24 July 2011
XYZ Pvt. Ltd. entered into a contract with AB Ltd to supply a Machine within stipulated time but failed to do the same. Hence XYZ Pvt Ltd. paid the damage charges to AB Ltd. But as per my knowledge such receipt is a capital receipt. My doubt is what should be the accounting entry in the same case?
25 July 2011
It is not a capital receipt, but an amount received as damages for failure to complete the supply within the deadline. It is a receipt in the normal course of the business. and is a revenue receipt taxable as business income. Entry that could be passed: Bank A/c ...Dr. To Liquidated Damages a/c ( Profit and Loss Account under Other Income)
25 July 2011
If it is at the time of initial installation of the plant and there is no production the income is to be treated as reduction in the value of the assets and accordingly it will not be taxed or if any expenses are incurred the same is to be adjusted against the fine or penalty charged
25 July 2011
As per the opinion of the expert advisory committee on the query of a public sector company, "liquidated damages are not directly attributable to the acquisition of capital equipment like trade discounts and rebates. they are also not adjustments in the price of the equipment. the damages result from inefficiency on the part of the supplier, i.e., delay in the supply of the equipment. in view of this, the liquidated damages received from the supplier cannot be adjusted in the cost of purchase." So, Liquidity damages charges should be credited to profit and loss account and can be shown under misc. income. However if the amount is material than this should be shown seprately as 'Liquidity Damages Charges'.
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