Various Liberalization measures and FDI policy changes are being brought upon by the Indian Government to attract more and more foreign investment in various fields. This opens up the Economy and contributes the development of the Economy to a great extent. Foreign Corporates before taking a plunge in to the Indian Market, would like to test the waters for the business potential, ease of doing business, availability of resources and general economies of scale. There are various methods in which a foreign corporation can set up a place of business in India. In this article we will restrict our focus to understanding procedures involved in establishing a Branch Office (BO), Project office (PO) and a Liaison Office (LO).
GOVERNING REGULATIONS
Establishment in India of a Branch or office or other place of business by a person resident outside India in India is subject to the provisions of Foreign Exchange Management (Establishment in India of Branch or Office or Other Places of Business) Regulations, 2000 which was followed by Foreign Exchange Management (Establishment in India of Branch or Office or Other Places of Business) Amendment Regulations, 2019. The Notification issued in this regard is FEMA 22(R)/2016-RB dated 31.03.2016 as amended from time to time, the latest one being FEMA 22(R)/ (2)/2019-RB dated 21st January 2019. These regulations are made to prohibit, restrict and regulate establishment in India of a branch office or liaison office or project office or any other place of business by a person resident outside India.
No person resident outside India shall without prior approval of the Reserve Bank open in India a branch office or a liaison office or a project office or any other place of business by whatever name called except as laid down in these Regulations.
Regulations not applicable to the following
- A banking company resident outside India shall not require any approval under these Regulations for establishing any office in India if such company has obtained necessary approval under the provisions of the Banking Regulation Act, 1949
- An insurance company resident outside India shall not require any approval under these Regulations for establishing any office in India if such company has obtained approval from the Insurance Regulatory and Development Authority established under section 3 of the Insurance Regulatory and Development Authority Act, 1999.
- A company resident outside India shall not require any approval under these Regulations to establish a branch office in the Special Economic Zones (SEZs) to undertake manufacturing and service activities, subject to the conditions that:
- such branch offices are functioning in those sectors where 100% FDI is permitted;
- such branch offices comply with Chapter XXII of the Companies Act, 2013;
- such branch offices function on a stand-alone basis.
PROCEDURES FOR OPENING A BO/LO/PO/ ANY OTHER PLACE OF BUSINESS IN INDIA
| ELIGIBILITY CRITERIA | PERMISSIBLE ACTIVITIES |
|---|---|
| Any Person Resident outside India has to fulfill the following criteria:
To Establish a BO:
Profit making track record during the immediately preceding 5 financial years in the home country and Net worth of not less than USD 1,00,000 or its equivalent. To Establish a LO: Profit making track record during the immediately preceding 3 financial years in the home country and Net worth of not less than USD 50,000 or its equivalent. Note: A person resident outside India not financially sound, and is a subsidiary of other companies can provide Letter of Comfort from their parent company provided the parent company satisfies the above eligibility criterion |
For BO:
|
|
APPLICATION PROCEDURE:
Form Annex C to be duly submitted with supporting documents to AD Category I Bank. On obtaining permission, BO/LO/any other place should be opened within 6 months. If not, the approval will be cancelled. In case any extension is needed beyond the 6-month period, AD Category I Banker may consider and grant extension for a further period of 6 months. Beyond that, any extension would require RBI approval. |
VALIDITY PERIOD, EXTENSION:
LO: 3 years on initial approval. 2 years in case of Construction and Development Sectors and NBFCs. AD Bankers on application from the entity may extend the period by another 3 years subject to such directions issued by RBI. No further extension for Construction and NBFCs. |
PROJECT OFFICE ESTABLISHMENT
If a Foreign Company has obtained a contract to execute project in India, such Foreign Company may open project office/s in India. The following conditions have to be satisfied:
- The project is funded directly by inward remittances from abroad or
- The project is funded by a bilateral or multilateral international financing agency or
- The project has been cleared by an appropriate authority or
- A Company or entity in India awarding the contract has been granted term loan by a Public Financial Institution or Bank in India for the project.
Note: a bilateral or multilateral International Financing Agency' means the World Bank or the International Monetary Fund or similar other body.
A person from any country other than Pakistan who has been awarded a contract for a project by a Government authority/ Public Sector Undertaking may open a bank account with an Authorized Dealer Category-I bank without any prior approval from the Reserve Bank.
REGISTRATION WITH STATE POLICE AUTHORITIES
A person from Bangladesh, Sri Lanka, Afghanistan, Iran, China, Hong Kong or Macau opening a branch office or a liaison office or a project office or any other place of business in India shall have to register with the concerned State Police Authorities. Copy of approval letter for ‘persons’ from these countries shall be marked by the AD Category-I bank to the Ministry of Home Affairs, Internal Security Division-I, Government of India, New Delhi.
APPROVAL IN CERTAIN CASES FOR ESTABLISHMENT OF BO/LO/PO/OR ANY OTHER PLACE OF BUSINESS
Prior approval of Reserve Bank of India would be mandatory in the following cases:- The applicant is a citizen of or is registered/incorporated in Pakistan;
- The applicant is a citizen of or is registered/incorporated in Bangladesh, Sri Lanka, Afghanistan, Iran, China, Hong Kong or Macau and the application is for opening a liaison, branch or project office in Jammu and Kashmir, North East region and Andaman and Nicobar Islands;
- the principal business of the applicant falls in the four sectors namely Defence, Telecom, Private Security and Information and Broadcasting
- The applicant is a Non-Government Organization, Non-Profit Organization, Body/ Agency/ Department of a foreign government.
Note: Approval of the Reserve Bank of India is not required in case where Government approval or license/permission by the concerned Ministry/ Regulator has already been granted.
OTHER PROVISIONS
LOAN FACILITIES
Authorized Dealer Category-I bank may extend fund and/or non-fund-based facilities to branch office and project offices based on the guidelines issued by the Reserve Bank in this regard.
REMITTANCE OF PROFITS/SURPLUS
BRANCH OFFICE
Branch office may remit outside India profit of the branch net of applicable Indian taxes, on production of the following documents to the satisfaction of the Authorized Dealer Category-I bank through whom the remittance is effected:
- . A certified copy of the audited Balance Sheet and Profit and Loss account for the relevant year.
- A Chartered Accountant’s certificate certifying
- The manner of arriving at the remittable profit;
- That the entire remittable profit has been earned by undertaking the permitted activities and
- That the profit does not include any profit on revaluation of the assets of the branch.
PROJECT OFFICE
Authorized Dealer Category – I bank may permit intermittent remittances by project offices pending winding up / completion of the project subject to submission of the following:
- certified copy of the final audited project accounts;
- The statutory auditor’s certificate showing the manner of arriving at the remittable surplus and confirming that sufficient provisions have been made to meet the liabilities in India including Income Tax, etc.; and
- An undertaking from the project office that the remittance will not, in any way, affect the completion of the project in India and that any shortfall of funds for meeting any liability in India will be met by inward remittance from abroad.
ACQUISITION OR PROPERTY
Acquisition of property by branch office/project office shall be governed by the guidelines issued under Foreign Exchange Management (Acquisition and transfer of immovable property outside India) Regulations.
TRANSFER OF ASSETS
A person resident outside India permitted under these Regulations to establish a branch office or liaison office or project office may apply to the concerned Authorized Dealer Category-I bank for transfer of its assets to a Joint Venture/Wholly Owned Subsidiary or any other entity in India.
ANNUAL ACTIVITY CERTIFICATE
-
The branch office/liaison office may submit the Annual Activity Certificate (Annex D) as at the end of March 31 along with the audited financial statements including receipt and payment account on or before September 30 of that year.
- In case the annual accounts of the office are finalized with reference to a date other than March 31, the AAC along with the audited financial statements may be submitted within six months from the due date of the Balance Sheets to the Authorized Dealer Category-bank and the Director General of Income Tax (International Taxation).
- AAC from a Chartered Accountant showing the project status and certifying that the accounts of the project office have been audited and the activities undertaken are in conformity with the general/ specific permission given by the Reserve Bank may be submitted by the project office to the designated Authorized Dealer Category-I bank.
CONCLUSION
BO/LO can be the right option to understand the prospects of establishing a full-fledged business in India by Persons Resident outside India. The Process and documentation are fairly simple and straight forward. Yet the time involved in setting up a branch after going through the procedures of getting the approval form Reserve Bank of India through the Authorized Dealers seems to be longer than setting up a Subsidiary in India. The Tax impact for surplus earned in India also is higher for a Branch when compared to a Subsidiary. Any who wants to invest in India have to take a clear call on what type of establishment suits their needs the best and proceed accordingly.
Companies Act 2013
CA Santhipriya S
COMPANIES’ DIRECTORS AND THEIR ROLES
In this article, we have tried to cover certain important aspects relating to director’s roles and responsibilities in any Company at the time of their appointment, during the term of their office and post resignation from their office as Director of a company. We have not covered the responsibility of the Company during the appointment, term and resignation/retirement of the director as we have tried to highlight the compliances and provisions relating to the Directors only.
Director Identification Number
As per Section 153 & 154, every individual intending to be appointed as Director in any Company, shall make an application in Form DIR 3 to the Central Government for allotment of Director Identification Number (DIN). The Central Government within one month of receipt of such application allot a DIN to such individual. And as per Section 152(3), no person shall be appointed as director of a Company unless he has been allotted DIN by the Central Government. It is prohibited to apply for a duplicate DIN when the Individual has already been allotted a DIN. Any company appoints a director who was not allotted DIN at the time of the appointment or any Director who has more than one DIN will be liable to penalty which may extend to Rs.50000 and where the default is continuous one, the penalty may extend to Rs.500 per day until such default continues.
Thus, DIN is the first and mandatory application one should apply for and get allotted before being appointed as Director in any company.
Appointment of Directors
- A person appointed as Director by the Company cannot act as a director unless he gives his consent to hold the office in Form DIR 2 and the same has been filed by the Company with the Registrar in Form DIR 12 within 30 days of such appointment.
- Thus, in addition to the appointment letter given by the Company, the director has to submit his consent to act as director to the Company and the same has to be filed by the Company with the registrar before the director assumes his office of Director of the Company.
Disqualification for appointment of Director
A person will not be eligible to appointed as director if
- He is of unsound mind and stands so declared by a competent court;
- He is an undischarged insolvent
- He has applied to be adjudicated as an insolvent and his application is pending;
- He has been convicted by a court of any offence, whether involving moral turpitude or otherwise, and sentenced in respect thereof to imprisonment for not less than six months and a period of five years has not elapsed from the date of expiry of the sentence:
- An order disqualifying him for appointment as a director has been passed by a court or Tribunal and the order is in force;
- He has not paid any calls in respect of any shares of the company held by him, whether alone or jointly with others, and six months have elapsed from the last day fixed for the payment of the call;
- He has been convicted of the offence dealing with related party transactions at any time during the last preceding five years; or
- He has not complied with sub-section (3) of Section 152, i.e., he was not allotted DIN at the time of appointment.
- He has not complied with the provisions of sub-section (1) of section 165 i.e, he holds office as Director in more number of Companies than it is allowed. We will cover the number of Directorships allowed in later section of this article.
- A person who is or has been a director of a company which
- Has not filed financial statements or annual returns for any continuous period of three financial years; or
- Has failed to repay the deposits accepted by it or pay interest thereon or to redeem any debentures on the due date or pay interest due thereon or pay any dividend declared and such failure to pay or redeem continues for one year or more,
Provided that if a person has been convicted of any offence and sentenced in respect thereof to imprisonment for a period of seven years or more, he shall not be eligible to be appointed as a director in any company;
Thus, any person disqualified according to any of the provisions above, will not be eligible for being appointed as director in any Company.
Will not be eligible to be re-appointed as a director of that company or appointed in any other company for a period of five years from the date on which the said company fails to do so. Where a person is appointed as a director of a company which is in default of clause (a) or clause (b), he shall not incur the disqualification for a period of six months from the date of his appointment.
Number of Directorships
The maximum number of Companies in which one person can hold office as director, including as an alternate director is 20 Companies. Out of the 20 Companies, the maximum number of Public companies for which he can be director is only 10 Companies. For computing the number of Public companies for which he can be director, Private Companies which are subsidiary of a public company shall be included. Directorship in any Dormant company shall not be considered in computing the overall limit of 20 Companies.
Where a person holds office as Director in more than the limits specified above, he/she will be disqualified from being appointed as Director as we have discussed earlier and will be liable to penalty of Rs.5000 per day for the continuing days of contravention of these provisions.
Duties of Director- A director shall act in accordance with the articles of the Company
- He shall act in good faith to promote the objects of the Company for the benefit of the members as whole, and in the best interests of the Company, employees, shareholders, the Community and protection of environment
- He shall exercise his duties with reasonable care, skill and diligence and shall exercise independent judgement.
- He shall not involve in a situation which may directly or indirectly conflict the interest of the company.
- He shall not attempt to achieve undue gain or advantage, if he is found guilty of such undue gain or advantage, he shall pay of an amount equal to such undue gain to the Company.
- He shall not assign his office. Such assignment if so made will be void.
- If a director contravenes any of the provisions above, he shall be punishable with fine which shall not be less than one lakh rupees but which may extend to five lakh rupees.
Vacation of office of Director
The office of a director will become vacant, if:- he incurs any of the disqualifications specified above, Provided that where he incurs disqualification under 164(2) i.,e where the company defaults with respect to annual returns or filing or deposits, the office of the director shall become vacant in all the other companies, other than the company which is in default under that sub-section
- He absents himself from all the meetings of the Board of Directors held during a period of twelve months with or without seeking leave of absence of the Board;
- he acts in contravention of the provisions of section 184 relating to entering into contracts or arrangements in which he is directly or indirectly interested;
- he fails to disclose his interest in any contract or arrangement in which he is directly or indirectly interested, in contravention of the provisions of section 184;
- He becomes disqualified by an order of a court or the Tribunal;
- He is convicted by a court of any offence, whether involving moral turpitude or otherwise and sentenced in respect thereof to imprisonment for not less than six months:
Provided that the office shall not be vacated by the director in case of orders referred to in clauses (e) and (f)
- For thirty days from the date of conviction or order of disqualification;
- Where an appeal or petition is preferred within thirty days as aforesaid against the conviction resulting in sentence or order, until expiry of seven days from the date on which such appeal or petition is disposed of; or
- Where any further appeal or petition is preferred against order or sentence within seven days, until such further appeal or petition is disposed of
- He is removed in pursuance of the provisions of this Act;
- He having been appointed a director by virtue of his holding any office or other employment in the holding, subsidiary or associate company, ceases to hold such office or other employment in that company.
Resignation of Director
- A Director can resign from his office by giving a notice in writing to the Company and the Board on receipt of such notice, shall take note of the same and the Company shall within 30 days of such receipt shall intimate the registrar in Form DIR 12 and also the facts of such resignation shall be disclosed in the Director’s report in the immediately following general meeting of the Company.
- Also, the Director may forward such notice to the Registrar within 30 days in Form DIR 11 along with detailed reasons for resignation.
- The resignation shall take effect from the date on which the notice is received by the Company.
- The Director will continue to be liable even after resignation for the offences occurred during his tenure.
Removal of Director by the Company
A Company by an ordinary resolution, remove a director before the expiry of the period of his office after giving him reasonable opportunity of being heard. The Company shall send a notice copy of resolution to remove the director to the director concerned. And the director shall be entitled to make a representation to be heard at the meeting.
Where notice has been given of a resolution to remove a director under this section and the director concerned makes with respect thereto representation in writing to the company and requests its notification to members of the company, the company shall, if the time permits it to do so
- In any notice of the resolution given to members of the company, state the fact of the representation having been made; and
- Send a copy of the representation to every member of the company to whom notice of the meeting is sent (whether before or after receipt of the representation by the company), and if a copy of the representation is not sent as aforesaid due to insufficient time or for the company’s default, the director may without prejudice to his right to be heard orally require that the representation shall be read out at the meeting
Provided that copy of the representation need not be sent out and the representation need not be read out at the meeting if, on the application either of the company or of any other person who claims to be aggrieved, the Tribunal is satisfied that the rights conferred by this sub-section are being abused to secure needless publicity for defamatory matter; and the Tribunal may order the company’s costs on the application to be paid in whole or in part by the director notwithstanding that he is not a party to it.
TAXATION
CA Srinidhi S
Sabka Vishwas Legacy Dispute Resolution Scheme, 2019 - High time for the Government to resolve pre-GST era litigations
Introduction
There has been a lot of debate and discussion with regard to the alarming scale of pending litigations in the field of indirect taxes relating to the Pre-GST era. Lately, the impact of such disturbing scale of pending litigations has driven the Finance Ministry to design an amnesty scheme, namely, Legacy Dispute Resolution Scheme in order to get rid of such menacing phenomena. Accordingly, the Hon'ble Finance Minister in her budget speech during the course of declaration of the said scheme on the floor of Parliament stated the following:
- "GST has just completed two years. An area that concerns me is that we have huge pending litigations from pre-GST regime. More than Rs. 3.75 lakh crore is blocked in litigations in service tax and excise. There is a need to unload this baggage and allow business to move on. I, therefore, propose, a Legacy Dispute Resolution Scheme that will allow quick closure of these litigations. I would urge the trade and business to avail this opportunity and be free from legacy litigations."
The proposed Scheme covers past disputes of taxes which have been subsumed under GST, i.e., Central Excise, Service Tax and Cess and other acts as well such as the Rubber Act, 1947, the Textiles Committee Act, 1963, etc., as provided in clause 121 of the Finance Bill, 2019.
The relief under the scheme varies from 40% to 70% of the Tax Dues for cases other than voluntary disclosure cases, depending on the amount of tax dues involved. The scheme also provides relief from payment of interest and penalty.
Meaning of tax dues
| S.No. | Scenarios | Meaning |
|---|---|---|
| 1 | If a single appeal arising out of order is pending as on 30.06.2019 | Total amount of duty which is disputed |
| 2 | If more than one appeal arising out of an order, one by the declarant and other being a departmental appeal which is pending as on 30.06.2019 | Sum total of amount disputed by both declarant & Department |
| 3 | Where SCN has received under any Indirect Tax Act on or before 30.06.2019 | Amount of duty payable as per SCN |
| 4 | Where enquiry or investigation or audit is pending | Amount of duty payable quantified on or before 30.06.2019 |
| 5 | Amount voluntarily disclosed by declarant | Amount of disclosed duty |
| 6 | Where an amount in arrears relating to the declarant is due | Amount in arrears. |
Important Terms
| (a) |
Amount in Arrears - It means the amount of duty which is recoverable as arrears of duty under the Indirect tax (IDT) enactment on account of
|
|---|---|
| (b) | Amount of Duty - It means the amount of central excise duty, the service tax and the cess payable under the IDT enactment. |
Relief available under the scheme
| S. No. | Scenarios | Amount Involved | Relief |
|---|---|---|---|
| 1 | Tax dues relatable to SCN or appeal arising out of such SCN which is Pending as on 30.06.2019 | Less than or equal to Rs. 50 lakhs | 70% of tax dues |
| More than Rs. 50 lakhs | 50% of tax dues | ||
| 2 | Tax dues relatable to SCN for late fee or penalty only and the amount of duty has been paid or is NIL | Entire amount of late fees or penalty | |
| 3 | Tax Dues are relatable to amount in arrears | Less than or equal to Rs. 50 lakhs | 60% of tax dues |
| More than Rs. 50 lakhs | 40% of tax dues | ||
| 4 | Tax dues are relatable to amount in arrears and the amount of duty is indicated as payable but not paid, in the IDT return | Less than or equal to Rs. 50 lakhs | 60% of tax dues |
| More than Rs. 50 lakhs | 40% of tax dues | ||
| 5 | Tax dues are linked to an enquiry, investigation or audit against the declarant and the amount quantified on or before 30.06.2019 | Less than or equal to Rs. 50 lakhs | 70% of tax dues |
| More than Rs. 50 lakhs | 750% of tax dues | ||
| 6 | Where the tax dues are payable based on the return being filed after 30.06.2019 on account of a voluntary disclosure by the declarant | No relief |
Eligible persons under the scheme
All persons shall be eligible to make a declaration under this scheme EXCEPT:| a | Where appeal filed before the appellate forum and final hearing has taken place on or before 30.06.2019 |
|---|---|
| b | Who have been convicted for any offence punishable under any provision of the IDT enactment for the matter for which he intends to file a declaration |
| c | Where SCN has been issued under IDT enactment and final hearing has taken place on or before 30.06.2019 |
| d | Who have been subjected to any enquiry or investigation or audit and amount of duty involved has not been quantified on or before 30.06.2019 |
| e | A person making a voluntary disclosure,
|
| f | Persons seeking to make declarations with respect to excisable goods set forth in the Fourth Schedule to the Central Excise Act, 1944; |
| g | Who have filed an application in the Settlement Commission for settlement of a case. |
The following shall be considered as inclusions & exclusions under the scheme
| S.No | Inclusions | Exclusions |
|---|---|---|
| 1 | An appeal arising out of order is pending as on 30.06.2019 | Order is not passed where hearing has been finally conducted before 30.06.2019 |
| 2 | SCN has received under any Indirect Tax Laws on or before 30.06.2019 | Cases involving erroneous refunds |
| 3 | Enquiry or investigation or audit is pending | An audit, enquiry or investigation has started but the amount of duty payable has not been quantified on or before 30.06.2019 |
| 4 | Amount voluntarily disclosed by declarant | Adjudication order determining the duty/tax liability is passed and received prior to 30.06.2019, but the appeal is filed on or after 01.07.2019 |
| 5 | Arrears due on account of:
|
Persons dealing with the goods mentioned in the Fourth Schedule to the Central Excise Act, 1944 |
| 6 | A person has once been convicted for any offence punishable under any provision of the indirect tax enactment in respect of any matters. | A person has been convicted for any offence punishable under any provision of the indirect tax enactment in respect of the same matter for which he intends to file a declaration. |
Advantages of the Scheme
| (a) | Best time to liquidate uncertain liabilities |
|---|---|
| (b) | Save interest and penalty and Litigation Cost |
| (c) | Loss of accumulated credit as payment to be made in cash |
| (d) | If any amount has already been paid and is more than the amount payable under the scheme, the balance is not refundable. |
| (e) | If a SCN covers multiple issues, the person cannot file an application under the scheme for only few issues covered in the SCN, i.e., he has to file the application for the entire amount of tax dues as per the SCN. |
Conclusion
The legacy dispute resolution scheme is a welcome step, not only to reduce pending litigation but also to bring in a onetime additional revenue to the Government, with a complete waiver of interest, penalty and prosecution and part waiver of tax dues.
Trending Topics
CA Rohit Ravi
IND AS 116 – LEASES
BACKGROUND
On 30th March 2019, MCA notified IND AS 116 – Leases as part of the Companies (Ind AS) Amendment Rules 2019. Ind AS 116 replaces existing standard on Leases Ind AS 17 with effect from accounting period beginning on or after 01st April 2019. Ind AS 116 converged with IFRS 16.
The previous accounting model for leases required lessees and lessors to classify their leases as either finance leases or operating leases and account for those two types differently. That model failed to provide a faithful representation of leasing transactions.
The objective of Ind AS 116 is to ensure that lessees and lessors provide relevant information in a manner that faithfully represents leasing transactions. This information gives a basis for the users of financial statements to assess the effect that leases have on financial position, financial performance and cash flows of an entity.
KEY CHANGES
The key changes as per Ind AS 116 are for lessee. In case of existing operating lease, now there is a single accounting model for lessee ELIMINATING THE CLASSIFICATION OF OPERATING AND FINANCE LEASE. The lessor accounting remains unchanged. A lessee would be required to recognise a lease liability reflecting future lease payments and a ‘right-of-use asset’ for almost all lease contracts.
LEASE
It is a contract whereby the lessor conveys to the lessee the RIGHT TO USE AN ASSET for an agreed PERIOD OF TIME in exchange FOR CONSIDERATION.
RIGHT TO USE
It means the RIGHT TO CONTROL the use of an IDENTIFIED ASSET over a PERIOD OF TIME. Further, a customer is required to have the right to obtain SUBSTANTIALLY ALL THE ECONOMIC BENEFITS from use of the asset, THROUGHOUT the period.
Illustration –
Customer enters into a contract with a ship owner (supplier) for transportation of cargo from Chennai to Melbourne on a specified ship. The ship is explicitly specified in the contract and supplier does not have substitution rights. The cargo will occupy substantially all the capacity of the ship. The contract specified the cargo to be transported on the ship and the dates of pickup and delivery.Supplier operates and maintains the ship and is responsible for the safe passage of the cargo on board the ship. customer is prohibited from hiring another operator for the ship or operating the ship itself during the terms of the contract.The contract does not contain a lease as the customer does not have the right to control the use of the ship. Also the customer does not have the right to direct how and for what purpose the ship is used.
SUBSTANTIVE RIGHT TO SUBSTITUTE
Customer does not possess the right to use if the supplier has the substantive right to substitute the asset throughout the period.The following conditions shall be satisfied for right to substitute to exist –
- Supplier has the practical ability to change the space used by the customer throughout the period,
- Supplier would benefit economically from substituting the space.
Note: If the above right is available only after a particular date or event, such right shall not be substantive because the supplier does not have the practical ability to substitute alternative asset throughout the period of use.
LEASE TERM
It begins from the COMMENCEMENT DATE i.e. the date on which the lessor makes an underlying asset available for use by the lessee. It is also the date on which the lessee recognises right to use and lease liability.
Lease term also includes rent-free periods provided to lessee.
LEASE PAYMENTS
Payments made by LESSEE TO LESSOR relating to right to use an underlying asset DURING LEASE TERM. It also includes IN-SUBSTANCE FIXED LEASE PAYMENTS. In-substance fixed lease payments are amounts that may be variable but payments are unavoidable.
SHORT-TERM AND LOW-VALUE LEASES
- In these cases, simplified approach for recognition is adopted i.e. lease rentals are recognised as expense over the lease term.
- Short-term lease means the lease term is NOT MORE THAN 12 MONTHS from commencement date.
- Low-value leases are those that satisfy the following conditions –
- Lessee can benefit from use of the asset on its own or together with resources that are readily available;
- Underlying asset is not highly dependent or highly interrelated with other assets.
Note: An asset cannot be low-value asset if the nature of the asset, WHEN NEW, is typically not of low value. Also, leases do not classify as low-value lease if lessee SUBLEASES or expects to sub-lease the asset.
Example – Tablet, personal computers, telephones etc.
Expense can be recognised over the lease term in the following ways
- Straight line basis; or
- Any other systematic basis representing lessee’s accrual of benefits.
Illustration –
Entity ABC leases office equipment for 5 years. The total value of the equipment when new is Rs 5,000 (determined to be low value). Entity ABC elects to apply the low-value asset exemption. The lease payments payable are –
- Year 1 – Nil (rent-free period)
- Year 2 to 3 – Rs 1,750 per year
- Year 4 to 5 – Rs 1,500 per year
- In addition, the lessee receives a lease incentive of Rs 500.
- Adoption straight-line basis over the lease term –
- Total payments = Rs 6,000
- Length of Lease = 5 years
- Straight lined lease expense recognised = Rs 1,200
ACCOUNTING FOR LEASES – BOOKS OF LESSEE
It can be broadly classified into two types –- Record as asset and liability; or
- Expense the lease rentals in case of “Short-term” or “Low-value” leases.
INITIAL MEASUREMENT OF RIGHT-TO-USE ASSET
At the commencement date, a lessee shall measure the right-to-use asset AT COST. The cost shall comprise of the following –| Add: |
|
| Less: | Lease incentives received |
Initial measurement of lease liability which includes –
- Present value of lease rentals and present value of expected payments at the end of the lease.
- Fixed payments less lease incentives.
- Variable lease payments that depend on index or rate.
- Residual guarantee value.
- Exercise price of purchase option if the lessee is reasonably certain to exercise that option.
- Payments of penalties on termination of lease, if lease term reflects lessee terminating the lease.
- Any lease payments made AT OR BEFORE the commencement date less any lease incentive received;
- Any DIRECT COST incurred by the lessee; and An estimate of costs to be incurred by the lessee DISMANTLING AND REMOVING the underlying asset to the conditions by the terms and conditions of the lease.
SUBSEQUENT MEASUREMENT
The lessee has the following options w.r.t subsequent measurement of leases –- Cost Model
- Revaluation Model
COST MODEL
Under the cost model, the right to use asset is measured –At cost less any accumulated depreciation less any accumulated impairment losses.
REVALUATION MODEL
Under the revaluation model the right-to-use asset is recognised and revalued at fair value at the end of each reporting period.
LEASE MODIFICATION
It means the CHANGE IN SCOPE of the lease or the CONSIDERATION FOR A LEASE, that are not part of the original terms and conditions of the lease. It can be accounted in the following two ways –
SEPARATE LEASE
The following two conditions shall be satisfied to account for lease modification as a separate lease –- Modification increases the scope of lease by adding right-to-use of the underlying asset;
- Consideration increases in line with the stand-alone prices.
NOT AS A SEPARATE LEASE
The following steps shall be followed in the above case –- Allocate consideration for modified contract.
- Determine the lease term in the modified contract.
- Re-measure the lease liability with revised discount rate.
PRESENTATION REQUIREMENTS FOR LESSEE
The lessee shall either present in the BALANCE SHEET or DISCLOSE IN THE NOTES –- Right-to-use assets separately from other assets. If the lessee does not present the asset separately, the lessee shall –
- Include right-to-use assets within the same line item as that within which the corresponding underlying asset would be presented if they owned; and
- Disclose which line items in the balance sheet include those right-to-use assets.
- Lease liabilities separately from the other liabilities. If the lessee does not present the liability separately, the lessee shall disclose which line items in the balance sheet include those liabilities.
In the Statement of Profit and Loss, the lessee shall present interest expense on the lease liability SEPARATELY from the depreciation charge on the asset. Interest expense is a COMPONENT OF FINANCE COSTS.
In the Statement of Cash Flows, the lessee shall classify –
- Cash payment for principal portion of the lease liability within Financing Activities.
- Cash payment for interest component on the lease liability within Financing Activities.
- Short-term leases and low-value leases within operating activities.
ILLUSTRATION
Company P (Lessee) entered into a lease arrangement for a period of 5 years with Company Q (Lessor) for occupying lessor’s warehouse. The lease rental is Rs 150,000 per year. The interest rate implicit in the lease is 10% per annum. It is assumed that there are no other terms like lease incentives, variable lease rental, initial direct cost, obligation for restoration costs, lessee’s right to renew the arrangement, etc., in the lease arrangement.
The warehouse has a remaining useful life of 30 years and fair value of Rs 50 lakhs. It is assumed that the above lease arrangement is an operating lease under Ind AS 17.
The net present value of lease rentals of INR 150,000 for a period of 5 years at 10% discount rate amounts to Rs 568,618.
On the commencement date, Company P recognises a lease liability and right-of-use assets of Rs 568,618 in its balance sheet. The below table summarises the treatment of above lease arrangement under Ind AS 116 in Balance Sheet and Statement of Profit and Loss of lessee.
Company P recognises interest expenses on lease liability and depreciation on right-of-use assets in the statement of profit and loss, it would recognise the operating lease rental expenses under Ind AS 17 as a part of operating expenses. Accordingly, Ind AS 116 is expected to have a favourable impact on EBITDA as compared to Ind AS 17.
Further, while in the initial years the total expenses comprising of depreciation and interest expense under Ind AS 116 is expected to be higher as compared to lease rental expense under Ind AS 17, the total expenses over the lease term under Ind AS 116 and Ind AS 17 will remain at the same level.
ACCOUNTING IN THE BOOKS OF LESSOR:
Accounting by lessor shall be in the SAME MANNER as that provided under Ind AS 17 – Leases. The lessor SHALL CLASSIFY the leases as OPERATING LEASES AND FINANCE LEASES for the purpose of accounting.
Following conditions shall decide whether the lease is a finance lease which are DETERMINISTIC IN NATURE –
- The lease transfers ownership to the lessee of the underlying asset at the end of the lease term.
- The lessee has the option to purchase the underlying asset at a price which is expected to be significantly lower than the fair value at the date of option.
- The lease term is for a major part of the economic life of the underlying asset.
- At the inception of the lease, the present value of the minimum lease payments amounts to at least substantially all of the fair value of the underlying assets.
- The undlerying asset is of a specialised nature that only the lessee can use it without substantial modifications.
- If the lessee can cancel the lease, the lessor’s losses associated with the cancellation are borne by the lessee.
Following conditions shall decide whether the lease is a finance lease which are SUGGESTIVE IN NATURE –
.- If the lessee can cancel the lease, the lessor’s losses associated with the cancellation are borne by the lessee.
- Gains or losses from the fluctuation in fair value of the residual accrued to the lessee.
- The lessee had the ability to continue the lease for the secondary period at a rent which is significantly lower than the market rate.
DISCLOSURE REQUIREMENTS FOR LESSEE
A lessee shall disclose the following amounts FOR THE REPORTING PERIOD –- Depreciation charge for right-to-use underlying assets.
- Interest expense on the lease liabilities.
- Expense relating to short-term leases.
- Expense relating to low-value leases.
- Income from subleasing of right-to-use assets.
- Total cash outflow for leases.
- Additions to right-to-use assets.
- Carrying amount of right-to-use assets at the end of reporting period.