India Inc. was promised that the government will be staying away from resorting to any retrospective amendment. Conversely, the Finance Bill 2018, has proposed various retrospective amendments to Income-tax Act, 1961 (the Act) for adopting several provisions of Income Computation and Disclosure Standards (ICDS) which are poles apart from the settled principles of law as decided by courts.

Presently, section 145 of the Act prescribes the method of accounting for computing income chargeable under the head “Profits and Gains of Business or Profession and “Income from Other Sources”. ICDS are notified by the Central Board of Direct Taxes (CBDT) under the powers given under section 145(2) of the Act with an objective of bringing uniformity in tax computation.

Constitutional validity of ICDS was challenged before the Delhi High Court in the case of Chamber of Tax Consultants vs Union of India[1]. The Delhi High Court held that the powers conferred in section 145(2) of the Act have to be read down to restrict the power of the Central Government to notify ICDS that sought to override binding judicial precedents or the provisions of the Act.

The legislation is keen to validate legitimacy of the ICDS provisions and hence the Finance Bill has proposed to enact the following provisions of ICDS

1. ICDS VI Effects of Changes in Foreign exchange rates

Section 36(1) (xviii) – Allowance of marked to market loss / expected loss

(i) MTM gains/ losses essentially appear when the foreign exchange difference with respect to an asset / liability is adjusted as on balance sheet date to reflect market price.

(ii) Presently, ICDS VI provides that that Marked to Market (MTM) loss/gain in the case of forward exchange contracts held for trading or speculation purposes are not allowed except on settlement. This is contrary to the settled principle laid down by the Supreme Court in the case of Sutlej Cotton Mills[2] that profit and loss arising from a trading asset / or on a revenue account shall be chargeable or deductible.

(iii) It is now proposed to insert a new clause (xviii) under section 36(1) of the Act to provide the deduction for marked to market loss or other expected loss in accordance with ICDS.

(iv) As a result, the following issues may arise:

  • Whether MTM gains/ income on forward contracts will be taxable irrespective of the account to which it pertains (capital or revenue)?
  • Whether MTM loss on other foreign exchange instruments (interest swaps, futures, cross currency swaps etc) which are not covered by ICDS-VI will be available? – Notably, ICDS I on Accounting Policies provides that MTM loss or an expected loss shall not be recognised for tax computation unless such recognition is in accordance with the provision of any other Income and disclosure standard.

Section 40A(13) – Disallowance of MTM losses except allowable under section 36(1)(xvii)

(i) It is proposed to insert sub-clause (13) in section 40A of the Act to provide that no other deduction / allowance shall be allowed in respect of any MTM losses or expected loss except under section 36(1)(xvii) of the Act.

(ii) In this context, the following issue could arise:

  • Whether a company which has earned marked to market income can claim expenditure against the income? – Here, it may be noted that a disallowance is specifically restricted only for MTM losses proposed to be covered under 36(1)(xvii) of the Act. Consequently, any other expenditure incurred for earning income (for which MTM has been recognised) should not be impacted and the same should be deductible in accordance with general provisions.

Section 43AA – Taxation of foreign exchange fluctuation

(i) ICDS-VI provides recognition of exchange differences in respect of all foreign currency transactions (including monetary and non-monetary items, translation of financial statements of foreign operations, forward exchange contracts, foreign currency translation reserves).

(ii) It is now proposed to insert a new section for taxation of all foreign exchange fluctuations including the ones referred in ICDS VI. This is subject to existing provisions of section 43A of the Act providing tax treatment of foreign exchange fluctuations arising due to an asset acquired in foreign currency.

(iii) In this context the following may now be taxable /deductible under the proposed section 43AA

  • Foreign exchange gains / loss on revaluation of loan pertaining to Indian asset.
  • Forex fluctuations with respect to monetary items which are money or assets or liabilities to be paid in fixed or determinable amounts (cash, receivables, and payables). Losses on translation of non-monetary items (fixed assets, inventories and investment in equity shares) of foreign operations will not be available as provided under ICDS VI subject to section 43A of the Act.

It would be worth evaluating whether the proposed special provision will allow forex loss / tax gains irrespective of its nature (capital or revenue).

2. ICDS III Construction Contracts

Section 43CB – Computation of income from construction and service contracts

(i) Presently, the Act allows any method of accounting provided it is regularly followed by the Tax Payer. Thus, there was no specific method of accounting prescribed for construction or service contracts except provided under Accounting standards.

(ii) It is now proposed to insert a new section for computing income from a construction as well as service contracts on the basis of percentage completion method which is in line with ICDS III. The retention money is to be recognized in the total contract revenue as clarified in the Circular 10/2017. Incidental income in nature of interest, dividend or capital gains shall not be reduced from the cost which is contrary to the judicial precedents.

(iii) In the case of a contract for providing services

  • Duration less than ninety days – profits and gains shall be determined on the basis of project completion method
  • Indeterminate number of acts over a specific period of time – the profits and gains to be determined on the basis of straight line method

(iv) Particularly, this insertion will lead to tax on revenue which has not yet been received. Notably, ICDS- III provides that such recognition should be based on the reasonable certainty of its collection which is not reflected in the proposed amendment.

3. ICDS II Valuation of Inventories

Amendment in section 145A of the Act- Valuation of inventory to be valued at lower of cost or NRV

(i) Presently, inventory is to be valued in accordance with the method regularly followed by the Tax Payer. The Delhi High Court has held that where a Tax Payer regularly follows a certain method of valuation of goods then will be governed by section 145A irrespective of the ICDS

(ii) It has been proposed to amend section 145A of the Act to provide that the inventory shall be valued at the lower of cost or net realizable value whichever is lower which is line with the valuation method as provided in ICDS II ‘Valuation of Inventories’. Also, the cost of any duty, cess or fee actually paid or incurred to bring the goods or services to the place of its location or condition is to be added. Inventory in nature of securities is to be valued in line with ICDS VIII “ Securities”

(iii) In particular, the following issue requires attention:

  • Valuation of stock in case of dissolution of partnership and discontinuance of business –ICDS II specifies that the inventory should be valued at NRV whether the business is discontinued or not. Thus, it eliminates the difference between dissolution of a partnership or dissolution of business which was clearly differentiated in judicial precedents.

4. ICDS IV Revenue Recognition read with ICDS VII on Government grants

Section 145B – Interest on compensation/export incentives/government grants

It is proposed to insert section 145B to tax following incomes

(i) interest received on compensation or enhanced compensation – deemed to be the income of the year in which it is received;

(ii) Claim for escalation price or export incentives – Year in which a reasonable certainty of realisation is achieved;

(iii) Income from a subsidy, grant, cash incentive, duty drawback, waiver, concession – taxable in the year of receipt, if not charged to tax in any earlier previous year.


Yet another backdoor entry for a taxing provision is all set to invite new controversies over its application in immediate future. In the Memorandum explaining the proposals of Finance Bill has justified the retrospective applications of the above provisions from FY 2016-17 (AY 2017-18) onwards on the basis that the large number of Tax Payers have already complied with ICDS provisions for the said assessment. This retrospective amendment will be wearisome to the tax payer who have reported no impact under ICDS as well as in the Tax Audit Report. They will have to consider to revise the return of income for FY 2016-17 on or before 31 March 2018. In this backdrop, we will have to wait to witness ease of doing business in India with separate accounting and tax computation standards and plethora of litigations over its application.

[1] WP(C) 5595/2017

[2] 116 ITR 1(SC)

Mansi Mehta, Senior Manager and Ruchi Shah, Assistant Manager with Deloitte Haskins & Sells LLP

Mansi Mehta and Ruchi Shah

25 FAQs on Income Computation and Disclosure Standards (ICDS)

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One Comment

  1. Praful Sheth says:

    Fraudulent transactions were going on since 2011. All the auditors of branch from that date till today are liable for gross negligence. If qualified auditors can not smell the fraud, then he is not fit to hold the office. Hope ICAI will come out with stringent & effective guidelines in this regard.

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December 2023