ICDS X : Provisions, Contingent Liabilities & Contingent Assets - Income Tax - Ready Reckoner - Income Tax

ICDS X : PROVISIONS, CONTINGENT LIABILITIES CONTINGENT ASSETS This ICDS corresponds to AS 29 and Ind AS 37, which also deal with Provisions, Contingent Liabilities and Contingent Assets. The language of this ICDS is however closer to that of AS 29, and significantly different from that of Ind AS 37 . 1. Scope:- This ICDS specifically excludes provisions, contingent liabilities and contingent assets resulting from financial instruments, executory contracts and insurance business from contracts with policyholders. It also excludes such transactions from financial instruments, irrespective of whether the financial instruments are held as investments or as stock-in-trade.i It lso excludes provisions, contingent liabilities and contingent assets governed by other ICDSs, hence some other items excluded by this ICDS would be: Construction Contracts governed by ICDS III Foreign Currency Transactions governed by ICDS VI Securities transactions governed by ICDS VIII. This ICDS would not affect revenue recognition, which is governed by ICDS IV. This ICDS would however impact recognition of expenditure, in as much as the point of recognition of a provision or treatment of an item as a contingent liability, may impact the year of allowability of the corresponding expenditure, since a contingent liability would not be allowed as an expenditure, while a provision would generally be allowable. Provision : The emphasis in ICDS is more on the degree of estimation involved with regard to the expenditure required in settlement, rather than on the uncertainty involved in the timing or amount. Contingent liability: It is a possible obligation that arises from past events and the existence of which will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events (not wholly within the control of the person). Further, it includes a present obligation that arises from past events but is not recognised because reliable estimate cannot be made (or it is not reasonably certain that an outflow of resources embodying economic benefits will be required to settle the obligation). Contingent liability would not be an allowable deduction for the purposes of the computation of the income under the heads Income from business or profession and income from other sources . 2. Recognition:- (i) Provisions: A provision shall be recognised when: a person has a present obligation as a result of a past event it is reasonably certain that an outflow of resources embodying economic benefits will be required to settle the obligation a reliable estimate can be made of the amount of the obligation If these conditions are not met, no provision shall be recognised. ICDS X provide that no provision needs to be made for costs that need to be incurred to operate in future. This is on account of the fact that financial statements deal with the financial position of the entity as at the end of the reporting period, and not its possible position in the future. Therefore, the only liabilities recognised are those that exist at the end of the reporting period. It is only those obligations arising from past events existing independently of a person's future actions, that is the future conduct of its business, that are recognised as provisions, for example penalties or cleanup costs for unlawful environmental damage, decommissioning costs of an oil installation or a nuclear power station. Note: Where a provision for warranties is based on past trends and experience in respect of a large number of goods sold, there would be a reasonable certainty that the expenditure would be incurred on such warranties. Therefore, even under the provisions of ICDS X, provision for warranties would meet the requirement of recognition as a liability if it is in relation to a large number of goods and based on past trends and experience. The Act contains specific provisions for dealing with certain expenditure. Allowability of such expenditure is governed by relevant sections, e.g. provision for contribution to provident fund, gratuity etc. Provision for expenses other than expenses governed by specific section in the Act will be governed by this ICDS. (ii) Contingent Liabilities:- A person shall not recognise a contingent liability. This provision is also consistent with the tax position that a contingent liability is not deductible in computing the total income. (iii) Contingent Assets:- A person shall not recognise a contingent asset. However, subsequent recognition of a contingent asset as an asset and its related income require a lesser degree of certainty under ICDS X, which requires reasonable certainty of inflow of economic benefits. Under ICDS, reasonable certainty would normally mean that there has to be degree of certainty required for recognition of contingent asset and in case of uncertainty there is no need to recognize contingent asset. 3. Measurement:- Best Estimate:- The amount recognised as a provision shall be the best estimate of the expenditure required to settle the present obligation at the end of the previous year. The amount of a provision shall not be discounted to its present value . The amount recognised as asset and related income shall be the best estimate of the value of economic benefit arising at the end of the previous year. The amount and related income shall not be discounted to its present value. 4. Reimbursements:- Under ICDSX, reimbursement would be required to be recognised once there is reasonable certainty. Where some or all of the expenditure required to settle a provision is expected to be reimbursed by another party, the reimbursement shall be recognised when it is reasonably certain that reimbursement will be received if the person settles the obligation. The amount recognised for the reimbursement shall not exceed the amount of the provision. Where a person is not liable for payment of costs in case the third party fails to pay, no provision shall be made for those costs. An obligation, for which a person is jointly and severally liable, is a contingent liability to the extent that it is expected that the obligation will be settled by the other parties. 5. Review:- Provisions shall be reviewed at the end of each previous year and adjusted to reflect the current best estimate. If it is no longer reasonably certain that an outflow of resources embodying economic benefits will be required to settle the obligation, the provision should be reversed. An asset and related income recognised shall be reviewed at the end of each previous year and adjusted to reflect the current best estimate. If it is no longer reasonably certain that an inflow of economic benefits will arise, the asset and related income shall be reversed. 6. Use of Provisions:- Only expenditures relating to the original provisions should be set off against the provisions, and any expenditure should not be set off against a provision recognised for another purpose, as that would conceal the impact of two different events. 7. Transitional Provisions:- These transitional provisions would imply that at the end of the first year in which ICDS is applicable, i.e. the financial year 2016-17, the entity would need to review all past events to see whether any provision is to be recognised or derecognised, and whether any asset is to be recognised or derecognised, in relation to such past events, in accordance with the provisions of this ICDS. 8. Disclosure:- The disclosures under this ICDS are fairly extensive, and need to be made for each class of provision and asset. They are however similar to the disclosures required under AS 29 and under Ind AS 37. The reference in relation to assets and related income should be considered only in relation to recognition of contingent assets as assets, and not to all assets, since the ICDS deals only with contingent assets.