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Press Release on ECB and Benefit Analysis of accounting treatment under Para 46 / 46A of AS 11

Forex accounting treatments are covered under various Accounting Standard (AS) like AS 10, AS 11, AS 16 etc. To make correct accounting treatment for forex gain / loss, treatment of transactions under specific Accounting Standard with other co-related Accounting Standard have to follow. This article is covering the RBI press release on External Commercial Borrowing (ECB) and accounting treatment of ECB.

The Ministry has received several representations from industry associations that Para 6 of Accounting Standard-11 and Para 4(e) of AS-16 are posing problems in proper implementation of Para 46A of notification 914(E) dated 29-12-2011. In order to resolve the problems faced by industry, it is hereby clarified that Para 6 of Accounting Standard-11 and Para 4(e) of the Accounting Standard-16 shall not apply to a company which is applying clause 46A of Accounting Standard-11.

Before above clarification on Para 46 / 46A of AS 11, Forex loss on borrowing first to consider in Para 4(e) of AS 16 and then balances forex will cover in AS 11. For Para 4(e) of AS 16 calculation, notional interest amount, based on local notional interest rate of borrowing, is compared with actual foreign borrowing interest cost and then again forex loss to the extent of notional local interest cost of borrowing is considered as finance cost and balance amount of forex will be covered under AS 11. This forex bifurcation for AS 11 and AS 16 impact was creating confusion and posing calculation problem.

Press release for External Commercial Borrowings (ECB) is as below:

External Commercial Borrowings (ECB): Repayment of Rupee loans A.P. (DIR Series) Circular No. 134 dated 25th June, 2012 and Press Release 2011-2012/2057 dated 25th June, 2012

RBI has now allowed Indian companies in the manufacturing and infrastructure sector to avail ECBs for repayment of Rupee loan(s) availed from the domestic banking system and/or for fresh Rupee capital expenditure, under the approval route, subject to the following conditions:

(i) Such companies shall be a consistent foreign exchange earner during the past three financial years;

(ii) Such companies are not in the default list/caution list of the RBI; and

(iii) Such ECBs shall only be utilised for repayment of the Rupee loan(s) availed of for 'capital expenditure' incurred earlier and are still outstanding in the books of the domestic banking system and/or for fresh Rupee capital expenditure.

The overall ceiling for such ECBs shall be $10 (ten) billion.

The maximum permissible ECB that can be availed of by an individual company shall be limited to 50% of the average annual export earnings realised during the past three financial years.

The ECBs shall be allowed to companies based on the foreign exchange earnings and its ability to service the ECB. Authorised Dealer should ensure that the foreign exchange for repayment of ECB is not accessed from Indian markets and the liability arising out of ECB is extinguished only out of the foreign exchange earnings of the borrowing company.

Interpretation of Para 46A of AS 11

Forex (gain / loss) arising on reporting of long-term foreign currency monetary items-

· insofar as they related to the acquisition of a depreciable capital asset, can be added to or deducted from the cost of the asset and shall be depreciated over the balance life of the asset,

· and in other cases, can be accumulated in a “Foreign Currency Monetary Item Translation Difference Account’’ in the enterprise's financial statements and amortized over the balance period of such long-term asset or liability,

Note: The above treatment is an option to enterprise and once option is availed then option to be irrevocable.

So if company will take ECB based on RBI’s process, procedure , rules and regulation , the company will get benefit of interest cost (generally interest rate is lower than the Indian market) as well as Forex loss which is amortised / capitalised based on above Para 46 /46A with clarification has been given on August 9, 2012.

To get more clarity, ECB is bifurcated into two categories for Accounting treatment under Para 46 / 46A of AS 11:

Category 1: Fresh ECB: following will be the process of accounting

· Check whether Fresh ECB is long term liabilities ( is it for more than 12 months): If yes

· Revaluation to be done at each reporting period by applying the closing Forex rate

· The Forex loss due to revaluation is amortised during the tenure of loan by transferring unamortised portion to “ Foreign Currency Monetary Translation Difference Account”

Let’s understand through practical example,

On April 1, 2012, after fulfills of all approval route, RBI has approved ECB and company ABC limited has received 100 usd Mn @ 4.5% by 5 equal yearly installment (April 1 every year)

As on April 1, 2012 and March 31, 2013 exchange Rate is Rs. 51 & Rs. 54

Following is accounting treatment / impact:

The ECB is for five year, so this is a long term liabilities andForex loss amortised during the tenure of loans:

Forex loss on account of exchange difference is Rs. 30 crore {USD 100mn (54-51)} shall be amortised during the tenure of loans, so only Rs. 6 crore (Rs. 30 crore / 5 years ) charged to P&L and balances amounting to Rs. 24 crore transferred to “Foreign Currency Monetary Translation Difference Account (Under Reserve and Surplus) and amortised during balance tenure of loans.

Subsequent year onwards, movement of forex to be worked out and amortization to be done on Forex movement.

Note: The Ministry has received several representations from industry associations that Para 6 of Accounting Standard-11 and Para 4(e) of AS-16 are posing problems in proper implementation of Para 46A of notification 914(E) dated 29-12-2011. In order to resolve the problems faced by industry, it is hereby clarified that Para 6 of Accounting Standard-11 and Para 4(e) of the Accounting Standard-16 shall not apply to a company which is applying clause 46A of Accounting Standard-11.

So by above, clarification Forex losses directly consider in AS 11 and Forex loss is not required to test under Para 4(e) of AS 16.

Category 2: Project ECB : ECB loans received and utilised for repayment of rupee loans which was availed for Capital expenditure (project purpose) and still it is outstanding

· Check whether ECB is long term liabilities ( is it for more than 12 months): If yes

· Revaluation to be done at each reporting period by applying the closing Forex rate

· Check whether received ECB is utilized for the purpose of Project Rupee Loan payment : If yes

· The Forex loss due to revaluation of ECB is to be added to the cost of the asset and shall be depreciated over the balance life of the asset

Let’s understand through practical example,

Company ABC limited has Outstanding of domestic Term Loan of Rs. 510 crore @13.00% as on March 31, 2012, still another 5 yearly installments to be paid (annual installment on March 31 every year and Loan has been taken for project before two years back, project was completed in March 30, 2012)

On April 1, 2012, after fulfills of all approval route, RBI has approved ECB and company has received 100 usd Mn @ 4.5% by 5 equal yearly installment (April 1 every year)

As on April 1, 2012 and March 31, 2013 exchange Rate is Rs. 51 & Rs. 54

Depreciation Rate is 5.28%

In our example, the company had high interest bearing rupee loan and now based on press release, the company is able to replace the lower interest rate foreign currency project loan by considering the risk on Forex rate movement. So by substance, in company’s financial statement, there are no changes on loan liabilities except rupee loan convert into ECB as well as changes in loan agreement, if any.

So we can say that company has $ outstanding project loan and we can avail the option of capitalization of Forex loss on foreign currency loan given in Para 46 / 46A of AS 11.

Forex loss on account of exchange difference is Rs. 30 crore {USD 100mn (54-51)} shall be added to the cost of the asset and shall be depreciated over the balance life of the asset. So as on March 2013, Nil Forex loss charged to P&L and deprecation charged to P&L is Rs. 1.06 crore (Rs. 30*5.28%= Rs. 1.59 crore).

Subsequent year also, the forex movement to indentify and forex movement is charged to capitalization and based on capitalization depreciation will be charged

One thing is very clear that, by Clarification on Para 46A of AS 11 and RBI circular on ECB, Industry will get lower cost fund which will minimize overall finance cost of the company by amortisation of forex fluctuation during the tenure of loan or capitalisation and depreciated the forex fluctuation over the useful life of assets

Nirmal Shah

Nirmal.Shah@essar.com

Source:

AS 11: The Effects of Changes in Foreign Exchange Rates

Repayment of Rupee loans A.P. (DIR Series) Circular No. 134 dated 25th June, 2012 and Press Release 2011-2012/2057 dated 25th June, 2012

Clarification No. 25/2012, dated 9-8-2012

AS 16: Borrowing Costs


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