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4. Clause (f) and clause (ii) of section 115JB based on Matching Principle of accountancy.

MAT regime was first introduced by insertion of section 115J vide Finance Act, 1987 w.e.f. 01.04.1988, and later substituted by section 115JA of the Act w.e.f. 01.04.1997. Under both these sections, the above clauses (ii) and clause (f) of section 115JB of the Act did find mention in the Explanation to that sections inasmuch as while computing adjusted book profit, exempt income credited to the profit and loss account was required to be excluded and simultaneously, upward adjustment was to be made on account of corresponding actual expenditure debited to the profit and loss account relatable thereto. This treatment is, in our respectful submission, based on the Matching Principle of accountancy which provides that expenses are recognized in the profit and loss account only to the extent relatable to the accrual of the corresponding income. The matching principle finds mention under the accrual concept, which is one of the fundamental accounting assumptions, outlined in Accounting Standard-l 'Disclosure of Accounting Policies' issued by the Institute of Chartered Accountants of India ( 'ICAI').

94. Man v expenses are recognised in the statement of profit and loss on the basis of a direct association between the costs incurred and the earning of specific items of income.
This process, commonly referred to as the matching of costs with revenues, involves the simultaneous or combined recognition of revenues and expenses that result directly and jointly from the same transactions or other events; for example, the various components of expense making up the cost of goods sold are recognised at the same time as the income derived from the sale of the goods. However, the application of the matching concept under this Framework does not allow the recognition of items in the balance sheet which do not meet the definition of assets or liabilities." (emphasis supplied) On perusal of the above extracts of the Framework, it will be appreciated that under the matching principle, only those costs are recognized in the profit and loss account which have direct association with the earning of income. The above matching principle has also been discussed by the Supreme Court in the case of Rotork Controls India Pvt. Ltd. v. CIT: 314 ITR 62 @ 73, while upholding deduction of warranty liability provided in the books, as under:
accounting for warranty expenses on cash basis, which is prohibited both under the Companies Act. as well as by the Accounting Standards which require accrual concept to be followed. In the present case, the Department is insisting on the first option which, as stated above, is erroneous as it rules out the accrual concept. The second option is also inappropriate since it does not reflect the expected warranty costs in respect of revenue already recognized (accrued). In other words, it is not based on matching concept. Under the matching concept, if revenue is recognized the cost incurred to earn that revenue including warranty costs has to be fully provided (or. When Valve Actuators are sold and the warranty costs are an integral part o(that sale price then the appellant has to provide (or such warranty costs in its account (or the relevant year, otherwise the matching concept (ails. In such a case the second option is also inappropriate. Under the circumstances, the third option is most appropriate because it fulfils accrual concept as well as the matching concept. For determining an appropriate historical trend, it is important that the company has a proper accounting system for capturing relationship between the nature of the sales, the warranty provisions made and the actual expenses incurred against it subsequently. Thus, the decision on the warranty provision should be based on past experience of the company. A detailed assessment of the warranty provisioning policy is required particularly if the experience suggests that warranty provisions are generally reversed if they remained unutilized at the end of the period prescribed in the warranty. Therefore, the company should scrutinize the historical trend of warranty provisions made and the actual expenses incurred against it. On this basis a sensible estimate should be made. The warranty provision for the products should be based on the estimate at year end of future warranty expenses. Such estimates TA 502/D/12 & CO 68/D/2014 Vireet Investment P. Ltd.