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Prologue
In such unprecedented times like these of the COVID-19 pandemic, where the economies have shattered, businesses have disrupted, stocks falling to record lows and the like. A new era of technology or way of doing business has emerged. In recent times, the online presence of any business has become essential. One can say, e-business is the new way of doing business. Yet, there are many devastating repercussions having multifold effects of the same.
It is now difficult for businesses to evaluate the future viability vis-à-vis future cash flows. The fear of not being able to revive in near future has probably engulfed the optimism of the economy and has shifted the market from a gloomy phase to a phase where the future predictions are nothing but a mirage. In the emerging economies like that of India, where the MIG (Middle Income Group) and LIG (Lower Income Group) sector has a huge role to play in terms of demand creation, these sectors are worst hit, despite various measures taken by the central government.
With cash flows becoming even more difficult to predict or anticipate, the concept of Impairment of Assets comes into play and many businesses, especially those sectors which have been tremendously impacted like travel, hospitality, entertainment, textiles, etc. have started estimating the future losses in terms of disrupted future cash flows.
To account for certain impairment indicators and necessary consideration as far as Accounting Standards AS 28 or Ind AS 36 are concerned, kindly refer a detailed note here:
Tax Impact on Impairment
Even greater cause of concern for any business entity in these times as far as recognition of Impairment Loss is concerned is its implication under Income Tax Act, 1961. Under provisions of the Income Tax Act, 1961 what is allowed as a deduction in the normal course of business on account of assets is in the form of “Depreciation” u/s 32 of the Act, and no further allowance w.r.t an asset put to use in business shall be provided. Therefore, the losses that an entity has actually incurred in the form of Impairment goes unrecognized under the Income Tax and tax thereon is required to be paid, which is an additional cash outflow burden which gets automatically cast upon an entity.
Even on due consideration to Para 17 of ICDS V – Tangible Fixed Assets, “Depreciation on a tangible fixed asset shall be computed in accordance with the provisions of the Act.”
Which implies that even ICDS V refers to provisions as provided u/s 32 of the Act read with relevant rules, which prescribes a certain percentage of deduction in form of depreciation on the actual cost of the asset. Unlike AS or Ind AS, ICDS does not have any provisions regarding revaluation of fixed assets. Therefore even the ICDS does not recognize the concept of impairment, which plays an important role for the preparation of computation of income which inter-alia includes income from business and profession or income from other sources, on which ICDS V applies.
Even further, the concept of impairment is mandated by a statute directly or indirectly, which requires an entity to account for the impairment loss, whereas on the other hand Income Tax Act, 1961 does not recognize this concept, thereby creating a dichotomy between the two statutes.
Deferred Tax Asset and Liability
As per AS 22 “Deferred Taxes” and Ind AS 12 “Income Taxes”, deferred tax assets or liabilities are recognized due to various reasons on account of timing difference, one of which is on account of different depreciations prescribed in various statutes. While generally there is a deferred tax liability position to that extent, the recognition of impairment loss during a reporting period can cause the carrying amount of asset to fall below the tax base, thereby creating deferred tax asset as an entity ends up paying more taxes and it is probable that taxable profits will be available against which the deductible temporary difference can be utilized.
Although the entity’s projections as to the number of years in which the entity will be able to have sufficient taxable profits to justify recognition of deferred tax asset and the assumption used for determining value in use must be consistent with assumption used to determine whether the said deferred tax asset is recoverable.
Impairment Loss in MAT Calculation
Further, as per the provisions of section 115JB of the Act, companies are required to pay Minimum Alternate Tax on the Book Profits computed in accordance with accounting standards adopted for preparing books of accounts, subject to certain adjustments as stipulated under the said section.
As per clause (i) of the Explanation 1 to Section 115JB , the book profits shall be increased by “the amount or amounts set aside as provision for diminution in the value of any asset”, which inter-alia includes, loss on account of impairment of assets debited to the profit and loss account. Therefore, even while computing the book profits, the assessee company has to add back impairment of assets and MAT has to be paid accordingly.
Further, as per Circular 24/2017, on clarifications on the computation of book profits for purpose of levy of MAT u/s 115JB for Ind AS compliant companies, it was clarified that Marked to Market losses of only Financial Instruments recognized through FVTPL (Fair Value through Profit and Loss) will not require adjustment as contemplated under clause (i) of Explanation 1 to Section 115 JB and adjustments in any assets other than specified above shall require the necessary adjustment.
CBDT’s Interference
Amidst all the adversities, it is vital and inevitable for the central government through CBDT to take a critical step in this matter and provide additional relief to that extent, i.e., by way of allowance of Impairment Loss while computing business income to be offered to tax, only for the current year. By way of a detailed deliberation on this matter, CBDT will, in fact, help businesses revive and prevent blockage of working capitals to a great extent. CBDT might anticipate undue advantage or usage of the relief, if granted, by way of manipulation of the books of accounts and offering a lower income to tax. In this regard, a certificate from Chartered Accountant auditing the books u/s 44AB can be an option for determining fairness/genuineness of the claim made by the assessee in this regard. Another way by which relief can be provided is by way of accelerated depreciation for the current year to account for the said loss, which cannot be said a notional loss but is an actual loss being suffered by the Companies amidst COVID-19 pandemic.
Conclusion
Whilst the treatment of impairment (if any) in accordance with accounting standards is a matter of professional judgement and will vary on case to case basis. One has to take into account the global conditions and indeed the market interplay on account of macroeconomic factors. Likewise, in light of discussions above, it is pertinent to acknowledge the fact that while treating or acting upon impairment indicators, the assessee has to be vigilant towards the impact it might have on their tax outflows and probability of its reversal in future.