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2007 (11) TMI 401 - SC - Income TaxWhether Accounting Standard 22 (AS 22) entitled accounting for taxes on income insofar as it relates to deferred taxation is inconsistent with and ultra vires the provisions of the Companies Act, 1956 ( the Companies Act ), the Income-tax Act, 1961 ( Income-tax Act ) and the Constitution of India? Held that - Appeal dismissed. Before the Calcutta High Court, the impugned Notification adopting AS 22 was also challenged on the ground that the provisions of AS 22 insofar as it relate to deferred taxation is violative of articles 14 and 19(1)(g) of the Constitution of India. In this connection, it was pleaded that by making AS 22 mandatory, the appellants companies will suffer erosion of its net worth. That, as a result, the debt equity ratio will also increase and that the lenders may recall the loans and thereby the appellants rights to carry on business in future would be violated. Although, the aforestated challenge was pleaded in the writ petition, when the matter came for hearing before the High Court, it appears that the said grounds were not argued. According to the appellants, implementation of AS 22 would result in reduction of profits and reserves. In the circumstances, we do not wish to express any opinion on the constitutional validity of the said AS 22. Whether the said Standard constitutes a restriction on the rights of the appellants to carry on business under article 19(1)(g) or whether the said Standard is violative of article 14 are questions on which we express no opinion. We keep those questions open. Suffice it to state that, in the present case, we are of the view that the said AS 22 is neither ultra vires nor inconsistent with the provisions of the Companies Act, including Schedule VI.
Issues Involved:
1. Whether Accounting Standard 22 (AS 22) is inconsistent with and ultra vires the provisions of the Companies Act, 1956, the Income-tax Act, 1961, and the Constitution of India. Analysis of the Judgment: Issue 1: Whether AS 22 is inconsistent with and ultra vires the provisions of the Companies Act, 1956, the Income-tax Act, 1961, and the Constitution of India. Introduction and Background: The Supreme Court of India examined whether Accounting Standard 22 (AS 22) titled "Accounting for Taxes on Income" is inconsistent with and ultra vires the Companies Act, 1956, the Income-tax Act, 1961, and the Constitution of India. AS 22, issued by the Institute of Chartered Accountants of India, mandates accounting for deferred taxation and aims to harmonize Indian Accounting Standards with International Accounting Standards. Meaning and Purpose of AS 22: AS 22 aims to ensure that financial statements reflect a true and fair view by accounting for deferred taxation, which arises from timing differences between taxable income and accounting income. It is based on the matching principle and fair value principle, which are essential for ensuring transparency and comparability in financial statements. Relevant Provisions of the Companies Act, 1956: Sections 209, 210, 210A, 211, 227, 641, and 642 of the Companies Act, 1956, were analyzed to determine their relevance to AS 22. These sections deal with the maintenance of books of account, preparation of balance sheets and profit and loss accounts, constitution of the National Advisory Committee on Accounting Standards, and the powers of the Central Government to make rules and alter schedules. Arguments by the Appellants: The appellants argued that AS 22 is inconsistent with the Companies Act, particularly Section 211 and Schedule VI, as it mandates the inclusion of deferred tax liability (DTL) in the determination of net profit, which they claimed distorts the financial statements. They also contended that AS 22 is ultra vires as it alters the provisions of the Companies Act without amending Schedule VI under Section 641. Arguments by the Respondents: The respondents, including the Union of India and the Institute of Chartered Accountants of India, argued that AS 22 is consistent with the Companies Act and necessary for presenting a true and fair view of a company's financial position. They contended that the Central Government has the authority to prescribe accounting standards under Section 642, and AS 22 is a legitimate exercise of this power. Court's Analysis: The Supreme Court analyzed the concepts of accrual basis of accounting, matching principle, deferred tax liability (DTL), and deferred tax asset (DTA). It held that AS 22 is consistent with the Companies Act's requirement to present a true and fair view of financial statements. The Court emphasized that the Companies Act does not prescribe specific methods for recognizing and measuring items in financial statements, which are addressed by accounting standards. Doctrine of Ultra Vires: The Court examined whether the impugned rule adopting AS 22 exceeds the powers conferred upon the Central Government under Section 642(1) of the Companies Act. It held that the rule is valid as it has a nexus with the statutory functions entrusted to the Central Government and does not override the Act. Consistency with the Companies Act: The Court concluded that AS 22 is not inconsistent with the provisions of the Companies Act, including Schedule VI. It found that the inclusion of deferred tax in tax expense is necessary for presenting a true and fair view of a company's financial position and does not contravene the accrual system of accounting. Validity of Para 33 of AS 22: The Court addressed the challenge to para 33 of AS 22, which deals with transitional provisions. It held that para 33 is not retrospective but a transitional provision necessary for determining accumulated deferred tax when the standard is applied for the first time. Conclusion: The Supreme Court held that Accounting Standard 22 (AS 22) is neither ultra vires nor inconsistent with the provisions of the Companies Act, 1956, including Schedule VI. The Court emphasized that AS 22 is essential for presenting a true and fair view of a company's financial position and harmonizing Indian Accounting Standards with International Accounting Standards. The civil appeals were dismissed with no order as to costs.
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