1.7   Query:    

Foreign currency bank account maintained in the foreign

country – effect of exchange rate fluctuations.

1. A company has promoted a new company in collaboration with a foreign based company. The new company would receive equity from the foreign collaborator in US dollars. It would also be making payments for import of capital goods in US dollars. To minimise foreign exchange loan component, the company has opened a US dollar account with a bank abroad, with Reserve Bank of India’s (RBI) permission.

2. The querist has informed that the RBI has directed that against US dollars received into this account equity shares should be issued by the new company at the Re-US$/TT selling rate prevailing on the date of receipt. The US dollars received in this account can be used only for:

-           making payments in US dollars for import of capital goods, or

-           converting these US dollars into rupees and using the rupees for any purpose of the project.

This query relates to accounting treatment of exchange fluctuations arising out of difference in exchange rate at the time of receipt of US dollars into the account and the exchange rate at the time of payment from this account, as explained in the following example:

(A)       Equity contribution received                                                      US $ 10,00,000

            Date of receipt into the US dollar account                                                1.7.92

            TT selling rate on 1.7.92                                                           US $ 3.30/Rs. 100

(i)         First payment directly from the dollar                 US $ 4,00,000

account without converting into rupees

towards import of capital goods

            Date of payment                                                                        15.7.92

                        Exchange rate on 15.7.92                                             US $ 3.20/Rs. 100

(ii)        Second payment form the dollar account                       US $ 6,00,000

            US $ 6,00,000 converted into rupees

on 31.7.92

                        Exchange rate as on 31.7.92                                         US $ 3.20/Rs. 100

            Received in rupees                                                        Rs. 1,87,50,000

These rupees are used for capital expenditure in rupees.

(B)       The accounting entries for above transaction would be as follows:

i)                      Receipt of equity contribution:

       1.7.92       US dollar Bank A/c                              Dr.       3,03,03,030

Equity Share Capital                             Cr.       3,03,03,030

(US $ 10,00,000 converted at 3.30 as per the RBI guidelines)

ii)                     First payment:

15.7.92      Advance to Suppliers                            Dr.       1,25,00,000

            US dollar Bank A/c                              Cr.       1,25,00,000

      (US $ 4,00,000 converted at 3.20)

iii)                     Second payment:

  31.7.92    Bank A/c (Rs.)                                     Dr.       1,87,50,000

            US dollar Bank A/c                              Cr.       1,87,50,000

             Various expenses                                 Dr.       1,87,50,000

             Bank A/c (Rs.)                                    Cr.       1,87,50,000

3. After all above said transactions are duly effected, there would be a balance of Rs. 9, 46,970 in the US dollar bank account. This is on account of exchange fluctuations. This exchange fluctuation cannot be adjusted in the equity account since, as per the RBI directions, equity shares to be issued to the foreign collaborator cannot exceed the amount arrived at by applying TT selling rate on the date of receipt of equity contribution.

4. The querist has sought the opinion of the Expert Advisory Committee as to what should be the treatment of exchange fluctuations on incoming foreign equity?

                                                          Opinion                                 March 2, 1994

1. The Committee notes that US dollars received by the company on account of issue of the equity shares, and deposited in a bank account aboard, can be used either for making payments in US dollars from that account, or for converting these dollars into rupees to be used for the purposes of the project of the company. The Committee is accordingly of the opinion that the amount of foreign currency kept aboard, to the extent it was used for making payments in that currency, did not involve exposure to any kind of exchange rate fluctuations risk. Therefore, the advance to the suppliers made in dollars should be recorded in rupees by applying the same exchange rate at which this amount was originally converted (i.e., $ 3.30/Rs. 100). No exchange gain or loss would arise in this case. However, exchange gain arose on the amount of foreign currency converted into rupees for making payments in rupees. The gain thus arising, being a gain on sale of foreign currency balance, should be recognised in the relevant profit and loss account. The Committee notes that if this treatment is made, there would be no balance in the US $ account.

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