|
Query No. 3
Subject:
Accounting treatment of surplus realised on sale of
rubber trees.1
A. Facts of the Case
1. A company is a joint venture of the Government of India and
the Government of Kerala holding 40% shares and 60% shares,
respectively. The company is maintaining 2036 hectares of rubber
plantations with the objective of settling Sri Lankan repatriates by
providing them employment. The company is consistently making
profit since 1980-81 and paying dividend from 1985-86 onwards to
shareholders. According to the querist, rubber planting started in
the estates of the company during the year 1972 and the same
was completed in the year 1978. The expenditure incurred by the
company for planting rubber trees and for their maintenance during
the immature period had been accounted for as development cost
and subsequently the same was capitalised to ‘Plantations’ when
it became mature for tapping after 7 years of planting.
2. The querist has stated that since the economic lives of the
original rubber plantations were over, the company decided for
replanting its plantations from 2001 onwards, and hence, the
company sold the old rubber trees on its estates. According to the
querist, the company has adopted the accounting policy of crediting
the sale proceeds of rubber trees in excess of its original cost
directly to capital reserve and to disclose the same in the financial
statements as one of the significant accounting policies of the
company.
3. The company finalised its accounts for the year 2005-06 and
furnished the same to the Accountant General for audit under
section 619(4) of the Companies Act, 1956. During the audit, the
government auditors observed the following:
i) Accounting Standard (AS) 10, ‘Accounting for Fixed
Assets’ (paragraph 26) requires that gains or losses
arising from the disposal of fixed assets which are carried
at cost should be recognised in the profit and loss
account.
(ii) As per Part II of Schedule VI to the Companies Act,
1956, the profit and loss account should clearly disclose
the result of working of the company during the period
of accounts and also disclose every material feature
including credits or receipts and debits or expenses in
respect of non-recurring transactions of an exceptional
nature.
In view of the above, as per the government auditors, the accounting
treatment of the company on sale of rubber trees was inappropriate.
4. The querist has stated that the company feels that the views
expressed by the government auditors are not correct due to the
following reasons:
(i) Forests, plantations and similar regenerative natural
resources are excluded from the coverage of AS 10.
Thus, the requirement under paragraph 26 of AS 10, “Losses arising from the retirement or gains or
losses arising from disposal of fixed asset which is
carried at cost should be recognised in the profit
and loss statement” is not applicable in the case of
sale of rubber trees in the plantations.
(ii) As per Accounting Standard (AS) 6, ‘Depreciation
Accounting’, the plantations are excluded from the
depreciable assets. Thus, no depreciation is charged
on plantations. However, as the surplus arising from the
disposal of rubber trees is material, the same has been
disclosed in the schedule of ‘Notes to Accounts’
separately by the company.
(iii) It was decided in the case of ‘Commissioner of
Agricultural Income Tax Vs. Kailas Rubber Co., (1966)
60 ITR 435: 1966 KLT 486 SC: 1966 KLJ 664’, that the
sale proceeds of unyielding rubber trees are capital
income. Accordingly, any capital profit is reflected in the
balance sheet under ‘Reserves and Surplus’ as a capital
reserve.
(iv) The company is not engaged in the business of selling
plantations on a regular basis.
B. Query
5. The Accountant General informed the company to make
necessary changes in the accounting policy of the company in
respect of the sale of rubber trees in future. The querist has
sought the opinion of the Expert Advisory Committee on the
following issues:
(i) Whether the present policy adopted by the company,
viz., crediting the sale proceeds of plantation trees in
excess of its original cost, directly to capital reserve is
in order or not.
(ii) If it is considered not in order, what treatment the
company should adopt for the same in future.
C. Points considered by the Committee
6. The Committee notes that the basic issue raised in the query
relates to accounting for sale of old rubber trees, whose economic
lives are over. The Committee has, therefore, considered only this
issue and has not touched upon any other issue which may arise
from the Facts of the Case, such as, valuation of rubber plantations,
the amount of depreciation to be provided, etc.
7. The Committee agrees with the querist that AS 10 and AS 6
are not applicable in the present case as these standards exclude
from their scope, ‘forests, plantations and similar regenerative
natural resources’. The Committee, however, notes that the
Guidance Note on Terms Used in Financial Statements defines
‘Fixed Asset’ as “Asset held for the purpose of providing or
producing goods or services and that is not held for resale in the
normal course of business.” The Committee notes from the Facts
of the Case that rubber plantations are being grown and held for
their use in the production of rubber and are not ordinarily held for
sale in the normal course of business. Accordingly, rubber trees
are fixed assets. In this context, the Committee also notes
paragraph 1 of AS 6 which is reproduced below:
“1. This Statement deals with depreciation accounting and
applies to all depreciable assets, except the following items to
which special considerations apply:—
(i) forests, plantations and similar regenerative natural
resources;
(ii) wasting assets including expenditure on the exploration
for and extraction of minerals, oils, natural gas and
similar non-regenerative resources;
(iii) expenditure on research and development;
(iv) goodwill;
(v) live stock.
This statement also does not apply to land unless it has a
limited useful life for the enterprise.” (Emphasis supplied by
the Committee.)
8. The Committee notes from the above that paragraph 1 of AS
6 specifically mentions that AS 6 “applies to all depreciable assets,
except …”. Thus, the Standard itself recognises that the items
which are excluded from its scope are also depreciable assets.
Accordingly, rubber plantations are also depreciable assets. The
Committee further notes that paragraph 3.11 of ‘Monograph on
Accounting for Rubber Plantations’, issued by the Research
Committee of the Institute of Chartered Accountants of India, which
deals with amortisation of capital costs of rubber plantations, states
as follows:
“3.11 Amortisation of the capital cost of rubber plantations is,
however, peculiar. Yet it does not call for a departure from the
basic principles of depreciation accounting. This is in fact only
an application of principles of depreciation accounting to a
specific situation.”
From the above, the Committee is of the view that rubber plantations
should be amortised on a systematic basis over their useful lives.
Since the company has not charged depreciation on plantations
as stated in paragraph 4(ii) above, it amounts to an error in the
preparation of the financial statements of prior periods and
accordingly, it should be accounted for as a ‘prior period item’ in
the profit and loss statement of the period in which such adjustment
is made as per the provisions of Accounting Standard (AS) 5, ‘Net
Profit or Loss for the Period, Prior Period Items and Changes in
Accounting Policies’.
9. The Committee also notes that paragraphs 12 and 14 of AS
5, which describe the nature of ordinary activities and the treatment
of profit or loss arising therefrom state as follows:
“12. When items of income and expense within profit or
loss from ordinary activities are of such size, nature or
incidence that their disclosure is relevant to explain the
performance of the enterprise for the period, the nature
and amount of such items should be disclosed
separately.”
“14. Circumstances which may give rise to the separate
disclosure of items of income and expense in accordance
with paragraph 12 include:
…
(c) disposals of items of fixed assets;
…”
The Committee notes from the above that the Standard specifically
recognises disposals of items of fixed assets as an item of ordinary
activities, and requires separate disclosure thereof in the statement
of profit and loss, even though it may be non-recurring transaction
of exceptional nature. In this regard, the Committee also notes
that it is the sale proceeds in excess of the depreciated value or
written down value of the plantations which is to be credited to the
profit and loss account rather than the sale proceeds in excess of
the original cost. The Committee also recognises that even though
a profit may be considered of capital nature for income-tax
purposes, yet, in the situations such as the present one, it should
be reflected in the statement of profit and loss.
D. Opinion
10. On the basis of the above, the Committee is of the following
opinion on the issues raised in paragraph 5 above:
(i) The present policy of the company of crediting the sale
proceeds of plantation trees in excess of its original
cost, directly to capital reserve is not in order.
(ii) The company should recognise the surplus arising from
disposal of rubber trees in the statement of profit and
loss, as discussed in paragraph 9 above. The company
should also amortise the rubber plantations on a
systematic basis as discussed in paragraph 8 above.
1 Opinion finalised by the Committee on 23.3.2007.
|