Account Sn 2004 Pe2 Gr1

PAPER – 1 : ACCOUNTING Answer all questions. Working notes should form part of the answer. Question 1 From the following balance sheets of Sneha Ltd. as on 31.3.2003 and 31.3.2004 prepare a statement of sources and applications of fund and a schedule of changes in working capital for the year ending 31.3.2004: Liabilities Equity share capital Profit and loss account 10% Debentures Creditors Bills payable Provision for tax Dividend payable

Balance Sheets

31.3.2003 Rs. 13,00,000 4,90,100 16,25,000 9,00,000 42,500 2,60,000 −

31.3.2004 Rs. 16,90,000 8,77,500 13,00,000 10,00,000 1,70,000 9,75,000 42,250

46,17,600

60,54,750

Assets

31.3.2003 Rs. 65,000 11,70,000 16,18,500 5,07,000 4,16,000 5,07,000 2,60,000 42,250 31,850 46,17,600

Goodwill Building Machinery Non-trade investments Debtors Stock Cash Prepaid expenses Debenture discount

31.3.2004 Rs. 42,500 11,37,500 21,38,500 3,93,250 11,70,000 7,99,500 2,92,500 52,000 29,000 60,54,750

The following additional information is given: (i) Accumulated depreciation 31.3.2003 Accumulated depreciation 31.3.2004 Depreciation for 2003-2004 (ii)

Profit and loss account for 2003-2004 is as follows: Balance as on 31.3.2003 Add: Profit for 2003-2004 Less: Dividend

Building Rs. 4,87,500 5,20,000 32,500

Machinery Rs. 15,92,500 15,66,500 1,36,500

Rs. 4,90,100 4,71,900 9,62,000 84,500 8,77,500

(iii) During 2003-2004 machinery costing Rs. 2,92,500 was sold for Rs. 97,500. (iv) Investments which were sold for Rs. 1,17,000 had cost Rs. 97,500. (v) Provision for Taxation and Dividend are to be taken as Non-current liabilities. (20 marks)

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

Answer (a)

Sneha Ltd. Fund Flow Statement for the year ended 31st March, 2004 Sources of funds Share capital (Rs. 16,90,000 − Rs. 13,00,000) Sale of machinery Sale of investments Funds from operation (W.N. 1)

3,90,000 97,500 1,17,000 16,70,500 22,75,000

Applications of funds Debentures redeemed (Rs. 16,25,000 − Rs. 13,00,000) Machinery purchased (W.N. 4) Tax paid∗ Dividend (Rs. 84,500 − Rs. 42,250) Increase in working capital

Current Assets: Debtors Stock Cash Prepaid expenses

3,25,000 7,86,500 2,60,000 42,250 8,61,250 22,75,000

Schedule of Changes in Working Capital for the year ended 31st March, 2004 Balance as on Changes in working capital 1.4.2003 31.3.2004 Increase Decrease Rs. Rs. Rs. Rs.

Current Liabilities: Creditors Bills payable Working capital (A – B) Increase in working capital ∗

Amount (Rs.)

A

B

4,16,000 5,07,000 2,60,000 42,250 12,25,250

11,70,000 7,99,500 2,92,500 52,000 23,14,000

9,00,000 42,500 9,42,500 2,82,750

10,00,000 1,70,000 11,70,000 11,44,000

7,54,000 2,92,500 32,500 9,750

− − − −

10,88,750

1,00,000 1,27,500 2,27,500

________ 10,88,750

8,61,250 10,88,750

The provision for taxation has been treated as a non-current liability as per the requirement of the question. Last year’s provision for taxation amounting Rs. 2,60,000 has been assumed to be paid in the current year ended 31st March, 2004.

PAPER – 1 : ACCOUNTING

Working Notes: 1.

Statement showing funds generated from operations

Increase in profit and loss account during the year (Rs. 8,77,500 – Rs. 4,90,100) Add: Non-cash expenditures (1) Loss on sale of machinery (W.N. 4) (2) Investments written off (W.N. 2) (3) Provision for tax (4) Depreciation on building (Rs. 11,70,000 – Rs. 11,37,500) 32,500 on machinery (W.N. 3) 1,36,500 (5) Goodwill written off (Rs. 65,000 – Rs. 42,500) (6) Debenture discount written off (Rs. 31,850 – Rs. 29,000) (7) Dividend Less: Non-cash incomes (1) Profit on sale of investments (Rs. 1,17,000 – Rs. 97,500) Funds from operations 2. Dr. To To

To

Rs. 5,07,000 By 19,500 By

Balance b/d Profit on sale (Rs. 1,17,000 − Rs. 97,500)

_______ By 5,26,500

32,500 16,250 9,75,000 1,69,000 22,500 2,850 84,500 13,02,600 16,90,000 19,500 16,70,500

Bank -Sale Profit and loss account – written off (balancing figure) Balance c/d

Provision for Depreciation on Machinery Account Machinery -sale (balancing figure) Balance c/d

Rs. 1,62,500 By By 15,66,500 17,29,000

4. Dr. To Balance b/d Add: Provision for depreciation To Bank -purchase (balancing figure)

Balance b/d Depreciation

16,18,500

By By 15,92,500 32,11,000 By By 7,86,500

Cr. Rs. 1,17,000 16,250 3,93,250 5,26,500 Cr. Rs. 15,92,500 1,36,500 17,29,000

Machinery Account Rs.

(Rs.) 3,87,400

Non Trade Investment Account

3. Dr. To

5

Bank (sale) Depreciation Loss on sale Balance c/d W.D.V.

Cr. Rs. 97,500 1,62,500 32,500 21,38,500

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

Add: Provision for depreciation

________ 39,97,500

15,66,500 37,05,000 39,97,500

Question 2 Lucky does not maintain proper books of accounts. However, he maintains a record of his bank transactions and also is able to give the following information from which you are requested to prepare his final accounts for the year 2003: 1.1.2003 Rs. 1,02,500 − 50,000 − 7,500

Debtors Creditors Stock Bank Balance Fixed Assets

31.12.2003 Rs. − 46,000 62,500 50,000 9,000

Details of his bank transactions were as follows: Rs. 3,40,000 5,000 1,750 2,80,000 49,250 25,000 5,000

Received from debtors Additional capital brought in Sale of fixed assets (book value Rs. 2,500) Paid to creditors Expenses paid Personal drawings Purchase of fixed assets

No cash transactions took place during the year. Goods are sold at cost plus 25%. Cost of goods sold was Rs. 2,60,000. (16 marks) Answer Trading and Profit and Loss Account for the year ended 31st December, 2003

To To To

Opening stock Purchases (balancing figure) Gross profit c/d (Rs. 2,60,000 × 25/100)

Amount Rs. 50,000 By By 2,72,500 65,000 _______ 3,87,500

Sales (Rs. 2,60,000 × 125/100) Closing stock

Amount Rs. 3,25,000 62,500

_______ 3,87,500

PAPER – 1 : ACCOUNTING

To To To To

Expenses Loss on sale of fixed assets Depreciation on fixed assets (W.N.1) Net profit

49,250 By

Gross profit b/d

7

65,000

750 1,000 14,000 65,000

______ 65,000

Balance Sheet as on 31st December, 2003 Liabilities Capital (W.N. 5) Add: Additional capital Net profit Less: Drawings Creditors

1,69,000 5,000 14,000 1,88,000 25,000

Amount Rs. Assets Fixed assets Debtors (W.N. 3) Stock Bank balance 1,63,000 46,000 2,09,000

Amount Rs. 9,000 87,500 62,500 50,000 _______ 2,09,000

Working Notes: 1. Dr. To To

Fixed assets account Balance b/d Bank

Rs. 7,500 By 5,000 By By _____ By 12,500

2. Dr. To To To To

Bank (sale) Loss on sale of fixed asset Depreciation (balancing figure) Balance c/d

Bank account Balance b/d (balancing figure) Debtors Capital Sale of fixed assets

Rs. 62,500 3,40,000 5,000 1,750 _______ 4,09,250

By By By By By

Creditors Expenses Drawings Fixed assets Balance c/d

Cr. Rs. 1,750 750 1,000 9,000 12,500 Cr. Rs. 2,80,000 49,250 25,000 5,000 50,000 4,09,250

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

3. Dr. To To

Debtors account Balance b/d Sales (Rs. 2,60,000 ×

125 ) 100

4. Dr. To To

Rs. 1,02,500 By 3,25,000 By _______ 4,27,500

Bank Balance c/d (balancing figure)

Creditors account Bank Balance c/d

5. Liabilities Creditors (W.N. 4) Capital (balancing figure)

Rs. 2,80,000 By 46,000 By 3,26,000

Balance b/d (balancing figure) Purchases (from trading account)

Balance Sheet as on 1st January, 2003 Rs. Assets 53,500 Fixed assets 1,69,000 Debtors Stock _______ Bank balance (W.N. 2) 2,22,500

Cr. Rs. 3,40,000 87,500 _______ 4,27,500 Cr. Rs. 53,500 2,72,500 3,26,000 Rs. 7,500 1,02,500 50,000 62,500 2,22,500

Question 3 (a) The Life Insurance Fund of an Insurance Company was on 31.3.2004 Rs. 60 lakhs before providing for dividend of Rs. 20,000 for the year 2003-2004. While ascertaining the above fund figure, the following items were omitted: (i)

Interest received on investments Rs. 63,000 after deduction of tax at source 10%.

(ii) Bonus utilized for reduction of premium Rs. 14,000. (iii) Death claim intimated, but not yet admitted Rs. 36,000. (iv) Death claim covered under re-insurance Rs. 12,000. (v) Consideration for annuities granted Rs. 9,000. Interim bonus for the valuation period paid was Rs. 80,000. Net liabilities as per valuation was Rs. 50 lakhs. It is now proposed to carry forward Rs.2,70,000. The company declared a reversionary bonus of Rs.12 per Rs. 1,000 and gave the policyholders an option to get the bonus in cash for Rs. 5 per Rs. 1,000. Total business of the company is Rs. 15 crores, 40% of the policyholders decided to get bonus in cash.

PAPER – 1 : ACCOUNTING

9

Prepare: (i)

Valuation Balance Sheet as on 31.3.2004.

(ii) Distribution Statement showing the amount due to the policyholders. Also give Journal Entries relating to reversionary bonus. (b) Power Electric Company decides to replace one of its old plant by an improved plant with larger capacity. The cost of the new plant is Rs. 16,00,000. Materials and Labour earlier and now are in the ratio of 4 : 6. Original cost of the old plant is Rs. 3,00,000. Materials cost has gone up by 2½ times and Labour cost by 3 times since then. Old materials worth Rs. 10,000 were used in the construction of the new plant and Rs. 20,000 were realised from the sale of old materials. Give the necessary Journal Entries for recording the above transactions. (10 + 6 = 16 marks) Answer (a) To To

Valuation Balance Sheet as on 31.3.2004 Rs. Net liabilities 50,00,000 By Life insurance fund (adjusted) Net profit 10,34,000 (W.N. 1) 60,34,000 Distribution Statement

Rs. 10,34,000 80,000 11,14,000 20,000 10,94,000 2,70,000 8,24,000

Net profit as per Valuation Balance Sheet Add: Interim bonus paid Less: Dividend provided for 2003-2004 Less: Carried forward True surplus 7,82,800 80,000 7,02,800

Policy holders will get 8,24,000 × 95% Less: Interim bonus paid Amount due to policy holders Particulars Profit and loss account To Bonus payable in cash (Being the bonus payable in cash)

Rs. 60,34,000 ________ 60,34,000

Journal Entries

Dr.

Dr. Amount Rs. 3,00,000

Cr. Amount Rs. 3,00,000

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

Profit and loss account To Life insurance fund (Being transfer to Life insurance fund for new liability)

Dr.

10,80,000∗

10,80,000

Working Notes: 1. Calculation of Adjusted Life Insurance Fund as on 31.3.2004 Life insurance fund before adjustments Add: Interest on investment (gross) 63,000× 100 (100 - 10) Less: Tax deducted at source

Rs. 60,00,000 70,000 7,000

63,000

Consideration for annuities granted Less: Death claim intimated Less: Death claim covered under re-insurance Bonus utilized in reduction of premium Adjusted Life Insurance Fund 2.

9,000 36,000 12,000

24,000 14,000

72,000 60,72,000

38,000 60,34,000

Bonus Rs. 15 crores × 4/10 × 5/1,000 = Rs. 3,00,000 payable in cash Rs. 15 crores × 6/10 × 12/1,000 = Rs. 10,80,000 transfer to fund

(b)

Journal Entries Particulars Plant account To Bank account To Replacement account (Being the additional cost incurred and old materials utilized in new plant) Replacement account To Bank account (Being the current cost of replacement)

∗

Dr.

Dr. Amount Rs. 7,70,000

Dr.

8,40,000

Cr. Amount Rs. 7,60,000 10,000

8,40,000

Note: In the present case, the total of bonus payable in cash amounting Rs. 3,00,000 and the bonus by transfer to life insurance fund amounting 10,80,000 comes to Rs. 13,80,000 which is more than the amount due to policyholders (Rs. 7,02,800). The above solution has been worked out on the basis that the company has sufficient balance in profit and loss account for declaration of bonus.

PAPER – 1 : ACCOUNTING

Bank account To Replacement account (Being the old materials sold) Revenue account To Replacement account (Being the balance of replacement account transferred to revenue account)

11

Dr.

20,000

Dr.

8,10,000

20,000 8,10,000

Working Note: Old cost of the plant Rs. 3,00,000: Material = 3,00,000 × Labour = 3,00,000 ×

4 = 1,20,000 10 6 = 1,80,000 10

Cost of materials increased by 250% = 1,20,000 × 250% Cost of labour increased by 300% = 1,80,000 × 300% Current cost of replacing old plant Less: Sale of old materials Old materials utilized in new plant Amount to be transferred to Revenue account Cash cost of the new plant Add: Old materials utilized

30,000 8,10,000 16,00,000* 10,000 16,10,000 8,40,000 7,70,000

Less: Current cost of replacing old plant Amount to be capitalized *

20,000 10,000

Rs. 3,00,000 5,40,000 8,40,000

The cost of new plant has been given as Rs. 16,00,000 in the question. It has been assumed in the above solution that this cost does not include the cost of old materials used in the construction of new plant worth Rs. 10,000.

Question 4 (a) Liquidation of YZ Ltd. commenced on 2nd April, 2004. Certain creditors could not receive payments out of the realisation of assets and out of the contributions from A list contributories. The following are the details of certain transfers which took place in 2003 and 2004: Shareholders

No. of Shares transferred

Date of Ceasing to be a member

A P Q

2,000 1,500 1,000

1st March, 2003 1st May, 2003 1st October, 2003

Creditors remaining unpaid and outstanding on the date of such transfer

Rs. 5,000 Rs. 3,300 Rs. 4,300

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

R 500 1st November, 2003 Rs. 4,600 S 300 1st February, 2004 Rs. 6,000 All the shares were of Rs. 10 each, Rs. 8 per share paid up. Show the amount to be realised from the various persons listed above ignoring expenses and remuneration to liquidator etc. (b) The position of Valueless Ltd. on its liquidation is as under: Issued and paid up Capital: 3,000

11% preference shares of Rs. 100 each fully paid.

3,000

Equity shares of Rs. 100 each fully paid.

1,000

Equity shares of Rs. 50 each Rs. 30 per share paid.

Calls in Arrears are Rs. 10,000 and Calls received in Advance Rs. 5,000. Preference Dividends are in arrears for one year. Amount left with the liquidator after discharging all liabilities is Rs. 4,13,000. Articles of Association of the company provide for payment of preference dividend arrears in priority to return of equity capital. You are required to prepare the Liquidators final statement of account. (8 + 8 = 16 marks) Answer (a)

Statement of liabilities of B list contributories

Shareholders

No. of shares transferred

P Q R S

1,500 1,000 500 300 3,300

Maximum Division of Liability as on liability 1.5.2003 1.10.2003 1.11.2003 (upto Rs. 2 per share) Rs. Rs. Rs. Rs. 3,000 1,500 − − 2,000 1,000 555 − 1,000 500 278 188 600 300 167 112 6,600 3,300 1,000 300

1.2.2004

Total

Rs. − − − 21 21

Rs. 1,500 1,555 966 600 4,621

Working Note: Date 1.5.2003 1.10.2003 1.11.2003 1.2.2004

Cumulative liability

Increase in liability

3,300 4,300 4,600 6,000

− 1,000 300 1,400

Ratio of no. of shares held by the members 30 : 20 : 10 : 6 20 : 10 : 6 10 : 6 Only S

Liability of S has been restricted to the maximum allowable limit of Rs. 600, therefore amount payable by S is restricted to Rs. 21 only, on 1.2.2004.

PAPER – 1 : ACCOUNTING

13

Notes: 1.

A will not be liable to pay to the outstanding creditors since he transferred his shares prior to one year preceding the date of winding up.

2.

P will not be responsible for further debts incurred after 1st May, 2003 (from the date when he ceases to be member). Similarly, Q and R will not be responsible for the debts incurred after the date of their transfer of shares.

(b)

Liquidators’ Final Statement of Account Receipts Cash Realisation from: Calls in arrears Final call of Rs. 5 per equity share of Rs. 50 each (Rs. 5 × 1,000)

Rs. Payments 4,13,000 Return to contributors: Preference dividend 10,000 Preference shareholders Calls in advance Equity shareholders of 5,000 Rs. 100 each (3,000 × Rs. 30) 4,28,000

Rs. 33,000 3,00,000 5,000 90,000 4,28,000

Working Note: Cash account balance Less: Payment for dividend Preference shareholders Calls in advance

33,000 3,00,000 5,000

Add: Calls in arrears Add: Amount to be received from equity shareholders of Rs. 50 each (1,000 × 20) Amount disposable

Rs. 4,13,000 3,38,000 75,000 10,000 85,000 20,000 1,05,000

Number of equivalent equity shares: 3,000 shares of Rs. 100 each

= 6,000 shares of Rs. 50 each

1,000 shares of Rs. 50 each

= 1,000 shares of Rs. 50 each = 7,000 shares of Rs. 50 each

Final payment to equity shareholders =

Amount left for distribution Total number of equivalent equity shares

= Rs. 1,05,000 / 7,000 shares = Rs. 15 per share to equity shareholders of Rs. 50 each.

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

100   Therefore for equity shareholders of Rs. 100 each  Rs. 15 ×  50  

= Rs. 30 per share to equity shareholders of Rs. 100 each. Calls in advance must be paid first, so as to pay the shareholders on prorata basis. Equity shareholders of Rs. 50 each have to pay Rs. 20 and receive Rs. 15 each. As a result, they are required to pay net Rs. 5 per share. Question 5 (a) FGH Ltd. has three departments I.J.K. The following information is provided for the year ended 31.3.2004:

Opening stock Opening reserve for unrealised profit Materials consumed Direct labour Closing stock Sales Area occupied (sq. mtr.) No. of employees

I Rs. 5,000 • 16,000 9,000 5,000 • 2,500 30

J Rs. 8,000 2,000 20,000 10,000 20,000 • 1,500 20

K Rs. 19,000 3,000 • • 5,000 80,000 1,000 10

Stocks of each department are valued at costs to the department concerned. Stocks of I are transferred to J at cost plus 20% and stocks of J are transferred to K at a gross profit of 20% on sales. Other common expenses are salaries and staff welfare Rs. 18,000, rent Rs. 6,000. Prepare Departmental Trading, Profit and Loss Account for the year ending 31.3.2004. (b) Give Journal Entries in the books of Branch A to rectify or adjust the following: (i)

Head Office expenses Rs. 3,500 allocated to the Branch, but not recorded in the Branch Books.

(ii) Depreciation of branch assets, whose accounts are kept by the Head Office not provided earlier for Rs. 1,500. (iii) Branch paid Rs. 2,000 as salary to a H.O. Inspector, but the amount paid has been debited by the Branch to Salaries account. (iv) H.O. collected Rs. 10,000 directly from a customer on behalf of the Branch, but no intimation to this effect has been received by the Branch. (v) A remittance of Rs. 15,000 sent by the Branch has not yet been received by the Head Office. (vi) Branch A incurred advertisement expenses of Rs. 3,000 on behalf of Branch B. (10 + 6 = 16 marks)

PAPER – 1 : ACCOUNTING

15

Answer (a)

FGH Ltd. Departmental Trading and Profit and Loss Account for the year ended 31st March, 2004 I

To To To To To To To To To To To

Opening stock Material consumed Direct labour Inter-departmental transfer Gross profit Salaries and staff welfare Rent Net profit Net loss (I) Stock reserve (J+K) (Refer W.N.) Balance transferred to Profit and loss account

J

K Rs. 19,000

Total Rs. 32,000 36,000

Rs. 5,000 16,000

Rs. 8,000 20,000

9,000

10,000

5,000 35,000

30,000 12,000 80,000

60,000 6,000 85,000

90,000 23,000 2,00,000

9,000 3,000 ______ 12,000

6,000 1,800 4,200 12,000

3,000 1,200 1,800 6,000

18,000 6,000 6,000 30,000 7,000

19,000

3,000

I By By By

By By

By By

J

Rs.

Rs.

K Rs. 80,000

Total Rs. 80,000 90,000 30,000

Sales Interdepartmental transfer Closing stock

30,000 5,000

60,000 20,000

5,000

Gross profit b/d Net loss

______ 35,000 5,000 7,000

______ 80,000 12,000

______ 85,000 6,000

_______ 2,00,000 23,000 7,000

_____ 12,000

_____ 12,000

_____ 6,000

_____ 30,000 5,000

Stock reserve b/d (J + K) Net profit (J + K)

6,000

1,000 11,000

_____ 11,000

Working Note: Calculation of unrealized profit on closing stock Rs. Stock reserve of J department Cost Transfer from I department

30,000 30,000 60,000 20,000

Stock of J department Proportion of stock of I department = Rs. 20,000× Stock reserve =Rs.10,000 ×

Rs.30,000 = Rs.10,000 Rs.60,000

20 = Rs.1667 (approx.) 120

Stock reserve of K department

Rs.

Stock transferred from J department Less: Profit (stock reserve) 5,000 × 20% Cost to J department Proportion of stock of I department =Rs. 4,000 ×

5,000 1,000 4,000 Rs.30,000 = Rs.2,000 Rs.60,000

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004

Stock reserve = Rs.2,000 ×

20 = Rs.333 (approx.) 120

Total stock reserve = Rs.1,000 + Rs.333 = Rs.1,333 (b) Particulars (i)

(ii) (iii)

(iv)

(v) (vi)

Books of Branch A Journal Entries

Expenses account To Head office account (Being the allocated expenditure by the head office recorded in branch books) Depreciation account To Head office account (Being the depreciation provided) Head office account To Salaries account (Being the rectification of salary paid on behalf of H.O.) Head office account To Debtors account (Being the adjustment of collection from branch debtors) No entry in branch books Head Office account To Cash account (Being the expenditure on account of Branch B, recorded in books)

Dr.

Dr. Amount Rs. 3,500

Dr.

1,500

Dr.

2,000

Dr.

10,000

Dr.

3,000

Cr. Amount Rs. 3,500

1,500 2,000

10,000

3,000

Question 6 Attempt any four of the following: (a) On 20.4.2003 JLC Ltd. obtained a loan from the Bank for Rs. 50 lakhs to be utilised as under: Construction of a shed Purchase of machinery Working capital Advance for purchase of truck

Rs. 20 lakhs 15 lakhs 10 lakhs 5 lakhs

In March, 2004 construction of shed was completed and machinery installed. Delivery of truck was not received. Total interest charged by the bank for the year ending 31.3.2004 was Rs. 9 lakhs. Show the treatment of interest under AS 16.

PAPER – 1 : ACCOUNTING

17

(b) A limited company created a provision for bad and doubtful debts at 2.5% on debtors in preparing the financial statements for the year 2003-2004. Subsequently on a review of the credit period allowed and financial capacity of the customers, the company decided to increase the provision to 8% on debtors as on 31.3.2004. The accounts were not approved by the Board of Directors till the date of decision. While applying the relevant accounting standard can this revision be considered as an extraordinary item or prior period item? (c) Explain the treatment of cost arising from alteration in retirement benefit cost as per AS 15. (d) From the following information find out the amount of provisions to be shown in the Profit and Loss Account of a Commercial Bank: Assets Standard Sub-standard Doubtful upto one year Doubtful upto three years Doubtful more than three years Loss Assets (e) What are the features of farm accounting in India? (f)

Rs. (in lakhs) 4,000 2,000 900 400 300 500

Write a short note on Reserve for Unexpired Risks in an Insurance Company. (4 × 4 = 16 marks)

Answer (a) As per AS 16, borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset should be capitalized. A qualifying asset is an asset that necessarily takes a substantial period of time (usually 12 months or more) to get ready for its intended use or sale. If an asset is ready for its intended use or sale at the time of its acquisition then it is not treated as a qualifying asst for the purposes of AS 16. Treatment of interest as per AS 16

∗

Particulars

Nature

Interest to be capitalized

(1)

Construction of a shed

Qualifying asset

(2)

Purchase of machinery

Not a qualifying asset∗

Rs. 20 lakhs    Rs. 9 lakhs ×  Rs. 50 lakhs   = Rs. 3.60 lakhs

Interest to be charged to profit and loss account

Rs. 15 lakhs    Rs. 9 lakhs ×  Rs. 50 lakhs   = Rs. 2.70 lakhs.

On the basis that machinery is ready for its intended use at the time of its acquisition/purchase.

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PROFESSIONAL EDUCATION (EXAMINATION – II) : NOVEMBER, 2004 (3)

Working capital

Not qualifying asset

(4)

Advance for purchase of truck

Not a qualifying asset

Total

Rs. 10 lakhs    Rs. 9 lakhs ×  Rs. 50 lakhs   = Rs. 1.80 lakhs Rs. 5 lakhs    Rs. 9 lakhs ×  Rs. 50 lakhs   = Rs. 0.90 lakhs Rs.3.60 lakhs

Rs.5.40 lakhs

(b) The preparation of financial statements involve making estimates which are based on the circumstances existing at the time when the financial statements are prepared. It may be necessary to revise an estimate in a subsequent period if there is a change in the circumstances on which the estimate was based. Revision of an estimate, by its nature, does not bring the adjustment within the definitions of a prior period item or an extraordinary item [para 21 of AS 5 (Revised) on Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies]. In the given case, a limited company created 2.5% provision for doubtful debts for the year 2003-2004. Subsequently in 2004 they revised the estimates based on the changed circumstances and wants to create 8% provision. As per AS-5 (Revised), this change in estimate is neither a prior period item nor an extraordinary item. However, as per para 27 of AS 5 (Revised), a change in accounting estimate which has material effect in the current period, should be disclosed and quantified. Any change in the accounting estimate which is expected to have a material effect in later periods should also be disclosed. (c) Alteration in the retirement benefit cost may arise from introduction of a retirement benefit scheme for existing employees or because of making of improvements to an existing scheme. As per AS 15 any alternation in retirement benefit cost arising from changes in the actuarial method used or assumptions adopted should be charged or credited to the statement of profit or loss as they arise in accordance with AS 5 “Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies”. Additionally, a change in the actuarial method should be treated as a change in accounting policy and disclosed in accordance with AS 5. The cost of additional benefits provided to retired employees due to amendments in the retirement benefit scheme should also be treated in the same manner (i.e. charged to profit and loss statement of the year). (d) Computation of provision: Assets Standard Sub-standard Doubtful upto one year* Doubtful upto three years*

Amount (Rs. in lakhs) 4,000 2,000 900 400

% of Provision 0.25 10 20 30

Provision (Rs. in lakhs) 10 200 180 120

PAPER – 1 : ACCOUNTING

Doubtful more than three years* Loss

300 500

19

50 100

150 500 1160

* Doubtful assets are taken as fully secured. (e) The features of farm accounting are as follows: (i)

Agricultural sector in India is unorganized and dominated by small farmers. Most agricultural farms are family oriented and part of the farms produce is consumed by the family members. Level of the education of the average farmers appears to be the principal barrier for adaptation of agricultural accounting system. Farmers are not aware of the technique of using accounting data for the purpose of management decision and usefulness of data base management.

(ii) The family takes part in management and provides labour for the farm. Farmers cannot afford the additional expenses involved in hiring a person to maintain accounts. (iii) Agriculture is in some cases a seasonal occupation and many farmers have other occupations also. Farming operations are uncertain due to natural calamities. (iv) There are many divisions in farm accounting. Finished product of one division can become the raw material for another. (v) Tax authorities do not rigorously insist on maintenance of books of account. Collection of statistics by the government is also not adequate. (f)

In most cases policies are renewed annually except in some cases where policies are issued for a shorter period. Since insurers close their accounts on a particular date, not all risks under policies expire on that date. Many policies extend into the following year during which the risk continues. Therefore on the closing date, there is unexpired liability under various policies which may occur during the remaining term of the policy beyond the year and therefore, a provision for unexpired risks is made at normally 50% in case of Fire Insurance and 100% of in case of Marine Insurance. This reserve is based on the net premium income earned by the insurance company during the year