Query No. 3

Subject: Date for booking of the purchase of imported material.1

A. Facts of the Case
1. During the course of audit of accounts, the statutory auditors of a company observed that the imports by the company are being booked at the exchange rates at which the bank debits the company on the day of retirement of documents and not at the exchange rate prevalent on the date of the ‘transaction’ as required under Accounting Standard (AS) 11, ‘Accounting for the Effects of Changes in Foreign Exchange Rates’. The auditors are of the view that the date of transaction is the date on which significant risks and rewards associated with the ownership are transferred. According to the auditors, the date of transaction is as under:
(i) In case of FOB contracts – The date of Bill of Lading
(ii) In case of CIF contracts – The date of arrival of ship at destination AS 11 has since been revised. The revised AS 11 comes into effect in respect of transactions entered into by the reporting enterprise itself or through its branches, after 1.4.2004 and is mandatory in nature from that date.

(iii) In case of C&F contracts – The date on which the ship leaves the port of loading.
The statutory auditors are of the view that the difference between the exchange rate on the date of transaction as defined above and the date of payment should be booked in ‘Foreign Exchange Fluctuations Account’.
2. The company has contended that the ‘date of transaction’ has not been defined in AS 11. In case of imports under sight Letter of Credit (LC), the Bill of Lading or Airway Bill is made in favour of the bank which opens the LC. The documents are endorsed in favour of the company on the date of payment. Accordingly, the bank which opens the LC has a lien on the goods until the documents are retired by the company. In case of loss of goods during transit, the bank has also got a lien on the insurance claim. Therefore, in case of all imports under sight LCs, the date of transaction is the date of retirement of documents. In case of usance LCs, the date of acceptance of usance bill when the documents are endorsed by the bank in favour of the company should be considered as the date of transaction and the exchange fluctuation between the date of acceptance and the date of payment at the expiry of usance period should be charged to the ‘Foreign Exchange Fluctuations Account’.
3. According to the querist, if the dates of respective transactions as defined by the statutory auditors for different types of contracts are adopted, it may be a departure from the letter and spirit of AS 11. There will also be practical problems, if the date of sailing or arrival of ship is taken as the date of transaction. All imports are not by chartered vessels only. There are many import transactions of small quantities. There is no record available for the date of sailing of the ship at the port of loading or the date of arrival at destination for each import transaction. Secondly, no authentic exchange rate is available for a particular date. The exchange rates differ from minute to minute and from transaction to transaction. The exchange rates printed in newspapers differ from each other. The exchange rates quoted by different banks and their card rates are not the same. Which source of exchange rate is to be relied upon is not indicated in AS 11.
4. The querist has referred to paragraphs 3, 5 and 6 of AS 11 which, inter alia, provide as below:
“3. A multiplicity of foreign exchange rates is possible in a given situation. In such a case, the term ‘exchange rate’ refers to the rate which is applicable to the particular transaction.”
“ 5 . A transaction in a foreign currency should be recorded in the reporting currency by applying to the foreign currency amount the exchange rate between the reporting currency and the foreign currency at the date of the transaction ....”
“6. A transaction in a foreign currency is recorded in the financial records of an enterprise as at the date on which the transaction occurs, normally using the exchange rate at that date. This exchange rate is often referred to as the spot rate. For practical reasons, a rate that approximates the actual rate is often used ....”
5. According to the querist, the provisions of AS 11 do not suggest that exchange rate for accounting of imports be based on the dates of bills of lading, sailing of ship or arrival of ship at destination port. The intention of AS 11 is to record foreign currency transactions as close to reality as possible. Ignoring the reality and adopting exchange rates far from reality for accounting purposes will be a non-compliance of AS 11. Therefore, the querist is of the view that the foreign exchange transactions for imports be accounted for on the following basis:
(i) Transactions under sight LCs be booked at the actual exchange rate allowed by the bank on retirement of documents.
(ii) In case of usance LCs, the import value may be calculated at the exchange rate on the date of acceptance of usance bill. For this purpose, the exchange rate may be collected from the bank through whom the LC was opened.

B . Query
6. The querist has sought the opinion of the Expert Advisory Committee as to what should be the accounting treatment of import transactions to comply with AS 11 in the facts and circumstances of the case.

C. Points considered by the Committee
7. The Committee notes paragraphs 3, 5 and 6 of AS 11 as reproduced in paragraph 4 above.

8. The Committee is of the view that the date on which a transaction is considered to have taken place depends upon the nature of the transaction. For instance, Accounting Standard (AS) 9, ‘Revenue Recognition’, issued by the Institute of Chartered Accountants of India, lays down principles with regard to timing of recognition of revenue, i.e., the time when (date on which) revenue from sale of goods, rendering of services, etc., can be recognised.
9. The Committee also notes that AS 9 lays down in respect of sale of goods, that revenue should be recognised when (apart from fulfillment of other conditions laid down in this behalf) the seller of goods has transferred to the buyer the property in the goods for a price or all significant risks and rewards of ownership have been transferred to the buyer and the seller retains no effective control of the goods transferred to a degree usually associated with ownership.
10. The Committee further notes paragraph 12 of the Guidance Note on Audit of Expenses, issued by the Institute of Chartered Accountants of India, which provides as below:
“.... The auditor should pay particular attention to the cut-off procedures relating to purchases, both indigenous and imported, to determine whether these procedures ensure recognition of purchases at the time the significant risks and rewards of ownership of the related goods pass on to the entity.”
11. The Committee is of the view that from the view-point of the buyer, a transaction of purchase of goods should be recognised when the property in the goods or all significant risks and rewards of ownership have been transferred to the buyer and the seller retains no effective control of the goods transferred to a degree usually associated with ownership. In case the transfer of property in the goods and the transfer of all significant risks and rewards of ownership do not take place concurrently, the timing of recognition of the purchase should be determined considering the substance of the transaction, i.e., the purchase should be recognised when all significant risks and rewards of ownership are transferred to the buyer.
12. The Committee is of the view that the point of time when all significant risks and rewards of ownership pass on to the buyer depends on the terms and conditions of the contract. The Committee is, therefore, of the view that the dates on which all significant risks and rewards of ownership in cases of FOB, C&F and CIF contracts are transferred should be determined keeping in view the terms and conditions of each contract. The aforesaid dates should be considered as the dates of respective transactions provided the condition of measurability of the amount of consideration is satisfied. The Committee is further of the view that the rates published by a reliable source for the day can be used.
13. The Committee notes paragraphs 9, 10 and 11 of AS 11 which provide as below:
“9. Exchange differences arising on foreign currency transactions should be recognised as income or as expense in the period in which they arise, except as stated in paragraphs 10 and 11 below.
10 . Exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which are carried in terms of historical cost, should be adjusted in the carrying amount of the respective fixed assets. The carrying amount of such fixed assets should, to the extent not already so adjusted or otherwise accounted for, also be adjusted to account for any increase or decrease in the liability of the enterprise, as expressed in the reporting currency by applying the closing rate, for making payment towards the whole or a part of the cost of the assets or for repayment of the whole or a part of the monies borrowed by the enterprise from any person, directly or indirectly, in foreign currency specifically for the purpose of acquiring those assets.
11 . The carrying amount of fixed assets which are carried in terms of revalued amounts should also be adjusted in the manner described in paragraph 10 above. However, such adjustment should not result in the net book value of a class of revalued fixed assets exceeding the recoverable amount of assets of that class, the remaining amount of the increase in liability, if any, being debited to the revaluation reserve, or to the profit and loss statement in the event of inadequacy or absence of the revaluation reserve.”
14. The Committee is of the view that the exchange difference(s) should be recognised as income or expense, or as an adjustment to the carrying amount of related fixed assets, depending on the nature of the item to which the exchange difference(s) pertain, as per the requirements of AS 11 as reproduced above.

D. Opinion
15. On the basis of the above, the Committee is of the opinion that the transactions of import should be recognised when all significant risks and rewards of ownership pass on to the company provided the condition of measurability of the amount of consideration is satisfied. Accordingly, the dates on which all significant risks and rewards of ownership in cases of FOB, C&F and CIF contracts are transferred should be determined keeping in view the terms and conditions of each contract. Further, the Committee is of the opinion that the difference between the exchange rate as at the date of the transaction and as at the date of settlement thereof should be recognised as income or expense, or as an adjustment to the carrying amount of related fixed assets, depending on the nature of the item to which the exchange difference(s) pertain, as per the requirements of AS 11.
1 Opinion finalised by the Committee on 26.3.2002.