Valuation of closing stock under ICDS

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Valuation of closing stock under ICDS
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• Introduction
• 1. If major difference between ICDS-2 and AS-2
  can be defined in one sentence, it can be said
  that unlike AS-2, duties and taxes subsequently
  recoverable from taxing authorities have to be
  included in cost of purchase under ICDS. Hence,
  ICDS has changed the definition of cost of
  purchase. ICDS has defined "cost of purchase" as
  the purchase price including duties and taxes,
  freight inwards and other expenditures directly
  attributable to the acquisition. It also defines
  that trade discounts, rebates and similar items
  shall be deducted in determining the cost of
  purchase. Hence, amount of CENVAT credit, VAT
  receivable and service tax receivable have to be
  included in the cost of purchase. This provision
  under ICDS is in line with provisions of section
  145A of the Income-tax Act, as section 145A
  stipulates that cost of purchase of the goods
  includes any tax, duty, cessor fee (by whatever
  name called) actually paid or incurred by the
  assessee to bring the goods to the place of their
  location or condition as on the date of valuation.

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• But AS-2 differs with the provisions of ICDS, as
  it excludes duties and taxes recoverable from
  taxing authorities from the cost of purchase. Due
  to implementation of ICDS amounts of CENVAT and
  VAT receivable are added to the value of closing
  stock, hence, profit in the first year will be
  higher. But in the subsequent years, profit will
  be correspondingly lower. Hence, net effect on
  profit will be Nil. As this provision is tax
  neutral, more emphasis should be given on proper
  and effective disclosure in financial statement.
  Even if this provision is followed properly, but
  disclosure is not made in a proper way,
  litigations may arise. Some court rulings related
  to section 145A which are also relevant to the
  provisions of ICDS-2, are discussed in this
  article to understand proper implication of this
  provision.
• 2. Udaykumar Chhabildas Patel v. Jt. CIT IT
  Appeal No. 3304 (Ahd.) of 2010
• 2.1 Facts of the case The assessee was running
  the business of manufacturing of machinery.
  Assessee had shown closing balance of MODVAT
  CENVAT credit at Rs. 748,755 in the balance sheet
  as CENVAT receivable. The assessee had also shown
  service tax receivable Rs. 109,213 and input VAT
  receivable Rs.973,031. The AO was of the opinion
  that assessee had not included above unutilized
  balances of the taxes in the value of closing
  stock. Hence, he had made addition of Rs.
  1,830,999 under section. 145A. Order of the AO
  was affirmed by the CIT(A). Assessee contended
  that he had not claimed any deduction of excise
  receivable, service tax receivable and VAT
  included in the cost of raw material and,
  therefore, the question of including the same for
  the purpose of section 145A did not arise.

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• Assessee also contended that unutilized amount of
  CENVAT/service tax shown at asset side of the
  balance sheet included amount paid as advance to
  excise department and it was utilized in payment
  of excise duty in next year. Also, input VAT
  receivable was utilized and adjusted against
  liabilities due on the sale of next year. The
  closing stock included raw material,
  work-in-progress and unpacked machines and did
  not include finished goods. Hence, excise duty,
  input VAT, was not required to be included in
  closing stock valuation. ITAT, Ahmedabad held
  that unless and until the amount of duty was not
  entered on one side as an item of cost, it could
  not be taken as a component of the value of
  closing stock on the other side. The true purpose
  of crediting the value of unsold stock is to
  balance the cost of goods entered into other side
  of the account. To ascertain correct position of
  law, it was necessary to ascertain whether
  assessee had adopted "exclusive method" or
  "inclusive method." Hence, to ascertain the
  method of accounting adopted by assessee in
  respect of the duties and taxes mentioned above,
  the matter was remanded back to the AO.
•  2.2 Analysis of the judgment Section 145A of
  the Act stipulates that "valuation of purchase
  and sale of goods and inventory for the purpose
  of determining the income chargeable under the
  head "Profits and gains of business or
  profession" shall be in accordance with the
  method of accounting regularly employed by the
  assessee and further adjusted to include the
  amount of any tax, duty, cess or fee (by whatever
  name called) actually paid or incurred by the
  assessee to bring the goods to the place of their
  location and condition as on date of valuation."
  It means that method of accounting is not
  required to be changed for valuation of
  inventory.

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• If method of accounting is not as per section
  145A, only adjustment should be made in
  computation of income to comply with the
  requirements of section145A. This section is
  consistent with the accepted accounting
  principles of valuation of inventories. There are
  two method of valuation of inventory, i.e.,
  "exclusive method" and "inclusive method".
  Section 145A and ICDS-2 mandate only "inclusive
  method". As per this method, duties and taxes
  should be included in the opening stock, purchase
  and closing stock. No separate account should be
  prepared for such duties and taxes, but profit
  and loss account should be prepared in such a way
  that the CENVAT credit account is effectively
  incorporated in the profit and loss account and
  correct profit should be determined. AS-2
  prescribes exclusive method, where purchases are
  debited net off CENVAT and closing stock of raw
  material, WIP and finished goods are valued net
  off CENVAT and a separate account, i.e., "CENVAT
  credit receivable account" is maintained for
  recording payment and utilization of excise duty.
  Since the cost of purchase does not include
  CENVAT, closing stock is valued net off CENVAT.
  Some court rulings allow both methods, provided
  they lead to same result and pass test under
  section 145A. But one method for valuation of
  excise duty paid when raw material is purchased
  and another method at the time of valuation of
  unconsumed raw material cannot be adopted. In the
  case mentioned above, assessee had contended that
  he had not claimed any deduction of excise
  receivable, service tax receivable and VAT
  included in the cost of raw material and,
  therefore, the question of including the same for
  the purpose of section 145A did not arise. In
  case of Asstt. CIT v. Narmada Chematur
  Petrochemicals Ltd. 2010 327 ITR 369/194 Taxman
  103 (Guj.), the Hon'ble jurisdictional High Court
  held that unless and until the amount of duty is
  not entered on one side as an item of cost, it
  cannot be taken as a component of the value of
  closing stock on the other side.

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