1.22 Query: Treatment of advances against materials in a construction contract.
1. A public sector undertaking is registered under the Companies Act, 1956. As a part of its activities, it undertakes construction of properties and later on sells these. During construction of the properties, contracts are awarded by the company for which an agreement is entered into between the company and the contractor.
2. The querist has informed that as per one of the clauses of the contract in the agreement entered into between the company and the contractor, advance against material becomes payable on receipt of the material at site which is calculated at certain percentages of the procurement price as defined in the agreement for which the contractor is to submit and Indenture while claiming such advances from the company. Such an advance is paid on the security of the material and is to be adequately stored/protected against damages. The querist has further clarified that the Indenture has to be sent along with the bill while requesting for secured advance as per the terms of agreement.
3. The querist has stated that a case has arisen where the bill was received from the contractor for Rs.93,10,793.70 in April, 1994 regarding the material which was received at site on or before 31st March, 1994. Since the material was received in March, 1994, according to the querist, liability to pay the advance to the contractor as per terms and conditions of the contract has accrued on the company as on 31st March irrespective of the fact that the bill was paid later on in April. Since the liability has accrued as on 31st March, as stated above, an entry by debiting “Secured Advance” and crediting “Amount payable to the contractor” was passed which is based on the accounting principle according to which all liabilities which have accrued as on the date of the balance sheet should be accounted for in the balance sheet. Further, terms and conditions of the contract always prevail based on which the accounting is done and not vice-versa.
4. The querist has further informed that the contractor has done some work as well till 31st March which was also included in the same bill and was also accounted for by debiting “Work-in-Progress” and crediting “Amount payable to contractor.”
5. The querist has also stated that as against above, the statutory auditor is of the view that no liability should be created for an advance which is yet to be paid as on 31st March since it will be a creation of liability on the one hand and an asset in the ‘Loans & Advances Schedule’, on the other hand.
6. However, the company feels that to fulfill the contractual terms and conditions, provision for material advance should be accounted for as on 31st March for which a definite liability has accrued as per the provisions of the contract between the company and the contractor. This view of the company gets further strengthened, in the view of the querist, when one part of the bill pertaining to accounting of work done is accepted by the statutory auditors but creation of a provision for material advance which is appearing in the same bill is not accepted by the statutory auditors.
7.The querist has sought the opinion of the Expert Advisory Committee on whether a liability has accrued for advances in respect of the materials received before the close of the year.
Opinion November 17, 1995
1. The Committee notes that the Company has not paid the advance against material by March 31. The Committee further notes that there would be many instances where the company makes payments of advances to staff or to creditors etc. In all such cases, there is no need of passing a separate entry earlier than when an advance is made.
2. The Committee is, therefore, of the opinion that there is no need of passing an entry for the delayed payment of advances in respect of material received at the site where the contract is in progress. If the amount involved is material, it may be shown by way of a note to the accounts or in parenthesis to the relevant item in the financial statements. __________________________ |