TMI Blog2023 (4) TMI 34X X X X Extracts X X X X X X X X Extracts X X X X ..... Coupon unsecured fully convertible debenture of Rs. 10 each., which are in the nature of capital liability or capital debt to the company until the same is not fully converted into Equity. There is no corresponding financial liability of such convertible debentures have been shown in the financial statement or in the profit and loss account. Though from the perusal of the financial statement, we find that assessee has shown debt/equity instruments through other comprehensive income which is though not the correct presentation of the debt instrument, because as stated above, the debt instrument has to be classified separately alongwith other capital liability on such instruments. Nothing turns out on such presentation as one thing which is clearly borne out from the financial accounts and facts of the case is that, in so far as Zero Coupon OFCDs and OFCDs in the case of assessee did not have any kind of financial liability to classify it as Compounding Financial Instrument and in turn to quantify the same as transition amount. As already noted in the earlier part of our order that Zero Coupon OFCDs issued on 30th June 1995 which was issued at par for Rs. 441.57 crores was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee as part of Composite Income in the schedule to the Other Equity. Thus, we hold that no adjustment is required in the book profit u/s 115 JB (2C) by way of transition amount in the case of the assessee. Accordingly, the order of Ld. PCIT u/s 263 is reversed on merits and matter is decided in favour of the assessee. Assessee has contended as noted in para 17 18 of this order that only those receipts which are chargeable to tax as income u/s 2(24) can be included in computation of book profits and capital receipts cannot be brought to tax in computing book profits - Since we have already held that no adjustment is required u/s 115JB (2C) by way of transition amount , no separate finding is warranted on this proposition of the assessee. - I.T.A. No.1065/Mum/2022 - - - Dated:- 29-3-2023 - Shri Amit Shukla, JM And Shri S. Rifaur Rahman, AM For the Appellant : Shri Madhur Agrawal, Ld. AR For the Respondent : Shri Jayant Jhaveri, Ld. CIT- DR ORDER PER AMIT SHUKLA,JUDICIAL MEMBER: The aforesaid appeal has been filed by the Assessee against impugned order dated 17.03.2012, passed by Ld. Principal Commissioner of Income Tax, Mumbai-3 ( PCIT ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g that the Zero Coupon Unsecured Optionally Fully Convertible Debentures of Rs. 5000 each aggregating to Rs. 441.57 crores ( ZOFCDs ) as well as the ZOFCDs of Rs. 10 each aggregating to Rs. 15,103 crores and 0% Fully Convertible Unsecured Debentures of Rs. 100 each aggregating to Rs. 279.90 crores ( FCDs ) are mixed instruments having both, equity as well as debt component based on generic statements and understanding ignoring the correct classification of them being instruments entirely equity in nature as per the applicable Accounting standard; 8. failed to appreciate and ought to have held that the debentures in question did not satisfy the definition of financial liability as given in Ind AS 32 and that they were instruments entirely equity in nature ; 9. erred in concluding that all the above ZOFCDs/ FCDs aggregating to Rs. 15,824.47 crores were Compound Financial Instruments ( CFIs ), on the ground that the appellant had rightly admitted and noted the same in its Note 36.2 of Notes to financial statements of revised audited books of A.Y. 2017-18 dated 15.03.2019; 10. failed to appreciate that the disclosure of the subject debentures under the head other equ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ct indicates that the Ld. PCIT has undertaken elaborate exercise on his own and accordingly, arrived at definitive view that the whole of amount of Rs. 15,824.47 crores is required to be included as transition amount for the purpose of computing the Book Profits of the Appellant for the subject Assessment Year. The Ld. PCIT thereafter had issued direction to the AO to apply the provisions of section 115JB(2C) of the Act and also to initiate appropriate penal proceedings. Keeping in view the nature of order, it is clear that the only issue which arises in the appeal is as to whether section 115JB(2C) of the Act applied to the amount of Rs. 15,824.47 crores represented by the instruments in question with PCIT already having arrived at the conclusion after making due inquiries and having concluded that section 115JB(2C) of the Act is applicable and addition of Rs. 15,824.47 crores is to be made. Thus, the order has become conclusive and binding on AO. Keeping in view the subject order and the nature of direction issued by the PCIT, the issue needs to be decided on merits at this stage itself. Therefore, we are disposing the appeal on merits as under. Brief Background 5. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion 115JB(2C) of the IT Act. 5.2 The mainstay of assessee's entire argument in support of its contention as to why ZOFCD/FCD (shown in its books as on 31.03.2016) should not be included in 'transition amount' u/s 115JB(2C) is that, these instruments are not Compound financial instruments. In its submission, assessee has vehemently and repetitively argued that the said ZOFCD/FCD are the instruments, entirely equity in nature and for this reason, they cannot be treated as compound financial instruments and hence, there was no question of arriving at their 'equity component' (as they were not compound financial instrument in first place), for the purpose of computation of transition amount/book profit as per provisions of Sec 115JB (2C). 5.3 Before examining above claim of assessee, let us understand what is the meaning of the term Financial Instrument and Compound Financial Instrument. Under the earlier GAAP there were no guidance on Financial Instruments except for Accounting Standard 13 'Accounting for investments' and Accounting Standard 11 The Effects of Changes in Foreign Exchange Rates'. In order to comply with the Ind AS requirements, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... und financial instrument Guidance Note issued by ICAI in July 2017- Para 8.2.17 in respect of instruments entirely equity in nature and the revised format providing for presentation of instruments entirely equity in nature, 5.5 Let us examine them one by one. 5.5.1 As mentioned by assessee itself in its submission, Paragraph 28 and 29 of Ind AS 32 provides guidance for determining whether a financial instrument is a compound financial instrument . The same is extracted below: 28. The issuer of a non-derivative financial instrument shall evaluate the terms of the financial instrument to determine whether it contains both a liability and an equity component. Such components shall be classified separately as financial liabilities, financial assets, or equity instruments.. 29. An entity recognizes separately the components of a financial instrument that (a) creates a financial liability of the entity and (b) grants an option to the holder of the instrument to convert it into an equity instrument of the entity. For example, a bond or similar instrument convertible by the holder into a fixed number of ordinary shares of the entity is a compound financial inst ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... benture holder may mutually agree for early redemption of the outstanding debentures on any date after expiry of 30 days from the respective date of allotments. In this case also the contention of the assessee that it is an instrument entirely equity in the nature is untenable. This clearly is a mixed instrument having both equity as well as debt component and debenture holder has option to convert debt into equity, it thus clearly falls under the category Compound Financial Instruments. FCDs of Rs, 279.90 crores : 0% Fully Convertible Unsecured Debentures of Rs. 100 each aggregating to Rs. 279.90 lacs Under this scheme the debentures are fully convertible into equity shares of the Company at any time after the expiry of 15 years but not later than 20 years from the respective date of allotments, starting with 12.08.1996. The conversion of the debentures will be based on higher of the book value or face value of equity shares as at March 31, 2015.. In this case also the company enjoys the fund till allotment of equity shares i.e. for a long period of 15 years, This instrument too, like ZOFCDs above, has both equity and debl component and holder of the instrument ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ture, in the reporting format under Division II of Schedule III of the Companies Act 2013, it is stated that this appears to be an after-thought and contrived excuse. Had it been so, assessee could have given an explanatory note to this effect in its notes to accounts. But it has not done so. Nor has it explained as to what prevented it from adding any such clarificatory note in its notes to accounts. 5.5.4 Even the justification put forth in the form of Guidance Note issued by ICAI in July 2017- Para 8.2.17 in respect of instruments entirely equity in nature and the revised format providing for presentation of instruments entirely equity in nature, lacks genuineness as, had it been so, it would have made use of such revised format and incorporated it in its revised audit report and revised financial statements ( post amalgamation) dated 15th Mar 2019 which has been prepared much after the release of said Guidance Note in July 2017. However the same has also not been done by the assessee. 5.5.5 The guidance note issued by !CAI in July 2017 has indeed provided such a classification, but it is applicable only to specific instruments which are purely of equity in nature such ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee's case the investments were zero coupon unsecured optionally fully convertible debentures (ZOFCD) . Zero coupon security by definition is a debt instrument which does not make interest payment. In other words, they are interest free and since the investments are fully convertible , these debt instruments that can be converted into equity of the assessing company at a given time. Thus, this is an embedded put option that gives debenture/bond holders the right to convert into shares. The nomenclature 'Zero coupon'( the assessee had adopted itself), the clarification in CBDT Circular and the very fact that the auditors themselves have classified the instruments as both equity and debt instruments leave no room for doubts about the intrinsic nature of these instruments, which is compound i.e., having both equity and debt elements. The fact is that the assessee at its own sweet will tries to give colour to these instruments as when necessary, as per its convenience. For example, when it got hit by the section in another year, it filed a writ petition challenging the constitutional validity of section 115JB(2C); which shows clearly that they had not classifie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 9. Thus, in sum and substance, the findings and the order of Ld. PCIT can be summarized in the following manner:- i. Any optionally convertible bond or debenture, wherein holder of the instrument has an option to convert debt into equity would be a Compound Financial Instrument (CFI). ii. As per the terms of the instruments, they have equity as well as debt component and the holder has an option to convert debt into equity, accordingly same are CFI iii. As per Note no 36.2 of the financial statements, assessee itself has categorized Zero coupon unsecured fully convertible debentures as Equity Component of CFI iv. The quantum of equity component, as per the Assessee s own admission, has been arrived at Rs. 15,824.47 crores (being entire value of the instruments in question). v. Equity component of CFI shall be considered as part of transition amount as per provisions of section 115JB(2C) of the Act. vi. The justification of the Appellant that it had no option but to show that ZOFCDs and FCDs as equity component of compound financial instruments under the heading of Other Equity lacks genuineness as before the revised financial statements were signed on 15.3.2 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ments for FY 2016-17: Sr. No. Heading Presentation Reference 1. Main Head Other Equity Original Financials Other Equity Revised Financials Instruments entirely Equity in nature Recasted/ regrouped Financials 2. Sub-head Note 11 - Instrument classified as Equity Original Financials Note 11 - Instrument classified as Equity Revised Financials Note 11A - Instruments entirely Equity in nature Recasted/ regrouped Financials 3. Reconciliation of Profit and other equity between Ind AS and previous GAAP Foot note I to Note 36.2 - all convertible issued by the Company considered under other equity under the head Equity component of compound financial instrument Original Financials Foot note I to Note 36.2 - all convertible issued by the Company conside ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... shall be further increased/ decreased (as the case maybe) by 1/5th of the transition amount for 5 assessment years, the term transition amount is defined as aggregate of the amounts adjusted in the other equity on the convergence date, with certain exceptions. 15. The questions raised before us in respect of the Grounds of Appeal can be summarized in the following way:- (i) Merely because the presentation of the Debentures (ZOFCDs and FCDs in question) is different under Ind-AS vis- -vis that under IGAAP, whether taxing the said Debentures in the garb of transition amount would amount to taxing an item of capital nature not chargeable to tax u/s. 2(24) of the Act? (ii) Whether based on the terms of the instruments and provisions of Ind-AS 32, can the instruments under question be regarded as Compound Financial Instruments ( CFI )? (iii) If answer to above is Yes, then what would be the equity component of the CFI? (iv) Mere presentation of the instruments that are entirely equity in nature under the head Other Equity will form part of transition amount for the purpose of section 115JB(2C) of the Act? 16. One of the first submissions of the Ld. Couns ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... component of financial instruments like NCD s, Interest free loan etc. would be included in the Transition Amount. 20. Thus, it was submitted that clarifications given in the aforesaid circular itself shows that the transition amount should not include an item which is of capital in nature which has been merely reclassified to other equity on transition date. 21. Rationale of taxing an equity component of CFI is to neutralize excess deduction that will take place in the subsequent years in respect of notional interest on liability component that will be debited to profit and loss account. Since the instruments in question do not have a liability component , there cannot be any charge to profit and loss account towards notional interest thereon. 22. In view of the foregoing facts and legal position, ld. Counsel for the Assessee submitted that the amount of Rs. 15,824.47 Crores does not form part of the transition amount as envisaged under section 115JB(2C) of the Act and thus 1/5th of the same should not be added to the book profit under section 115JB of the Act. 23. He submitted that, since the classification of ZOFCDs and FCDs as Instruments entirely equit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... trument contained therein. (iv) Para 30 of Ind AS 32 provides that Classification of the liability and equity components of a convertible instrument is not revised as a result of any change in likelihood of conversion subsequently. Para 11 of Ind AS 32 contains the definition of the term equity instruments and financial liability . The same are reproduced as under: An equity instrument is any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities. Financial liability is defined as any liability that is: (a) a contractual obligation: i) to deliver cash or another financial asset to another entity; or ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the entity; or (b) a contract that will or may be settled in the entity s own equity instruments and is: i) a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity s own equity instruments; or ii) a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another finan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nly if the issuer and investor, both, agree for the same. Therefore, as the holder of the instrument does not have an unconditional right to call for redemption of investment, the issuer (Assessee) does not have an obligation to pay cash to the investor. The fact that the parties may, at a subsequent point of time, mutually agree for redemption, does not make it the obligation of the Assessee to pay cash as on the date when the instrument is issued or as on the date of convergence. To determine the classification of the instrument for the purpose of transition to Ind AS, one has to see the position as on the date when Ind AS became applicable and not at the subsequent point of time. Para 19 of Ind AS 32 explains the meaning of no contractual obligation to deliver cash as if an entity does not have an unconditional right to avoid delivering cash or another financial asset to settle a contractual obligation, the obligation meets the definition of a financial liability. From this it is clear that if the issuer has an unconditional right to avoid delivering cash, it cannot be classified as a financial liability. In the facts of the case of the Assessee, basis the term ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n equity instruments. Both the above conditions are examined in the forgoing paras, which were negative for financial liability but positive for an equity instrument . Hence, it was submitted that the instruments in question are nothing but instruments entirely equity in nature . 30. Given the above submissions, the Ld. Counsel of the Assessee submitted that the ZOFCDs and FCDs cannot be classified as CFI as the same do not have a liability component, failing the dual condition to be classified as CFI, i.e., creation of financial liability and option for conversion is granted to the holder, based on the below criterion: There is no obligation to pay cash by the Issuer to the Investor since the issuer can unconditionally avoid delivery of cash by converting into equity shares; The instruments are convertible into fixed number of equity shares. 31. The Ld. Counsel before us further submitted that the accounting treatment of CFI is different than the instruments which are entirely equity in nature. In case of a CFI, the relevant interest expenditure is required to be debited to the profit and loss account on the basis of the market rate of interest (and not the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... te of Chartered Accountants of India ( ICAI ) issued a Guidance Note on Division II Ind AS Schedule III to the Companies Act, 2013 in July 2017 to provide guidance for the preparation of financial statements in accordance with Ind AS. The said guidance note inter-alia provides that the instruments which are classified as instruments entirely equity in nature' as per IND AS 32 and do not come within the schedule of 'equity share capital', can be presented in the balance-sheet, separate from schedule of 'equity share capital' and 'Other Equity', under a separate category titled 'Instrument entirely equity in nature' as shown below. 36. To give effect to the Guidance Note for 'Instruments entirely equity in nature', the Assessee re-casted/ regrouped financial statements, which were also audited by the statutory auditors. 37. Since the Assessee s financial statements were signed on 18.04.2017, in the absence of availability of Guidance Note at that time, the Assessee had no option but to show it under the head of Other Equity and under the said head, it was shown as Instrument classified as Equity Therefore, by virtue of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the Book Profit u/ s 115JB(2C) of the IT Act. He also referred to various observations of Ld. PCIT and heavily relied upon the same and submitted that he has clearly culled out how these ZFOCs are nothing but financial liability in the form of CFI falling within the definition of transition amount . 44. The Assessee had filed a rejoinder before the Tribunal rebutting to the arguments of the DR which are as follows: 45. The Assessee in its original and revised audited financial statements had presented the said instruments under the schedule of Other equity with the title 'Instrument classified as Equity'. However, only in note no. 36.2 of notes to the accounts, relating to reconciliation of profit and other equity between IND AS and previous GAAP, it has been mistakenly and inadvertently mentioned that all convertibles issued by the company considered under the other equity under the head Equity component of Compound Financial Instruments . 46. As explained above, the financial statements of the Assessee were recasted/ regrouped pursuant to Guidance note issued by the ICAI to make a correct disclosure in the balance sheet for the instruments that are entire ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... erest in respect of these instruments. Further, the observation of the Ld. DR that the interest represents discount, is factually incorrect since in the case of Appellant, the instruments were issued at par and were never issued at discount. 52. Moreover, the instruments redeemed during the year also included fresh debentures which were issued during the year in support of which a reconciliation of the amounts with the financial statements was submitted during the course of hearing. The ZOFCDs were redeemed at face value, hence there was no payment of premium on redemption. Accordingly, there was neither any element of interest/ interest representing discount, nor any premium paid on redemption. 53. With regard to the contractual obligation to deliver cash in the form of principal/ premium, Ld. Counsel reiterated his submission that: a. since the option to convert the instrument into equity, is not only available with the Investor but is also available with the Assessee, there is no obligation to pay cash by the Issuer to the Investor since the issuer can unconditionally avoid delivery of cash by converting into equity shares; b. the condition for early redemption is only ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... order may not be required as it will be neither erroneous nor prejudicial to the interest of revenue. Ld. PCIT has to point out not only there is an error in the assessment order but also it is prejudicial to the interest of revenue. Thus, the issue of applicability of section 115JB(2C) while computing the book profit needs to be examined on merits, because Ld. PCIT has arrived at the conclusion that assessee should have made adjustment on account of transition amount in section 115JB(2C). 55. The relevant provisions of sub-section (2C) read with explanation are as under:- Special provision for payment of tax by certain companies. 115JB. (1) Notwithstanding anything contained in any other provision of this Act, where in the case of an assessee, being a company, the income-tax, payable on the total income as computed under this Act in respect of any previous year relevant to the assessment year commencing on or after the 1st day of April, 2012, is less than eighteen and one-half per cent of its book profit, such book profit shall be deemed to be the total income of the assessee and the tax payable by the assessee on such total income shall be the amount of income-tax a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... with the Indian Accounting Standards 109 adjusted on the convergence date; (D) adjustments relating to items of property, plant and equipment and intangible assets recorded at fair value as deemed cost in accordance with paragraphs D5 and D7 of the Indian Accounting Standards 101 on the convergence date; (E) adjustments relating to investments in subsidiaries, joint ventures and associates recorded at fair value as deemed cost in accordance with paragraph D15 of the Indian Accounting Standards 101 on the convergence date; and (F) adjustments relating to cumulative translation differences of a foreign operation in accordance with paragraph D13 of the Indian Accounting Standards 101 on the convergence date. 56. Ergo, a company whose financial statements are to be drawn in compliance to the Indian Accounting Standards specified in Annexure to the Companies (Indian Accounting Standards) Rules, 2015, the book profit of the year convergence, which means the first day of Indian Accounting Standards reporting period as defined in IAS 101, for each of the following four previous years, shall be further increased or decreased by one-fifth of the transition amount . The t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Ss. 60. To comply with this requirement, assessee applied the requirements of Ind AS 32. Accordingly, it re-classified the Convertible Debentures of Rs. 15,824.47 crores, (which were presented as on 31st March 2016 in Indian GAAP balance sheet as Long term borrowings ) as equity instrument in its first Ind AS balance sheet and presented them as Instruments entirely Equity in nature . These Convertible Debentures were not reclassified as Compound Financial Instrument (another category covered under Ind AS 32) by the assessee. 61. To understand whether the ZCOCDs and OFCDs issued by the assessee company contained any terms and conditions of any financial liability as contemplated in Ind AS 32, the key terms of issue of the optionally fully convertible debentures outstanding as on 31st March 2016 (after considering the modifications made to the original terms of issue of the various series of convertible debentures on or before 31st March 2016) needs to be understood. Same are summarised below:- The convertible debentures had a fixed term. The convertible debentures were convertible into fixed number of equity shares of Rs. 10 each of the issuer at the rate of higher ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... present an opening Ind AS Balance Sheet at the date of transition to Ind ASs. This is the starting point for its accounting in accordance with Ind ASs.............. Appendix A: Definition of the term date of transition to Ind AS The beginning of the earliest period for which an entity presents full comparative information under Ind ASs in first Ind AS financial statements. Para 10:-.................. an entity shall, in its opening Ind AS Balance Sheet: (a)............; (b)............; (c) reclassify items that it recognised in accordance with previous GAAP as one type of asset, liability, or component of equity, but are a different type of asset, liability, or component of equity in accordance with Ind ASs; (d) apply Ind ASs in measuring all recognised assets and liabilities. 65. The transition amount as discussed above is defined as amount adjusted in other equity and the constituent of the Schedule of 'other equities' as per the Companies Act are as follows: a) Share application money pending allotment; b) Equity component of compound financial instruments; c) Reserve and surplus; d) Debt instrument through other ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ponent parts, on initial recognition as a financial liability, a financial asset, or an equity instrument in accordance with the substance of the contractual arrangement and the definitions of a financial liability, a financial asset, and an equity instrument. Para 16:-When an issuer applies the definitions in paragraph 11 to determine whether a financial instrument is an equity instrument rather than a financial liability; the Instrument is an equity instrument if, and only if, both conditions (a) and (b) below are met. (a) The instrument includes no contractual obligation: (i) to deliver cash or another financial asset to another entity; or (ii)to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the issuer and (b) If the instrument will or may be settled in the issuer's own equity instruments, it is: (i) a non-derivative that includes no contractual obligation for the issuer to deliver a variable number of its own equity instruments; (ii) ................ Para 22:-................. a contract that will be settled by the entity (receiving or) delivering a fixednumber ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er among holders. Furthermore, the likelihood of conversion will change from time to time. The entity's contractual obligation to make future payments remains outstanding until it is extinguished through conversion, maturity of the instrument or some other transaction. Para 31:-Equity instruments are instruments that evidence a residual interest in the assessee of an entity after deducting all of its liabilities. Therefore, when theamount of a compound financial instrument is allocated to its equity and liability components, the equity component is assigned the residual amount after deducting from the fair value of the instrument as a whole the amount separately determined for the liability component. The value of any derivative features (such as a call option) embedded in the compound financial instrument other than the equity component (such as an equity conversion option) is included in the liability component. The sum of the carrying amounts assigned to the liability and equity components on initial recognition is always equal to the fair value that would be ascribed to the instrument as a whole. No gain or loss arises from initially recognising the components of the i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... isclosed in the balance sheet as on 31st March 2016 as long-term borrowings . Since,Ind AS 32 was made effective to the Companies Act 2016 for the financial year commencing from 1st April 2015, the assessee company was required to prepare its opening Ind AS 32 balance sheet as on the date of transition, which is the beginning of the earlier period for which an entity presents fully comparative information under Ind AS 32. Whenever opening Ind AS 32 balance sheet is prepared, Ind AS 32 101 requires that in this opening balance sheet not only all the assets and liabilities should be recognized but also the classification should be in accordance with the requirements of Ind AS 32. With the classification of assets, liabilities, components of equity made as per the requirements of previous GAPP was different from the one which is appropriate as per the requirementof Ind AS, then those should be classified so as to appropriate as per the Ind AS. In the balance sheet of the assessee company as on 31st March 2016 and the Indian GAPP, there were outstanding convertible debentures which were shown under long term borrowings in the in the component Ind AS balance sheet as on 1stApril 20 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... en there has to be a liability component embedded in it. 71. Ergo, we have to see, whether in the present case, what constitute financial liability. Ostensibly, there are two situations in relation to financial instrument which can be reckoned as financial liability; firstly, there is a contractual obligation to make settlement either by monetary payment or by delivering any other financial asset; or secondly, the settlement has to be made by exchange of variable number of its own equity instruments. If we keep this definition as provided in Ind AS 32 incorporated (supra),then the instrument is an equity instrument for the issuer only if both the conditions as stated above are satisfied, i.e., there is no contractual obligation for the issuer to make settlement either by monetary payment or by delivering any other financial assets and secondly, there is no contractual obligation for the issuer to make settlement by delivering variable numbers of its own equity instruments. 72. Here on facts of the present case, the convertible debentures can be converted into fixed number of equity shares either unilaterally by the investor or by the issuer without the consent or concurrence ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... will also not be there, as the settlement will be through issue of own equity instruments of the assessee company. Thus, the liability in monetary terms is NIL in the present case. Further when the entire financial instrument is classified as equity, there will be no charge on account of notional interest or any kind of financial liability in the statement of profit and loss during the entire tenure of such instrument after initial recognition in the financial accounts. It was for this precise reason; the assessee company has neither provided any interest cost or claimed any kind of financial liability in the profit and loss account. Thus, to summarise, the financial instrument under consideration here in this case, we find that; firstly, there is no financial liability; secondly, it cannot be classified as compound financial instrument;and lastly, the settlement purely on account of allotting equity shares. 74. One of the key arguments on behalf of the revenue and also by the Ld. PCIT in his order is that, assessee company itself has classified is optionally convertible debentures into other equity which is as per the definition under the transition amo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion, are not treated part of transition amount. In a nut shell, not all the reserves forming part of other equity are transition amount as understood by the Revenue authorities. In the earlier part of the order, we have also referred to the CBDT circular number 24/2017 (supra), wherein CBDT has clarified vide question No. 7, which itself indicates that already recognized capital liability cannot be part of the transition amount. What should be the part of the other equity , is, total comprehensive income determined on the date of convergence date based on adjustment determined as per the various accounting standards ofInd AS 101, 16, 38 and other similar adjustment as per the other parts of Ind AS. This also includes certain adjustment based on the reports of financial instrument as per Ind AS 32. 77. In the accounting standard, Ind AS 32, the respective companies has to determine comprehensive income/loss based on composite instrument which has element of equity or financial liability. There are various types of financial instruments which are debt based or equity based instrument for which termsare different for the various types of instruments. On the date of convergence, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 32 Appendix C-documents shows that the amount of CU 1,51,878 has been classified as equity component of the compound financial instrument on initial recognition. The liability component of CU 18,48,122 will have to equal CU 20,00,000 at the end of 3 years so that at the expiry of the term of the instrument, the same can be paid back to the investor. To this effect, the difference of CU 1,51,878 (CU 20,00,000 less 18,48,122) will have to be debited as notional interest in the statement of profit and loss during the remaining term of the compound financial instrument. 79. In case the financial instrument is classified as a compound financial instrument as covered in the illustrative example, then the accounting entries under Ind AS with respect to the data as per the said illustrative example, at the time of initial recognition of above convertible bonds in subsequent periods and at the time of redemption of bonds, will done in the following manner:- Sr. No Particulars Debit Credit A On Initial recognition: ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... D At the end of Year 3: Interest Expenses Account 1,75,046 To Liability 1,75,046 [Booking of interest expenses on opening liability of Rs. 19,44,954 @9%] Interest payment at nominal rate and settlement of outstanding liability; Liability Account 21,20,000 Accounting entries in respect of the Illustration no. 9 Sr. No. Particulars Debit Credit To Bank 21,20,000 [Nominal Interest amount of Rs. 1,20,000 and Principal amount -Rs.20,00,000] ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... res can be classified and held as financial instrument, i.e., entire debenture is a financial liability so as to be classified under the head transition amount , as held by Ld. PCIT in his order. We have reiterated many times in the earlier part of the order that only the component of financial liability element alone i.e., (financial liability or assets) which has to be taken as transition amount . Ld. PCIT has completely erred in accounting principle while holding that the entire convertible debentures for sums aggregating to Rs.15544.57 crores is a transition amount which needs to be adjusted over the period of 5 years while computing the book profit. This finding itself vitiates the entire reasoning and the view taken by the Ld. PCIT. 81. If the above illustration is to be taken as a guideline to determine the transition amount which needs to be adjusted, then only the financial liability embedded in it alone can be treated as transition amount as per Ind AS 32. Here in this case, there was no kind of any financial liability or any interest component which can be ascertained or determined on the said convertible debentures. As we have already held above that, since the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... kind of financial liability to classify it as Compounding Financial Instrument and in turn to quantify the same as transition amount. 83. We have already noted in the earlier part of our order that Zero Coupon OFCDs issued on 30th June 1995 which was issued at par for Rs. 441.57 crores was converted into 72388770 equity shares in financial year 2020-21 and the total convergence was at par only. The Zero Coupon OFCDs issued in the year 2015 and 2016 issued for sums aggregating to Rs. 1510.30 crores, the entire ZOFCDs was redeemed in the financial year 2016-17 at par. Thus, even though it has been redeemed within the year in a very short span of a year, then also there is neither any interest component nor any financial liability in the form of compounding financial instruments or any kind of discounting factor which can be said to be applicable. Nor assessee has claimed in the financial account or treated it as financial liability. The fact that it was redeemed will not take away the character at the time of issuance of Zero coupon OFCDs as both the issuer and investors had understood that it would be converted into equity shares at par and that s the precise reason no financial ..... X X X X Extracts X X X X X X X X Extracts X X X X
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