1.24 Query: Accounting treatment of premium received in respect of land given by a corporation on lease to industrial units.
1. To facilitate setting up of industries where industrial areas of Maharashtra Industrial Development Corporation (MIDC) are not available, a corporation acquires land at certain places. Such land is either Government owned or privately owned. The privately owned land is acquired by initiating land acquisition proceedings in the name of Government of Maharashtra.
2. The Government puts the corporation in possession of land and executes documents called “Sanad” in favour of the corporation which passes on restricted ownership to the corporation subject to fulfillment of certain terms and conditions. Subsequently, the corporation, by execution of a lease deed, gives the land to the concerned industrial unit on lease for a long period, generally about 95 years. The corporation charges a lease premium as well as a yearly lease rent. The amount of lease premium is worked out after taking into account three components as stated below:
(a) Amount of compensation paid by the corporation to the owners of land for acquisition of land by the Government.
(b) All expenses (such as travelling) directly incurred by the corporation in acquiring the land.
(c) 20% of the amount of the compensation towards establishment expenses of the corporation incurred for acquiring the land and leasing it out to the company. This is on ad hoc basis.
As regards the lease rent, the same is a nominal amount and recovered every year.
3. The corporation has disclosed the following accounting policy, as stated in Note (A) 3 to the ‘Notes Forming Part of Accounts’, for the year ending on 31st March, 1991, in respect of the transactions of this nature:
“To facilitate setting up of industries where MIDC industrial areas are not available, the Corporation acquires land at certain places. Such land is either Government owned or privately owned. In the case of privately owned land the same is acquired by initiating land acquisition proceedings in the name of the Government of Maharashtra. The Corporation follows the accounting procedures as stated below in respect of the transactions of this nature:
(a) Until the time of obtaining the documents evidencing the title of the land (e.g., possession receipt, etc.) the amount paid by the corporation to the Government is treated as ‘Advance paid’.
(b) Pending the execution of lease deed, the amount of lease premium recovered from the intending lessee is treated as ‘Advance received’.
(c) On obtaining the documents evidencing the title of the corporation to the land but before the execution of the lease deed in favour of the intending lessee, the cost of the land represented by the amount paid to the Government is treated as ‘Current Assets’.
(d) On execution of the lease deed, the lease premium recovered from the lessee is credited to the aforesaid account, and the excess recovered, if any, over and above the cost of the said land is treated as business income of the corporation. This practice results in the land being written-off in the balance sheet of the corporation. The said practice is being followed by the corporation in view of the fact that the lease period in these cases is of a long duration, at times, of 95 years and the lease rent is nominal.”
It will be seen that on receipt of the lease premium from the lessee the corporation credits it to the cost of land and treats the excess amount recovered as business income of the corporation. As stated above, the excess amount represents the establishment expenses already incurred by the corporation for the acquisition of land.
4. While following the above practice, as per the querist, the corporation has held a view that though legally the land is given on lease basis, as the period of lease is fairly long, for all practical purposes, the transaction amounts to passing of the property to the lessee company. Hence, the corporation thinks it fit to square up the cost of the land immediately on receipt of the premium. However, the CAG in his comments has expressed the view that the premium receipts in respect of land leased out constitute the income of the corporation for the entire period of lease and should be distributed over the lease period equally, initially accounting for the premium as and when received as “Premium Suspense Account” and then transferring the proportionate share of income to the profit and loss account each year. The comments of the CAG in this regard and reply of the company thereto are as follows:
Comments
“A reference is invited to Note No.3 (c) and (d) of Schedule 16 of Notes forming part of accounts disclosing the accounting policy followed by the company in accounting of leased-out land.
The premium receipts in respect of land leased-out constitute the income of company for the entire period of lease and should be distributed over the period of lease equally, initially accounting for the premium as and when received as ‘Premium suspense’ account and then transferring the proportionate share of income to the profit and loss account each year.
The accounting method followed by the company is in contravention of the generally accepted accounting principles for accounting of leased-out land.”
Reply
“The amount received in excess of the amount paid to the land acquisition authorities represents our service charge which is intended to cover the administrative cost (such as travelling, salary to staff, printing and stationery etc.) by the corporation which already stands debited to the respective heads of expenses in profit and loss account. In view of the above and as this activity is carried on purely for development purpose and not for earning revenue, we have not opened a premium suspense account. The recurring revenue income in this type of transaction is the yearly lease rent charged to lessees which is credited to the profit and loss account each year. The disclosure of the nature of transaction has been clearly brought out in Note No. 3 in the Schedule 16.”
5. The querist has sought the opinion of the Committee as to whether the accounting practice followed by the corporation with regard to recognition of lease income is proper? Opinion
1. The Committee notes paragraph 17(b) of Accounting Standard (AS) 1 on ‘Disclosure of Accounting Policies’, issued by the Institute of Chartered Accountants of India, which reads as follows:
“17(b) Substance over form
The accounting treatment and presentation in financial statements of transactions and events should be governed by their substance and not merely by the legal form.”
2. The Committee of the view that it is the normal business activity of the corporation to acquire land from the government and private owners, and leasing it out to the industrial units. The Committee feels that keeping in view the long period of the lease and prevalent commercial practice in India of lease being generally renewed at the end of the lease period, in substance, the lease of land to the industrial units in this case amounts to passing of the significant rights of ownership in the land to the concerned industrial units. The Committee is of the view that in recognition of this principle of substance over form, the leasehold land is shown as an asset of the lessee in the proforma prescribed in Part I of Schedule VI to the Companies Act, 1956.
3. On the basis of the above, the Committee is of the opinion that the accounting practice followed by the corporation with regard to lease transactions is apparently correct. However, the corporation should continue to make appropriate disclosure, similar to the one made in Note (A) 3 of the notes to the accounts for the year ending on 31st March, 1991, in this regard, over the period of the lease. __________________________ |