can be paid unless there is profit. But interest may be paid under Section 208. Provision for Depreciation — I. Section 205(2) provides that depreciation must be provided either — (a) to the extent specified in Section 350. (b) equal to an amount arrived at by dividing 95% of the cost of the asset by the number of years at the end of which the asset would cease to be serviceable; or (c) on any other basis approved by the Central Government by which 95% of the cost of each depreciable assets will be written off on the expiry of its serviceable life; or (d) As regards any other depreciable asset for which no rate of depreciation has been laid down by the Companies Act, 1956 or any rules made thereunder, on such 2.35 © The Institute of Chartered Accountants of India Accounting basis as may be approved by the Central Government by any general order published in the Official Gazette or by any special order in any particular case. II Section 350 provides that depreciation should be written off at the rates specified for different assets in Schedule XIV to the Companies Act, 1956. III Provision is required only for the normal depreciation (including extra and multiple shift allowance) and not for any initial depreciation or any development rebate. IV Further, when the assets are sold, discarded, demolished or destroyed in any financial year, the excess of the written down value over its sale proceeds as scrap, if any should be written off in the same financial year. V Section 350 contemplates that depreciation on assets shall be computed with reference to the written down value of the assets as shown by the books of the company at the end of the financial year. VI The Amendment Act, 2000 has replaced the words "the amount calculated with reference to the written down value of the assets" with "the amount of depreciation on assets". Thus any other method of depreciation is also allowed. Earlier only written down value of method could be used for the purpose of calculation of depreciation under this section. VII It should be noted that depreciation has to be written off or provided for if dividends are to be declared; a company need not provide for depreciation if it does not want to declare dividends. In such a case, the fact that depreciation has not been provided for or written off, together with the quantum of arrears of depreciation [computed as per Section 205(2)], must be stated in the Profit and Loss Account. VIII If provision for depreciation is not made by means of a depreciation charge but by some other method, the method adopted should be disclosed. N.B. For purpose of ascertaining profit on which remuneration is to be paid to managerial personnel, depreciation according to Section 350 is to be considered. IX Loss suffered in the past may not be made good – (a) Where a company has incurred any loss in any previous financial year or years, Sub- section (2) of Section 205 prescribes that it must set off either the loss or an amount which is equal to the amount provided for as depreciation in that year or those years whichever is less, against the profit of the company for the year, out of which the dividend is proposed to be declared or paid. (b) Thus, the losses suffered in the past or at least amount of depreciation on assets comprised therein, must first be made good out of the profits of a year before any part thereof is distributed as a dividend. (c) This is illustrated below : 2.36 © The Institute of Chartered Accountants of India Financial Statements of Companies Year ended 31st December (in ` lakhs) 2008 2009 2010 Total 1. Depreciation as provided in the books 3 2 8 13 2. Depreciation chargeable under section 205 13 10 8 31 3. Profit before charging depreciation –15 –7 37 15 4. Profit after charging depreciation as in (1) –18 –9 29 2 5. Profit after charging depreciation as in (2) –28 –17 29 -16 The amount available for dividend in 2010 is ` 6,00,000 as shown below : A. Past Losses [4] 27 B. Depreciation previously provided [1] 5 C. Depreciation in arrear [2–1] 2008 10 2009 8 2010 Nil 18 Profit for 2010 (as per books) 29 Less: Arrears of Depreciation not provided for as per (C) above, which must be now provided 18 11 Less: Amount of depreciation provided (B) or the loss (A), whichever is less 5 Distributable Profit 6 This amount of ` 6,00,000 may also be arrived at as follows : Profit for 2010 (before charging depreciation) 37 Less: Total depreciation for 3 years u/s 205 31 Distributable Profit 6 (d) However, one should note that before the amendment of the Companies Act in 1960 the legal position was according to the decisions in various cases in England. Therefore, it was not necessary to provide for depreciation on fixed assets or past losses for declaring a dividend (Ammonia Soda Co. v. Chamberlain and Stapley v. Read Bros Ltd.). (e) It is still not necessary to provide arrears of depreciation and losses relating to the financial year falling before 28th December 1961. Distribution of Capital Profit Any capital profit or any appreciation in the value of fixed asset in the case of a company may be distributed as dividend provided 2.37 © The Institute of Chartered Accountants of India Accounting (i) the revaluation of all the assets discloses a surplus; (ii) the profit has been realised in cash; (iii) the article of the company permit such a distribution, (Lubbok v. British Bank of South America and Foster v. The New Trinidod Lake Asphalte Co. Ltd.). Writing off losses against capital profits 1. It is permissible for a company to revalue its assets but the revaluation must be in a bona fide manner. 2. Depending upon the results disclosed by such a revaluation, with the approval of the shareholders, the assets, which may have been over depreciated in the past may be written up and the surplus, if any, resulting therefrom utilised for writing down value of other assets, so that the value of each asset is brought closer to its current value (Ammonia Soda Co. v. Chamberlain). 3. Where any expenditure of a capital nature has been charged to revenue the company can subsequently reimburse an equal amount of revenue, out of capital. 4. Similarly, when losses on capital account have been charged off to revenue and later the value of the capital assets appreciates, the amount so realised would be a revenue profit (Mills v. Northern Railway of Buenos Aires Co.). Transfer to Reserves I The Board of Directors, unless prohibited by the Articles, can appropriate a part of the profits to the credit of a reserve or reserves. II Appropriation of a part of profit is sometimes made under law. (a) For example, under the Banking Regulation Act, 25% of the profit of a banking company must first be transferred to the General Reserve before any dividend can be distributed. (b) Similarly, when profit of a licence under the Electricity Supply Act, 1984 exceeds the amount of reasonable return, a part (about 1/3 of the excess) has to be transferred to the Tariffs and Dividend Control Reserve. (c) Transfer of a part of profit to a reserve is also necessary where the company has undertaken, at the time of raising of loan, that before any part of its profit is distributed, a specified percentage of the profit every year shall be credited to a reserve for the repayment of the loan and until the time for repayment arrives, the amount shall remain invested in a specified manner. III Apart from appropriations aforementioned, it may also be necessary to provide for losses and arrears of depreciation and to exclude capital profit, as mentioned earlier, to arrive at the amount of divisible profit. 2.38 © The Institute of Chartered Accountants of India Financial Statements of Companies IV The changes made in the company law (effective 1st February, 1975) now authorises Government to compel companies to transfer a part of their after tax profits to reserve. The Government has promulgated the following rules in this regard: (1) No dividend shall be declared or paid by the company for any financial year out of the profits of the company for that year arrived at after providing for depreciation in accordance with the provisions of Sub-section (2) of Section 205 of the Act, except after the transfer to the reserve of the company of a percentage of its profit for that year as specified below : (i) Where the proposed dividend exceeds 10 per cent but does not exceed 12.5 per cent of the paid-up capital, the amount to be transferred to the reserve shall not be less than 2.5 per cent of the current profits; (ii) Where the proposed dividend exceeds 12.5 per cent but does not exceed 15 per cent of the paid up capital, the amount to be transferred to the reserve shall not be less than 5 per cent of the current profits; (iii) Where the proposed dividend exceeds 15 per cent, but does not exceed 20 per cent of the paid up capital, the amount to be transferred to the reserves shall not be less than 7.5 per cent of the current profit; and (iv) Where the dividend proposed exceeds 20 per cent of the paid-up capital the amount to be transferred to reserve shall not be less than 10 per cent of the current profits. Proposed dividend as % of Amount to be transferredto reserves as % of paid up capital current profits >10%<=12.5% >=2.5% >12.5%<=15% >=5% >15% <=20% >=7.5% >20% >=10% (2) Nothing in rule (1) shall be deemed to prohibit the voluntary transfer by a company of a percentage higher than 10 per cent of its profit to its reserves for any financial year, so however that : (i) Where a dividend is declared: (a) a minimum distribution sufficient for the maintenance of dividends to shareholders at a rate equal to the average of the rates at which dividends declared by it over the three years immediately preceding the financial year; or (b) in a case where bonus shares have been issued in the financial year in which the dividend is declared or in the three years immediately preceding the financial year, a minimum distribution sufficient for the maintenance of dividend to shareholders at an amount equal to the 2.39 © The Institute of Chartered Accountants of India Accounting average amount (quantum) of dividend declared over the three years immediately preceding the financial year is ensured; Provided that in a case where the net profits after tax are lower by 20% or more than the average net profit after tax of the two financial years immediately preceding, it shall not be necessary to ensure such minimum distribution. (ii) Where no dividend is declared, the amount proposed to be transferred to its reserves from the current profit shall be lower than the average amount of the dividends to the shareholders declared by it over the three years immediately preceding the financial year. Declaration of dividend out of reserves Government has promulgated rules regarding utilisation of reserves for payment of dividend. In the event of inadequacy or absence of profit in any year, dividend may be declared by a company for that year out of the accumulated profit earned by it in previous years and trans- ferred by it to the reserves, subject to the condition that: (i) the rate of the dividend declared shall not exceed the average of the rates at which dividend was declared by it in five years immediately preceding that year or ten per cent of its paid-up capital, whichever is less; (ii) the total amount to be drawn from the accumulated profits earned in previous years and transferred to the reserves shall not exceed an amount equal to one-tenth of the sum of its paid up capital and free reserves and the amount so drawn shall first be utilised to set off the losses incurred in the financial year before any dividend in respect of preference or equity shares is declared; and (iii) the balance of reserves after such drawl shall not fall below fifteen per cent of its paid up share capital. Interest on Capital As has been pointed out above, dividends cannot be paid except out of profits or, in other words, dividends cannot be paid out of capital. In certain cases, however, the Central Government has the power to permit payment of interest to shareholders even when there is no profit. A company which has to wait rather a long period before it can commence production because construction of works may take long may find the shareholders restive if nothing is given to them by way of yield. Moreover, if construction is carried on by borrowed funds interest will have to be paid; hence there is some theoretical justification for payment of interest to the shareholders. Section 208 governs payment of interest in such cases. The company is allowed to pay interest on such shares as are issued for the purpose of defraying the expenses of the construction of any works of building or providing any plant which cannot be made profitable for a lengthy period, subject to the following conditions: (a) The payment is authorised by Articles or by a special resolution. 2.40 © The Institute of Chartered Accountants of India Financial Statements of Companies (b) Prior sanction of the Central Government is obtained. (c) Interest is paid only for such period as may be determined by the Central Government. But the period cannot extend beyond the close of the half year next after the half year in which the works, buildings, etc., have been actually completed. For example, if the construction is over on 10th October, 2005, interest cannot be paid after 30th June 2006. (d) The rate of interest does not exceed four per cent per annum or such other rates as the Central Government may, by notification in the Official Gazette, direct. The Central Government can order an enquiry at the company’s cost before according its sanction, the company can treat the interest so paid as part of the cost of construction. Profit and Loss (Appropriation) Account 1. The provisions contained in Part II of Schedule VI of the Companies Act require that the under mentioned appropriations made out of profit should be disclosed in the Profit and Loss Account of the year: (a) Amounts provided for: (i) repayment of share capital; and (ii) repayment of loans [clause (vii)]. (b) (i) The aggregate, if material, (cid:190) of any amount set aside or proposed to be set aside to reserves, but not including provisions made to meet any specific liability, contingency or commitment known to exist at the date as at which the balance sheet is made up. (cid:190) of the amounts withdrawn from such reserves [clause (viii)]. (cid:190) of the amount set aside to provisions made for meeting specific liabilities, contigencies or commitments. (cid:190) of the amounts withdrawn from such provisions as no longer required [clause (ix)]. (cid:190) the aggregate amount of dividend paid and proposed and stating whether such amounts are subjects to deduction of income-tax or not [clause (XIV)] 2. It is evident therefore that it is necessary to disclose in the Profit & Loss Account amount withdrawn from reserves, excess provisions written back and appropriation proposed by the directors out of profits. 3. One should note that provisions for income-tax relating to the current year is no longer treated as an appropriation of profits - at one time it was. 2.41 © The Institute of Chartered Accountants of India Accounting 4. With a view to distinguish the appropriation of profits from expenses chargeable against profits, the Research Department of the Institute has made the following recommendations: 5. “The Profit & Loss Account should be prepared in two parts: (i) The Profit and Loss Account, proper, include all income and expenditure properly attributable to the year’s working and show the figure of profit or loss for the year; and (ii) The second part of the account should include all appropriations for dividends, transfers to and from reserves.” When appropriations are shown in a separate section in the Profit & Loss account, an imaginary line is supposed to separate them from income and expenses of the year. The account, therefore, refers to amount being shown above or below the ‘line’ depending on whether the amount is chargeable in the Profit and Loss section or the Appropriation section. It is pertinent to mention here that clause (3) of Part II of Schedule VI states that the Profit & Loss account shall set out items relating to income and expenditure of the company, arranged under the most convenient heads in respect of the period covered by the account. 6. It would, therefore appear that when an addition to or a deduction from a reserve has no impact on the profit and loss of the period of account, such an addition or deduction need not be passed through the Profit & Loss Account. Capital reserve I Meaning (a) It is the reserve which does not include any amount regarded as free for distribution through the Profit and Loss account. (b) Share Premium and Capital Redemption Reserve Account should not be credited to capital reserve; these accounts have to be kept separate. (c) Only profits or a surplus of a capital nature can be credited to such a reserve. II The following are instances of profit or surpluses which can be so created: 1. Profit prior to incorporation. 2. Capital profit on sale of fixed assets when these are not available for distribution as dividends in the circumstances mentioned below : (i) Where the profit on sale of a fixed asset has not been realised; or (ii) Where the profit on sale of fixed assets though realised is likely to be wiped out by the deficiency on revaluation of other assets; or (iii) Where the Articles of Association do not permit distribution of such profit as a dividend. 2.42 © The Institute of Chartered Accountants of India Financial Statements of Companies 3. The excess of the value of net assets over the price paid for the acquisition of a business. 4. Profit on re-issue of forfeited shares. (Premiums received on issue of shares according to the provisions contained under Section 78 are to be credited to Shares Premium Account.) 5. The credit balance in the Capital Reduction Account, where there has been a reduction of capital with the consent of the Court. 6. Premiums received on issue of debentures or profits on redemption of debentures where the distribution of such profits is not permitted by the Articles. Dividends 1. Meaning (a) A dividend is a distribution of divisible profit of a company among the members according to the number of shares held by each of them in the capital of the company and the rights attaching thereto. (b) Such a distribution may or may not entail a release of assets; it would be where a distribution involves payment of cash. (c) But when profits are capitalised and the amount distributed is applied towards payment of bonus shares, issued free to the share holders, no part of the assets of the company can be said to have been released since, in such a case, profits are only capitalised, thereby increasing the paid up capital of the company. The company does not give up any asset. 2. Declaration (a) A dividend is declared in the annual general meeting on the basis of the recommendation of the Board of Directors. (b) Though the shareholders may declare a dividend smaller than recommended by the Board, they cannot declare a larger dividend or any dividend when none has been recommended (Clause 85 of Table A of Schedule I of the Companies Act). (c) It is thus apparent that the Board of Directors determines the amount of profit which is to be distributed as a dividend as well as the time at which the distribution shall be made. 3. Interim Dividend (a) The Board of Directors may, from time to time, pay to the members an interim dividend at a rate which may appear to be justified by the amounts of profit earned by the company (Clause 86 of table A of Schedule I to the Companies Act). (b) The interim dividend is not adjusted when the final dividend is declared (that is the final dividend is in addition to the interim dividend) unless the resolution declaring the dividend states otherwise. 2.43 © The Institute of Chartered Accountants of India Accounting (c) The Companies (Amendment) Act, 2000 has inserted new sub-section (14 A) in Section 2 of the Companies Act which includes 'interim dividend' in the definition of the term 'dividend'. 4. Dividend on preference shares (a) Holders of preference shares are entitled to receive a dividend at a fixed rate before any dividend is declared on equity shares. (b) But such a right can be exercised subject to there being profits and the Directors recommending payment of the dividend. (c ) In the case of cumulative preference shares (cid:190) The holders are entitled to receive all the dividends which are in arrear before any dividend is paid on equity shares. For instance, suppose a company has not paid a dividend say, for five years and in the sixth year it earns a handsome profit. If Directors decide to declare a dividend on equity shares, it would be necessary to make a provision first for the payment of one year’s dividend to holders of preference shares, if they are non- cumulative. (cid:190) If on the other hand, the right is cumulative, a provision for payment of dividends due to the preference shares for all the six years shall first have to be made before any dividend is declared on equity shares. (d) In respect of preference shares issued before 1st April, 1960, the dividend payable is to be increased by 30% if the dividend payable was stipulated to be tax free and by 11% in the other case [Preference Shares (Regulation & Dividend) Act, 1960]. 5. Dividend on partly paid shares: (a) Provision in Articles (cid:190) In the case of partly paid-up shares, the dividend is payable either on the nominal, called up or the paid-up amount of shares, depending on the provision in this regard that there may be in the Articles. (cid:190) A company may if so authorised by its Article, pay a dividend in proportion to the amount paid on each share, where a larger amount is paid on some share than on other (Section 93). (b) No Such Provision (cid:190) In the absence of any such provision, Table A would be applicable. (cid:190) In such a case the amount of dividend payable will be calculated on the amount paid up on shares, and while doing so, the dates on which the amounts were paid must be taken into account. 2.44 © The Institute of Chartered Accountants of India Financial Statements of Companies (cid:190) But where the Articles are silent and Table A has been excluded, the amount of dividend payment will have to be calculated on nominal amount of shares. (cid:190) According to the Clause 88 of Table A, dividends are to be declared and paid according to the amounts paid or credited as paid on the shares in respect whereof the dividend, is paid but, if and so long as nothing is paid upon any of the shares in the company, dividends may be declared and paid according to the nominal amounts of the shares. (cid:190) In the case of fresh issue of capital, the holders thereof, unless precluded by the terms of issue, are entitled to receive dividend pari passu with the shares already issued. 6. Calls in Advance Calls paid in advance do not rank for payment of dividend. Instead, interest may be paid on such calls; the rate of interest is 6% p.a. according to Table A; Articles of a company may prescribe a different rate. 7. Payment : 7.1 Mode of payment All dividends must be paid in cash [Section 205(3)]; dividend warrants, made payable at a bank are treated as cash. 7.2 Timing Dividend must be paid within 30 days of declaration. 7.3 The following provisions of law [after the introduction of the Companies (Amendment) Act, 1999 and Companies (Amendment) Act, 2000] should be noted : (i) Where a dividend has been declared by a company but has not been paid, or claimed, within thirty days from the date of the declaration, to any shareholder entitled to the payment of the dividend, the company shall within seven days from the date of expiry of the said period of thirty days, transfer the total amount of dividend which remains unpaid or unclaimed within the said period of thirty days to a special account to be opened by the company in that behalf in any scheduled bank to be called “Unpaid Dividend Account of _ _ _ _ _ Company Limited/Company (Private) Limited. (ii) Any money transferred to the unpaid dividend account of a company in pursuance of this section which remains unpaid or unclaimed for a period of seven years from the date of such transfer shall be transferred by the company to the Fund established under Sub-section (1) of Section 205C.”. (iii) In Section 205 of the Principal Act after sub-section (1), the following sub- sections have been inserted by the Companies Amendment Act, 2000 namely : 2.45 © The Institute of Chartered Accountants of India Accounting (1A) The Board of Directors may declare interim dividend and the amount of dividend including interim dividend shall be deposited in a separate bank account within five days from the date of declaration of such dividend. (1B) The amount of dividend including interim dividend so deposited under sub-section (1A) shall be used for payment of interim dividend (1C) The provisions contained in sections 205, 205A, 205C, 206, 206A and 207 shall, as far as may be, also apply to any interim dividend. (iv) Section 55A (inserted by Companies Amendment Act, 2000) grants power to Securities and Exchange Board of India in respect of the listed companies for the matters relating to issue and transfer of securities and non-payment of dividend. (v) Substitution of new section for 207. – For section 207 of the principal Act, the following section shall be substituted, namely : 7.4 Penalty for failure to distribute dividends within thirty days. – (cid:190) Where a dividend has been declared by a company but has not been paid, or the warrant in respect thereof has not been posted, within thirty days from the date of declaration, to any shareholder entitled to the payment of the dividend, (cid:190) every director of the company shall, if he is knowingly a party to the default, be punishable with simple imprisonment for a term which may extend to three years and shall also be liable to a fine of one thousand rupees for every day during which such default continues and (cid:190) the company shall be liable to pay simple interest at the rate of eighteen per cent per annum during the period for which such default continues : (cid:190) Exceptions Provided that no offence shall be deemed to have been committed within the meaning of the foregoing provisions in the following cases, namely: (a) where the dividend could not be paid by reason of the operation of any law; (b) where a shareholder has give directions to the company regarding the payment of the dividend and those directions cannot be complied with; (c) where there is a dispute regarding the right to receive the dividend; (d) where the dividend has been lawfully adjusted by the company against any sum due to it from the shareholder; or (e) where, for any other reason, the failure to pay the dividend or to post the warrant within the period aforesaid was not due to any default on the part of the company. 2.46 © The Institute of Chartered Accountants of India Financial Statements of Companies 7.5 Establishment of fund Under Section 205C (1), the Central Government shall establish a fund to be called the Investor Education and Protection Fund (hereafter in this section referred to as the “Fund”). There shall be credited to the Fund the following amounts, namely : (a) amounts in the paid dividend account of companies; (b) the application moneys received by companies for allotment of any securities and due for refund; (c) matured deposits with companies; (d) matured debentures with companies; (e) the interest accrued on the amount referred to in clauses (a) to (d); (f) grants and donations given to the Fund by the Central Government, State Governments, companies or any other institutions for the purpose of the Fund; and (g) the interest or other income received out of the investments made from the Fund: (cid:190) Exception Provided that no such amounts referred to in clauses (a) to (d) shall form part of the Fund unless such amounts have remained unclaimed and unpaid for a period of seven years from the date they became due for payment. (cid:190) Maximum period of fund For the removal of doubts, it is hereby declared that no claims shall lie against the Fund or the company in respect of individual amounts which were unclaimed and unpaid for a period of seven years from the dates that they first became due for payment and no payment shall be made in respect of any such claims. (cid:190) Utilization The Fund shall be utilised for promotion of investor awareness and protection of the interests of investors in accordance with such rules as may be prescribed. Dividend Distribution Tax 1. Meaning (a) The Finance Act, 1997, has introduced Chapter XIID (Sections 115O and 115Q) on "Special Provisions Relating to Tax on Distributed profits of Domestic Companies" 2.47 © The Institute of Chartered Accountants of India Accounting [Hereinafter referred to as ‘DDT’ (Dividend Distribution tax)]. The ICAI has issued Guidance Note on Accounting for Dividend Distribution tax. (b) The salient features of DDT are as below: (i) DDT is in addition to the income-tax chargeable in respect of the total income of a domestic company. (ii) DDT is chargeable on any amount declared, distributed or paid by such company by way of dividends (whether interim or otherwise). (iii) The dividends chargeable to DDT may be out of the current profits or accumulated profits. (iv) The rate of DDT is fifteen per cent (excluding surcharge plus education Cess). (v) DDT shall be payable even if no income-tax is payable by the domestic company on its total income. (vi) DDT is payable to the credit of the Central Government within 14 days of (a) declaration of any dividend, (b) distribution of any dividend, or (c) payment of any dividend. whichever is the earliest. (vii) DDT paid shall be treated as the final payment of tax on the dividends and no further credit therefore shall be claimed by the company or by any person in respect of the tax so paid. (vii) The expression ‘dividend’ shall have the same meaning as is given to ‘dividend’ in clause (22) of Section 2 but shall not include sub-clause (e) thereof. 2. Accounting for DDT (cid:190) According to generally accepted accounting principles, the provision for dividend is recognised in the financial statements of the year to which the dividend relates. (cid:190) In view of this, DDT on dividend, being directly linked to the amount of the dividend concerned, should also be reflected in the accounts of the same financial year even though the actual tax liability in respect thereof may arise in a different year. 3. Disclosure and Presentation of DDT in Financial Statements (cid:190) It is noted that clause 3(vi) of Part II of Schedule VI to the Companies Act, 1956, requires the disclosure of "the amount of charge for Indian Income-tax and other Indian taxation on profits, including, where practicable, with Indian income-tax any taxation imposed elsewhere to the extent of the relief, if any, from Indian 2.48 © The Institute of Chartered Accountants of India Financial Statements of Companies income-tax and distinguishing, where practicable, between income-tax and other taxation." (cid:190) It is also noted that Part II of Schedule VI only lays down the information to be disclosed in the profit and loss account. (cid:190) However, as a matter of convention and to improve readability, the information in the profit and loss account is generally shown in two parts, viz., the first part contains the information which is required to arrive at the figure of the current year's profit-often referred to as ‘above the line’, and (cid:190) The second part which discloses, inter alia, information involving the appropriations of the current year's profits - often referred to as ‘below the line’. (cid:190) Since dividends are disclosed ‘below the line’, a question arises with regard to disclosure and presentation of DDT, as to whether the said tax should also be disclosed `below the line' or should be disclosed along with the normal income- tax provision for the year `above the line'. (cid:190) The liability in respect of DDT arises only if the profits are distributed as dividends whereas the normal income-tax liability arises on the earning of the taxable profits (cid:190) Since the DDT liability relates to distribution of profits as dividends which are disclosed `below the line', it is appropriate that the liability in respect of DDT should also be disclosed `below the line' as a separate item. (cid:190) It is felt that such a disclosure would give a proper picture regarding payments involved with reference to dividends. (cid:190) DDT liability should be recognised in the accounts of the same financial year in which the dividend concerned is recognised. (cid:190) DDT liability should be disclosed separately in the profit and loss account, ‘below the line’, as follows: Dividend xxxxx Dividend Distribution tax thereon xxxxx xxxxx (cid:190) Provision for Dividend Distribution tax should be disclosed separately under the head ‘Provisions’ in the balance sheet. (cid:190) The accounting treatment for Dividend Distribution tax in the financial statements of a company can be explained with the help of following example: X Co. Ltd. proposed dividend amounting to ` 500 lacs for the year ended 31st March, 2011. The Dividend Distribution tax liability of ` 50 lacs arises as per sections 115 O and 115 Q of the Income-tax Act. In this case, the charge for DDT should be disclosed separately in the Profit and Loss Account, below the line as given below: 2.49 © The Institute of Chartered Accountants of India Accounting Profit and Loss Account for the year ended 31st March, 2011 ` (lacs) ` (lacs) Proposed Dividend 500 Dividend Distribution tax 50 550 The provision for Dividend Distribution tax should be disclosed separately under, the head ‘Short Term Provisions’. The relevant extracts of the Balance Sheet of X Co. Ltd. can be shown as follows: Balance Sheet as on 31st March, 2011 Short term provisions Proposed Dividend 500 Dividend Distribution tax 50 Illustration 4 The following are the balances from the Ledger of Mount View Hotel Ltd., on 31st March 2012: ` Share Capital - Credit Balance on 1st January, 2012 56,685 Preliminary Expenses 7,500 Freehold Premises 46,800 Furniture and Fittings 8,934 Glass and China 1,101 Linen 840 Cutlery and Plate 390 Rates, Taxes and Insurance 1,713 Salaries 2,400 Wages 4,305 Stocks on 31st March, 2011 : Wines, ` 1,239 ; Spirits, ` 378 ; Beer, ` 165 ; 1,782 Minerals, ` 147 ; Cigars and Cigarettes, ` 114 261 Sundry Provisions and Stores, ` 183; Coal, ` 150 333 Purchases : Meat, ` 3,627 ; Fish and Poultry ` 3,960 7,587 Sundry Provisions and Stores, ` 5,220 5,220 Wines ` 1,881 ; Spirits ` 2,190 ; Beer ` 1,152 5,223 Minerals, ` 1,050 : Cigars and Cigarettes, ` 240 1,290 Laundry 951 2.50 © The Institute of Chartered Accountants of India