1.8       Query

Accounting treatment of expenditure incurred on raising timber.

1.A forest development corporation of State Government is registered under the Companies Act, 1956. The Corporation is involved in collection, processing and marketing of minor forest produce and the manufacture of door and window frames, shutters and household and business furniture etc. Income from these activities is taxable.

2.The State Government transferred a forest to the Corporation on 51 years’ lease. According to the terms of the contract, the trees were to be felled by the Corporation and disposed off on behalf of the government. It was stipulated that the Corporation would raise new plantations on the cleared area, which would be the exclusive property of the Corporation. The first phase of the project was for a period of 5 years.

3. Presently, the Corporation is disclosing the expenditure incurred on raising plantations and the related developmental activities, in its balance sheet after fixed assets but before current assets.

4.The Corporation does not consider plantations, i.e., timber raised, as an item of fixed assets because (i) its value appreciates as it grows; and  (ii) it is not used for the purpose of business in the sense that the trees are not grown for the purpose of getting fruit or such other products but for selling wood. Similarly, nurseries are also not considered a fixed asset because the seedlings produced are utilised every year in raising plantations, reducing thereby the seedling stock and consequently new seedlings must be grown every year for the forthcoming plantation season.

5.In the view of the Corporation, a timber plantation is not a current asset because (i) the wood therefrom can be recovered only after 8-10 years, and if it is treated as an time of inventories, it has to be shown in the balance-sheet at ‘lower of cost or market value’; but a plantation does not have any market value till it has attained a certain stage of growth. This, therefore, will have to be shown till that time, at a token value of rupee one, which, according to the Corporation, is ridiculous as it would affect the profitability of the Corporation adversely.

6.The Corporation has incurred certain capital expenditure on vehicles, tractors, pumping sets, roads, buildings etc. for developing nurseries and plantations. The depreciation on these assets is included in the plantation cost.

7.The income from sale of timber is agricultural income which is not taxable. The Corporation is not debiting its profit and loss account with expenditure incurred on the plantation activity, as it would amount to setting it off against other taxable incomes, which in the view of the Corporation, will never be permitted by the Income-tax Authorities. Thus, the expenditure pertaining to the development of plantations is deferred and is written-off on the realisation of revenue on the basis of the matching principle.

8.On account of the aforementioned reasons and the fact that the income arising from the sale of timber is a revenue receipt, the Corporation is of the view that the expenditure incurred on raising plantations is a deferred revenue expenditure and not a capital expenditure, and therefore is shown after fixed assets but before current assets.

9.The opinion of the Expert Advisory Committee is solicited whether the practice followed by the Corporation is proper and, if not, what should be the alternative treatment.

                                                          Opinion                                                           March 23, 1983

1.The Committee notes that there is a divergence of view regarding the accounting treatment of timber plantations. One view is that a plantation should be considered as an item of fixed assets because they have a long life and are kept for the purpose of recovering wood therefrom. It is argued that the only difference between a timber plantation and other fixed assets is that the former become operational, i.e., suitable for cutting, after a long period whereas the other fixed assets become operational after a shorter period. Till that time, a timber plantation appreciates in value because more input are added to bring it to its operational stage. Its value starts declining once that stage is reached either because of depletion through cutting or by withering due to aging. According to this view, costs of raising timber including costs of clearing underbrush, reseeding, fire protection, pesticides, insurance, and those mentioned by the querist in para 6 of the query should be capitalised since these costs directly or indirectly contribute to bring a plantation to maturity. Also costs incurred on seedlings should be capitalised even though their development happens to be a continuous process. The costs thus accumulated till the beginning of the cutting operations constitute the original cost of timber, which may be disclosed as “Development of Property” under ‘Fixed Assets’ and written-off as the timber gets depleted.

2.The other view is that a timber plantation should be disclosed as ‘work-in-progress’ under ‘current assets’ till it attains maturity because the process of development of plantation-from the seedling stage to the maturity stage-is like any other production process albeit taking 8-10 years. The plantation work-in-progress may be valued at the lower of cost and net relisable value. The latter can be determined on the basis of estimated selling price in the ordinary course of business less estimated cost to be incurred in future for bringing the plantation to maturity, and the cost necessarily to be incurred in order to make the sale. The cost of work-in-progress would include all expenses for raising timber incurred till the valuation date.

3.On the basis of the above, the Committee is of the opinion that the expenditure incurred on raising a timber plantation should be treated in accounts in either of the following ways:

            i) It can be capitalised and disclosed under the head ‘Fixed Assets’ as ‘Development of Property.’ Similar expenditure                         incurred after the beginning of the cutting operations, i.e., which is not related to the further development of such plantations             should be treated as revenue expenditure and debited to the general profit and loss account.

            ii)  It can be shown as ‘work-in-progress’ under ‘Current Assets’. In view of the nature of timber plantations, this would be             a preferable treatment of the relevant costs.