Termination of agreemnet & compensation
This query is : Resolved
17 February 2009
There is a pre-termination agreement between two companies, and one compnay is getting compensation in 45 nstallments... balance peried of agreemnet 36 months. whether we need to account it on accrual basis or receipt basis?.. Tax is applicable on accrual or receipt? pls advice
17 February 2009
MR NAIR PLS PROVIDE THE DETAIL NATURE OF TRANSACTION
17 February 2009
Depends upon the method of accounting followed by the assessee.
If its accrual, then accrual and so forth.
If its accrual, then accrual and so forth.
17 February 2009
agreements is for providing atm service to a bank. now bank wanted to terminate it and ready to give compensatiion in 45 instalments... balance period of contract is 36months. how we have to account it and whether tax will come on accrual or receipt basis.. any case studies are there?
02 August 2025
Thanks for sharing the details.
### Accounting for compensation on termination of agreement:
* If the company **follows accrual accounting**, the compensation income should be recognized **on an accrual basis** over the 36 months balance period, even if payment is received in 45 installments.
* If the company follows **cash basis accounting**, then income is recognized only when the cash is received.
Since it’s a service contract, **accrual basis** is generally the accepted method under Indian GAAP and accounting standards.
### Tax treatment:
* For **Income Tax**, generally income is taxable **on accrual basis** if the assessee follows accrual method.
* If the company maintains accounts on cash basis, then taxable income is recognized on **receipt basis**.
* So, tax liability will arise as per the accounting method consistently followed by the assessee.
### Practical points:
* Since payments are spread over 45 installments but the contract balance period is 36 months, the company should accrue compensation income for 36 months, and the excess installments may include interest component (which should be separately identified and accounted for).
* You should analyze the agreement for any interest component in the installment payments.
### Relevant case laws:
* The general principle of accrual vs receipt basis depends on accounting method as held in many rulings including **CIT vs Keltron (2001)** and other assessments.
* Specific case law depends on the facts but usually, accrual basis is preferred for contracts.
---
### Accounting for compensation on termination of agreement:
* If the company **follows accrual accounting**, the compensation income should be recognized **on an accrual basis** over the 36 months balance period, even if payment is received in 45 installments.
* If the company follows **cash basis accounting**, then income is recognized only when the cash is received.
Since it’s a service contract, **accrual basis** is generally the accepted method under Indian GAAP and accounting standards.
### Tax treatment:
* For **Income Tax**, generally income is taxable **on accrual basis** if the assessee follows accrual method.
* If the company maintains accounts on cash basis, then taxable income is recognized on **receipt basis**.
* So, tax liability will arise as per the accounting method consistently followed by the assessee.
### Practical points:
* Since payments are spread over 45 installments but the contract balance period is 36 months, the company should accrue compensation income for 36 months, and the excess installments may include interest component (which should be separately identified and accounted for).
* You should analyze the agreement for any interest component in the installment payments.
### Relevant case laws:
* The general principle of accrual vs receipt basis depends on accounting method as held in many rulings including **CIT vs Keltron (2001)** and other assessments.
* Specific case law depends on the facts but usually, accrual basis is preferred for contracts.
---
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