Sunday, 12 March 2017

FAQ ON MAT COMPUTATION UNDER IND AS.

(A) MAT Computation in the first year of adoption of Ind AS

The Phase I companies are adopting Ind AS during the current financial year ending 31 March 2017 with comparative year 31 March 2016 and transition date of 1 April 2015. For accounting purposes on account of first time adoption of Ind AS, transition adjustments are recorded in opening equity as at 1 April 2015. However, for MAT purposes, the transition adjustments as of 31 March 2016 shall be considered for computation of MAT liability for the previous year 2016-17 (assessment year 2017-18) and thereafter.
The transition adjustments will be included in the book profit for the purpose of computation of MAT liability as follows:



1. Transition adjustments in Other Comprehensive Income (‘OCI’) which will be reclassified to profit or loss:

The transition adjustments recorded in OCI which would subsequently be reclassified to the profit or loss, will be included in book profit of the financial year in which these items are reclassified to the profit or loss.

2. Transition adjustments in OCI which will not be reclassified to profit or loss:

The transition adjustments recorded in OCI which would never be subsequently reclassified to the profit or loss shall be included in book profit as under:





Item of other comprehensive income
 Treatment for MAT purposes (Point of time)
 a.
 Revaluation surplus of Property, Plant and Equipment (PP&E) and Intangible assets
 To be included in book profit of the financial year in which the asset is retired, disposed, realised or otherwise transferred
 b.
 Gains and losses from investments in equity instruments designated at fair value through OCI
 To be included in book profit of the financial year in which the investment is disposed, realised or otherwise transferred.
 c.
 Any other item such as remeasurements of defined benefit plans
 To be included in book profit equally over a period of five years starting from the year of first time adoption of Ind AS
 
3. Other transition adjustments recorded in other equity:

Other adjustments recorded in other equity as referred to in Division II of Schedule III of Companies Act, 2013 (excluding capital reserve, equity component of compound financial instruments and securities premium reserve) shall be included in the book profit, equally over a period of five years starting from the year of first time adoption of Ind AS with the following exceptions:







#
 Transition adjustment
 Treatment for MAT purposes (Point of time)
 a.
 Adjustments relating to PP&E and Intangible assets recorded at fair value as deemed cost (Para D5 and D7 of Ind AS 101, First-time adoption of Ind AS)
 Adjustment on account of fair valuation to be ignored. The fair value changes shall be included in the book profit of the financial year in which the asset is retired, disposed, realised or otherwise transferred.
 b.
 Adjustments relating to investments in subsidiaries, joint ventures and associates at fair value as deemed cost (Para D15 of Ind AS 101)
 To be included in book profit of the financial year in which the investment is disposed, realised or otherwise transferred.
 c.
 Adjustments relating to cumulative translation differences of a foreign operation (such as foreign branch) (Para D13 of Ind AS 101)
 To be included in book profit of the financial year in which the foreign operation is disposed or otherwise transferred
 

(B) MAT Computation in all subsequent years

·         No further adjustments shall be made to the profit before other comprehensive income, other than those already specified under section 115 JB of the Act, transition adjustments and gains or losses on account of demergers as discussed in FAQ no. 25 below.    
 
·         The book profit shall be adjusted for items of OCI which will not be reclassified to profit or loss as follows:





#
 Item of other comprehensive income
 Treatment for MAT purposes (Point of time)
 a.
 Changes in revaluation surplus of PP&E and Intangible assets
 To be included in book profit of the financial year in which the asset is retired, disposed, realised or otherwise transferred.
 b.
 Gains and losses from investments in equity instruments designated at fair value through OCI
 To be included in book profit of the financial year in which the investment is disposed, realised or otherwise transferred.
 c.
 Any other item such as remeasurements of defined benefit plans
 To be included in book profit every year as the gains and losses arise
 
MAT credit entitlement

Under the existing provisions, a company is eligible for MAT credit to the extent of excess of MAT liability over the tax liability under the normal provisions of the Act. The Finance Bill - 2017 has proposed to increase the time limit for carry forward and utilisation of MAT credit from 10 to 15 years. This proposed amendment shall be applicable from assessment year 2018-19 onwards. This could potentially result in recognition of higher deferred tax assets on account of MAT credit due to availability of a longer period to carry forward and utilise MAT credit.



Frequently Asked Questions (FAQs)

1. What is the starting point for computation of MAT liability under Ind AS?

As per the Finance Bill - 2017, the starting point for computation of MAT liability is profit before other comprehensive income reported in Ind AS compliant financial statements. This profit shall be first adjusted for items which are specified in the existing provisions of section 115JB of the Act and thereafter adjustments shall be made for specific Ind-AS related items provided above in the proposed amendments.

2. How will items of OCI which will be reclassified to profit or loss be treated for computation of MAT liability?

The proposed amendments state that book profit for MAT purposes (discussed in FAQ 1 above) shall be increased/decreased by all amounts credited/debited to OCI that will not be re-classified to profit or loss, except certain specified exclusions. There is no adjustment proposed for items of OCI that will be re-classified to profit or loss. Accordingly, OCI items that will be reclassified to profit or loss shall be included in the book profit for MAT purposes in the year of such reclassification.

3. How will the changes in fair value of investment in equity instruments designated at fair value through OCI be considered for computation of MAT liability?

The changes in fair value of such equity instruments will be included in book profit of the financial year in which the investment is disposed, realised or otherwise transferred.

4. An entity has elected to use fair value as deemed cost on transition to Ind AS for investment in a subsidiary in its separate financial statements. How should this transition adjustment be considered for computation of MAT liability?

The Finance Bill - 2017 proposes that adjustment arising from use of fair value as deemed cost for investment in subsidiaries, associates and joint ventures shall be included in the book profit of the financial year in which the investment is disposed, realised or otherwise transferred. Therefore, such fair valuation is to be ignored for MAT purposes till actual disposal of the investment.

5. An entity uses revaluation model to subsequently measure certain class of PP&E as per Ind AS 16, Property, plant and equipment. When will revaluation reserve be included in book profit for MAT purpose? What will be the amount of such adjustment? Can additional depreciation on account of revaluation be considered as deduction for MAT purposes?

As per the Finance Bill - 2017, revaluation surplus related to an item of PP&E will be included in the book profit of the financial year in which such asset is retired, disposed, realised or otherwise transferred.
Under Ind AS, companies have an option to transfer certain portion of the revaluation surplus to retained earnings as the asset is used. In such case, the amount of surplus that can be transferred is the difference between the depreciation computed based on the asset’s revalued carrying amount and original cost. Similar accounting option also exists under the Indian GAAP.
The existing provisions of Section 115 JB of the Act state that, when a revalued asset is retired or disposed, the amount standing in revaluation reserve relating to the asset is included in the computation of book profit for MAT purposes. Accordingly, for companies following the Indian GAAP, the amount of the adjustment to book profit is the amount standing in revaluation reserve (i.e. net of any transfer to retained earnings to compensate the additional depreciation on account of revaluation).

For companies following Ind AS, literal interpretation of Finance Bill - 2017 seems to suggest that amount of such adjustment will be the aggregate amount of revaluation surplus recorded in OCI related to that asset for the current and preceding financial years (irrespective of the carrying amount of the revaluation reserve in the books). This will result in higher book profit for MAT purposes for companies following Ind AS compared to those following Indian GAAP to the extent of the amount of revaluation surplus transferred to retained earnings discussed above. This is illustrated by the following example:

An item of PP&E with an original cost of INR 100 has been revalued to INR 150 and is subsequently sold in next year for INR 150. The asset’s useful life is 5 years. The company has opted to transfer revaluation surplus to retained earnings to the extent of the additional depreciation on revaluation.








Particulars
 Company A (Ind AS)
INR
 Company B (Indian GAAP)
INR
 Original cost
 100
 100
 Revalued carrying value
 150
 150
 Revaluation surplus (gross) (A)
 50
 50
 Transfer to retained earnings to the extent of additional depreciation (B)
 (10)
 (10)
 Revaluation surplus (net) on the date of disposal (A-B)
 40
 40
 Depreciation for year 1 in statement of profit and loss (150/5). This includes INR 10 related to revaluation
 30
 30
 Carrying value on the date of disposal
 120
 120
 
Under Ind AS, on disposal of the PP&E, INR 80 (i.e. 150– 120+50) shall be included in the book profit for MAT purposes as compared to INR 70 (i.e. 150-120+40) under Indian GAAP. The higher MAT profit of INR 10 under Ind AS represents the amount of revaluation surplus transferred to retained earnings to the extent of the additional depreciation.

Further, it is to be noted that additional depreciation on account of revaluation (INR 10 in the above example) cannot be claimed as deduction from book profit considering the existing provisions of section 115JB of the Act.


6. An entity has elected to use fair value as deemed cost for an item of PP&E on transition to Ind AS. Subsequently, the PP&E is measured at cost. How should this transition adjustment be considered for computation of MAT liability?

As per the Finance Bill - 2017, transition adjustment arising on use of fair value as deemed cost for PP&E and intangible assets in accordance with paragraph D5 and D7 of Ind AS 101 will be included in the book profit of the financial year in which the item of PP&E is retired, disposed, realised or otherwise transferred. It should be noted that depreciation for the purpose of computation of book profit for subsequent years will exclude impact of such fair value adjustment – which is in line with the requirements of the existing MAT provisions of section 115JB of the Act.


7. An entity had revalued certain items of PP&E under previous Indian GAAP. On transition to Ind AS, it has elected deemed cost exemption to carry all of its PP&E at the previous GAAP carrying values. PP&E are subsequently measured at cost. Since deemed cost includes the revaluation performed under previous GAAP, can depreciation on such revaluation be availed for computation of MAT liability?

Under Ind AS, when an entity elects previous GAAP deemed cost exemption, then the carrying value of the asset under the previous Indian GAAP (including revaluation) is deemed to be the cost of the asset going forward. Though such assets are subsequently measured at cost, however, Explanation 1 to section 115JB (2) of the Act, disallows additional depreciation on account of revaluation of assets for MAT purposes. Neither, the proposed amendments permit claim of enhanced depreciation on such revaluation recorded under the previous Indian GAAP. Accordingly, the additional depreciation on such deemed cost of PP&E to the extent of revaluation recorded in the previous GAAP, will not be deductible for MAT purposes.
8. Further to the previous question, if the revalued asset is sold after the date of transition, will such revaluation amount be included in the book profit of the financial year in which the asset is sold for computation of MAT liability?

Para 11 of Ind AS 101, requires adjustments on transition to Ind AS to be directly recognised in retained earnings (or if appropriate, another category of equity). Since the asset is subsequently measured at cost under Ind AS, the revaluation reserve disclosed under the previous Indian GAAP, will be transferred to retained earnings (or if appropriate, another category of equity) on date of transition. On a combined reading of the proposed amendments with the existing provisions of section 115JB of the Act, it appears that only the amount standing in revaluation reserve on the retirement or disposal of revalued asset shall be included in book profit. Since, there will be no amount standing in revaluation reserve on the date of disposal or retirement, it appears that no adjustment will be required to the book profit for MAT purposes on disposal or retirement of asset.

This may result in an unintended outcome, because it is inconsistent with the situation where an entity uses revaluation model to subsequently measure certain class of PP&E. Clarification on this aspect from CBDT may help remove any ambiguity on this matter.

9. An entity has issued redeemable preference shares which were classified as equity under previous Indian GAAP. These preference shares are now classified as liability under Ind AS. Whether this transition adjustment will be included in book profit for computation of MAT liability?

From an accounting perspective, reclassification of preference share capital to liability has no impact on ‘other equity’ as this is merely a reclassification from share capital to liability and not a “transition amount” as defined in the proposed amendment to section 115JB for IND-AS compliant companies. Accordingly, such reclassification is not a transition adjustment for computation of book profit for MAT purposes and is to be ignored.

10. Further to the previous question, when dividend distributions on such preference shares are debited to profit or loss as interest costs under Ind AS, can a company claim deduction in respect of such interest expense for computation of MAT liability?

Under Ind AS, dividends on preference shares which are classified as liability shall be presented as interest expense. Explanation 1 to section 115JB (2) of the Act disallows any dividends paid or proposed to be paid while computing book profit. As per the Companies Act; 2013, preference shares are a kind of share capital and return thereon represents ‘dividend’ for compliance purposes.

Accordingly, it appears that although dividend on such preference shares will be classified as interest expense under Ind AS for accounting purposes, its character being in the nature of dividend, would be added back for computation of book profit for computation of MAT liability. Further clarifications from CBDT on this aspect will be helpful.

11. An entity has provided for expected credit losses on trade receivables on transition to Ind AS and adjusted the same in retained earnings (other equity). How should this adjustment be included in book profit for computation of MAT liability?

Section 115 JB provides that provision for diminution in the value of any assets is added to profit for the purpose of computing book profit. However, as per Finance Bill - 2017, transition adjustment to ‘other equity’ shall be included in the book profit for MAT purposes over a period of five years starting from the year of Ind AS adoption. Accordingly, provision for expected credit losses on trade receivables shall be deductible from the book profit equally over a period of five years starting from the year of Ind AS adoption. There may be other similar situations such as impairment of assets recognised on transition.

It is to be noted that such provision for expected credit losses if recognised in subsequent years may not be eligible for deduction considering the fact that section 115 JB of the Act specifically disallows provision for diminution in the value of any asset. This may result in an unintended outcome and inconsistency resulting in the same item being treated differently at the time of transition and thereafter. Clarification on this aspect from CBDT may help in removing any inconsistency.

12. An entity has elected to subsequently measure its investment in associates using the fair value through profit or loss (FVPL) as per Ind AS 109 in its separate financial statements. Should the changes in fair value be included in book profit for computation of MAT liability?

When a company elects to measure its investment in subsidiaries, associates and joint ventures in accordance with Ind AS 109 i.e. at fair value through profit and loss in its separate financial statements, the fair value changes shall form part of the Ind AS profit or loss and therefore shall be included in the book profit for MAT purposes.

However, it is to be noted that section 115 JB of the Act specifically disallows provision for diminution in the value of an asset and it is not clear whether such fair value loss would represent provision for diminution in value for MAT purposes. Clarifications from CBDT on this aspect may help in removing any ambiguity on this matter.

13. How will the transition adjustment in retained earnings (other equity) relating to discounting of long-term provisions be considered for computation of MAT liability?

As per Finance Bill - 2017, transition adjustment to ‘other equity’ shall be included in the book profit for MAT purposes over a period of five years starting from the year of Ind AS adoption. Accordingly, such adjustment will be included in the book profit equally over a period of 5 years starting from the year of Ind AS adoption.

14. How will the transition adjustment in retained earnings (other equity) relating to Asset Retirement Obligations (ARO) be included in book profit for computation of MAT liability?

Transition adjustment relating to ARO will be included in the book profit for MAT purposes over a period of 5 years staring from the year of Ind AS adoption.

15. When should prior period errors be included in book profit for computation of MAT liability?

Under the previous Indian GAAP, prior period errors were included in the current period’s profit or loss and consequently formed part of the book profit for MAT purposes. Under Ind AS, correction of a material prior period error is excluded from profit or loss for the period in which the error is discovered. These material prior period errors are corrected by restating the comparative information of the year in which the error occurred. In case the error occurred before the earliest prior period presented, the same is corrected by restating the opening balances of assets, liabilities and equity for the earliest prior period presented.

The proposed amendments do not contain any specific provision on taxability of prior period errors and hence there is a lack of clarity as to how these errors will be included in the book profit for computation of MAT liability. Further clarifications from CBDT on this aspect will be helpful.

16. When should the impact of change in accounting policy be included in the book profit for computation of MAT liability?

Under the previous Indian GAAP, impact of changes in accounting policy was included in the current period profit or loss and consequently formed part of the book profit for MAT purposes. Under Ind AS, change in accounting policy is applied retrospectively by adjusting opening balance of each affected component of equity for the earliest prior period presented and the other comparative amounts disclosed for each prior period presented.

The proposed amendments do not contain any specific provision on taxability of impact of change in accounting policy and hence there is a lack of clarity as to how these items will be included in the book profit for computation of MAT liability. Further clarifications from CBDT on this aspect will be helpful.

17. Whether the transition adjustment relating to reversal of proposed dividend on equity shares be included in book profit for MAT purposes?

Under previous Indian GAAP, proposed dividends are recognised as a liability in the period to which they relate irrespective of when they are declared. Under Ind AS, proposed dividend is recognised as a liability in the period in which it is declared by the Company (i.e. when the dividend is approved by the shareholders). Accordingly, proposed dividend existing on the date of transition will be reversed to retained earnings (equity). The proposed MAT amendments state that adjustments to ‘other equity’ shall be included in the book profit over a period of 5 years starting from the year of Ind AS adoption. However, credit in ‘other equity’ on account of reversal of proposed dividend upon transition to Ind AS may ideally not be subject to MAT as proposed dividend is not an item of income or expense but an appropriation of profits. Further clarifications from CBDT on this aspect will be helpful.

18. What is the MAT implication of restatement of comparative financial information under common control business combination?

In case of common control business combination, Ind AS 103, Business Combinations (Appendix C) requires comparative financial information of the prior periods to be restated as if the business combination had occurred from the beginning of the preceding period in the financial statements, irrespective of the actual date of combination. Since the comparative information is merely a restatement of the financial information on which the transferor company would have been subject to MAT (if applicable), such restatement of comparative information should ideally not have any impact on MAT liability of the transferee company.

19. Will bargain purchase gain on business combination be included as part of book profit for computation of MAT liability?

As per Ind AS 103, where the fair value of net assets acquired is higher than the amount of consideration, the difference is considered as bargain purchase gain. Ind AS 103 requires the bargain purchase gain to be recognised in other comprehensive income and accumulated in equity as capital reserve, unless there is no clear evidence for the underlying reason for classification of the business combination as a bargain purchase, in which case it shall be recognised directly in equity as capital reserve.

As per the Finance Bill - 2017, items of other comprehensive income which shall not be reclassified to profit or loss shall be included in the book profit for MAT purposes in the year in which they occur. Accordingly, bargain purchase gain recognised in other comprehensive income shall be included in the book profit in the year in which it arises. Bargain purchase gain directly credited to capital reserve will not have any MAT implication.


20. Will changes in fair value of derivatives not designated as hedges be excluded from book profits for computation of MAT liability?

Finance Bill - 2017 does not provide any specific exclusion for these items. Since such fair value changes (both unrealised gains and losses) form part of profit or loss under Ind AS, they would be included in the book profit for MAT purposes.

21. When will the amount of cash flow hedge with respect to highly probable forecast purchase of a non-financial asset be included in the book profit for computation of MAT liability?

When a highly probable forecasted purchase of a non-financial asset (for e.g. Inventory, PP&E) is designated as a hedged item in a cash flow hedge relationship, effective portion of the designated hedged instrument’s gain or loss is recognised in OCI and is accumulated within equity under cash flow hedge reserve. When the non-financial asset is recognised, its carrying value is adjusted for accumulated gains or losses recognised in cash flow hedge reserve. This is often referred to as ‘basis adjustment’. The reclassification from cash flow hedge reserve to the non-financial asset is not considered a reclassification adjustment, as defined in Ind AS 1, Presentation of financial statements, since it does not affect other comprehensive income and is a direct transfer from equity (cash flow hedge reserve) to the non-financial asset. The Finance Bill - 2017 states that all items of OCI which will not be reclassified to profit or loss shall be included in the book profit for MAT purposes in the year in which they arise.

Accordingly, amounts of cash flow hedge recorded in OCI with respect to highly probable forecast purchase of a non-financial asset will be included in the book profit for MAT purposes in the year in which they arise as this is not considered a reclassification adjustment as per Ind AS 1.

22. Whether transaction costs incurred on issue of equity instruments is deductible in computing book profit for MAT purposes?

Incremental transaction costs directly related to equity transaction are deducted from equity under Ind AS. In such case, transaction cost will not form part of profit or loss and accordingly cannot be deducted in computing book profit for MAT purposes.

23. An entity issues optionally convertible debentures with a coupon rate of 5%. The conversion option meets the definition of equity as per Ind AS 32, Financial instruments - presentation and is accounted as a compound financial instrument. How will transaction costs and interest expense be considered for computation of MAT liability?

Under previous Indian GAAP, the instrument would be classified as a liability in entirety. The transaction costs would generally be included in profit or loss as incurred and so would also form part of the book profit for MAT purposes. Interest expense at coupon rate of 5% would also be deductible for MAT levy.

However, under Ind AS, transaction costs relating to issue of compound financial instruments are allocated to the debt and equity component of such compound financial instrument. The transaction cost allocated to the equity component is not deductible for MAT (as also explained in the previous FAQ) as it will not form part of profit or loss. The transaction costs relating to the debt component is included as part of effective interest rate (EIR) computation. The cumulative interest expense under Ind AS would be higher as compared to interest expense under previous Indian GAAP due to separate accounting of the conversion option and deferral of transaction costs over the tenure of the loan. Such interest expense will form part of the book profit for MAT purposes.

Further, the credit in ‘other equity’ on account of separation of the conversion option on the date of transition to Ind AS will not have any MAT implications as equity component of compound financial instruments is specifically excluded from transition adjustment for computation of book profit for MAT purposes.


24. Under previous Indian GAAP, an entity has deducted government grant relating to fixed assets from the cost of those assets. On transition, it has elected the previous GAAP carrying amount as deemed cost. How will the transition adjustment relating to recognition of deferred grant be considered for computation of MAT liability?

Under Ind AS, government grants are presented as deferred grant income and are not deducted from the cost of the fixed asset. On transition, the entity would recognise the deferred grant income with a corresponding debit to retained earnings. This transition adjustment will be included in the computation of book profit for MAT purposes over a period of 5 years starting from the year of Ind AS adoption. The write-back of deferred grant income in the profit or loss would be over the remaining useful life of fixed assets and consequently also for MAT purposes (which may be shorter or longer than the 5 years period).


25. What are the MAT implications of demergers?

Under Ind AS, Appendix A to Ind AS 10 Events after balance sheet date, provides that a company shall recognise a liability (dividend payable) to distribute non-cash assets or business to shareholders at the fair value of the assets or business to be distributed. Correspondingly, the reserves are debited to record such dividend liability. When the company completes the distribution, it shall recognise the difference between the carrying amount of the assets distributed and the dividend payable in the statement of profit and loss. The proposed MAT amendment provides that the difference between the fair value of the liability (dividend payable) settled and carrying value of the assets/business distributed should be increased/ decreased, as the case may be for computing book profit of the demerged company (i.e. to be ignored for MAT purposes). In the case of a resulting company, any change in the recorded values of assets and liabilities taken over on a demerger, as compared to the values as per books of the demerged company shall also be ignored. Demergers will thus be tax neutral from a MAT perspective. However, resulting company will need to separately track such historical information.

26. How would transition adjustment related to loan processing fees be included in book profit for computation of MAT liability?

Any adjustment to ‘other equity’ shall be included in the computation of book profit for MAT purposes over a period of 5 years starting from the year of Ind AS adoption. The same treatment will also apply for any transition adjustment related to loan processing fees credited to retained earnings to measure the borrowings at amortised cost as per Ind AS 109.


Conclusion: 

Companies covered in Phase I would be getting ready to prepare their first Ind AS financial statements for the year ended 31 March 2017. Many of these companies, particularly, those in real estate, power and utility sector, construction and infrastructure are taxed under MAT, and were therefore surrounded by uncertainties regarding computation of book profit for MAT under Ind AS. Considering that companies have less than one month to close the year-end statutory accounts, the proposed amendments are timely, helpful and provide clarity on various matters.

However, as noted in this InBrief, there are still certain matters and implementation issues where clarification from CBDT will assist in removing any ambiguity. More importantly, the proposal/clarification should also focus on bringing neutrality for companies reporting under Ind AS vis-à-vis Indian GAAP, especially in the areas of unrealised gains such as those resulting from recording certain financial instruments (e.g. certain investments) at fair value through profit or loss, potentially resulting in higher MAT liability for Ind AS compliant companies compared to those reporting under current Indian GAAP (which prohibits recording such unrealised gains).

Finally, as companies plan finalisation of their year-end 31 March 2017 statutory financial statements, they should particularly review MAT implication of their various accounting policy choices and exemptions available under Ind AS 101 - First-time Adoption of Indian Accounting Standards.

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