Chapter 7: Standards Impacting Financial Statements - Test 1: answer key

Question 1 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. Sterling Garments Ltd is a listed company engaged in the manufacture and export of readymade garments, with its financial year ending 31 March 2026. The financial statements for 2025-26 were approved by the Board of Directors at its meeting held on 18 June 2026. The following matters came to the notice of the Chief Accountant while finalising the accounts: (i) Trade receivables at 31 March 2026 include Rs. 48,00,000 due from Karan Exports Pvt Ltd, against which a provision of 5% had been created on the closing balance. On 12 May 2026, Karan Exports was adjudicated insolvent by the Hon'ble High Court and the resolution professional estimates that only 30% of the outstanding will be realised from the liquidation estate. The financial difficulties of Karan Exports had commenced in November 2025 following cancellation of its largest export order. (ii) On 22 April 2026, a fire destroyed the company's Surat warehouse. Inventory of Rs. 85,00,000 and a building having a carrying amount of Rs. 2,10,00,000 were destroyed. The insurer admitted a claim of Rs. 1,50,00,000 in June 2026. The Surat warehouse accounted for 45% of the company's installed capacity; however, the company has shifted operations to a leased facility at Ahmedabad and the directors are satisfied that the company will continue as a going concern. (iii) A supplier, Meghna Fabrics, had filed a suit in 2024-25 claiming Rs. 12,00,000 for alleged breach of a purchase contract; the company had disputed the claim and disclosed it only as a contingent liability. On 5 June 2026, the Hon'ble High Court delivered judgment against the company for the full amount of Rs. 12,00,000 plus interest of Rs. 1,44,000. Counsel advises that the judgment rests on the same contract terms that existed at 31 March 2026 and no appeal is proposed. (iv) The Board, at its meeting on 18 June 2026, recommended a final dividend of Rs. 1.20 per equity share on 5,00,000 equity shares of Rs. 10 each for 2025-26, approved by the shareholders at the AGM held on 25 September 2026. (v) With effect from 1 April 2025, the company revised the estimated useful life of its stitching machines from 10 years to 7 years, based on a technical evaluation report received in March 2026; the resulting additional depreciation of Rs. 6,40,000 was charged to the statement of profit and loss.

In respect of the amount due from Karan Exports Pvt Ltd, what is the additional provision for doubtful debts that Sterling Garments Ltd must recognise in the financial statements for the year ended 31 March 2026?

1. Rs. 31,20,000 (correct answer)
2. Rs. 33,60,000
3. Rs. 24,00,000
4. Rs. 45,60,000

Answer: A — Rs. 31,20,000

Explanation. The insolvency is an adjusting event because the customer's financial difficulties commenced in November 2025, i.e. the condition existed at the balance sheet date; the adjudication merely provides additional evidence of that condition. Provision required = 70% of Rs. 48,00,000 = Rs. 33,60,000. Provision already created = 5% of Rs. 48,00,000 = Rs. 2,40,000. Additional provision = Rs. 33,60,000 - Rs. 2,40,000 = Rs. 31,20,000, charged to the statement of profit and loss for 2025-26 with corresponding reduction in the carrying amount of trade receivables.

Where it goes wrong. Option (b) ignores the Rs. 2,40,000 provision already standing in the books; option (d) writes off the entire net receivable instead of creating a provision for the irrecoverable portion.

Authority. AS 4 (Revised) para 10 (adjusting events); AS 4 (Revised) para 8 (definition of events after balance sheet date)

Question 2 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

How should the destruction of the Surat warehouse by fire on 22 April 2026 be dealt with in the financial statements of Sterling Garments Ltd for the year ended 31 March 2026?

1. Adjust Rs. 2,95,00,000 as an extraordinary loss in 2025-26 since the warehouse was held on the balance sheet date.
2. Make no adjustment in 2025-26, as the fire did not exist on 31 March 2026; disclose the nature and estimated financial effect in the report of the Board. (correct answer)
3. Recognise the uninsured loss of Rs. 1,45,00,000 in 2025-26 and defer the balance to 2026-27.
4. Recognise the insurance claim of Rs. 1,50,00,000 as a receivable at 31 March 2026 and adjust the balance on admission.

Answer: B — Make no adjustment in 2025-26, as the fire did not exist on 31 March 2026; disclose the nature and estimated financial effect in the report of the Board.

Explanation. The fire occurred after 31 March 2026 and is indicative of a condition that arose subsequent to the balance sheet date; it therefore does not relate to conditions existing at the reporting date. No adjustment to the carrying amounts of assets or liabilities is appropriate. Since the loss is material and affects the financial position, the fact of the fire together with the estimated financial effect should be disclosed in the report of the approving authority to enable users to make proper evaluations. The going concern assumption remains valid because operations have been shifted to a leased facility.

Where it goes wrong. Option (a) wrongly treats the post-reporting-date fire as an adjusting event merely because the asset existed on 31 March 2026; option (d) recognises an insurance receivable that was not virtually certain at the balance sheet date.

Authority. AS 4 (Revised) para 11 (non-adjusting events); AS 4 (Revised) para 12 (disclosure in report of approving authority)

Question 3 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

How should the final dividend of Rs. 1.20 per equity share recommended by the Board on 18 June 2026 be dealt with in the financial statements for the year ended 31 March 2026?

1. Recognise Rs. 6,00,000 as a liability at 31 March 2026 and charge it to the statement of profit and loss for 2025-26.
2. Recognise Rs. 6,00,000 as a liability at 31 March 2026 by a debit to retained earnings, as the dividend relates to 2025-26.
3. Do not recognise any liability at 31 March 2026 as no obligation existed at that date; disclose the amount in the notes to accounts. (correct answer)
4. Do not recognise a liability and make no disclosure, as the dividend pertains to the year 2026-27.

Answer: C — Do not recognise any liability at 31 March 2026 as no obligation existed at that date; disclose the amount in the notes to accounts.

Explanation. A dividend recommended by the Board after the balance sheet date does not create an obligation at that date; the obligation arises only when the dividend is declared/approved by the members in general meeting. Accordingly, the proposed dividend of Rs. 6,00,000 (5,00,000 shares x Rs. 1.20) is not recognised as a liability at 31 March 2026 and is not charged to the statement of profit and loss. Following the amendment notified in 2016, the amount is required to be disclosed in the notes to accounts, generally under contingent liabilities/notes on equity.

Where it goes wrong. Options (a) and (b) follow the pre-2016 practice of providing for proposed dividend; option (d) wrongly omits the mandatory note disclosure.

Authority. AS 4 (Revised), proposed dividend after balance sheet date; Companies (Accounting Standards) Amendment Rules, 2016; Schedule III, Division I, Companies Act, 2013

Question 4 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

How should the High Court judgment dated 5 June 2026 in the suit filed by Meghna Fabrics be reflected in the financial statements of Sterling Garments Ltd for the year ended 31 March 2026?

1. It is a non-adjusting event; only disclosure of the judgment is required in the notes to accounts.
2. It is an adjusting event; recognise a provision of Rs. 12,00,000 only, since interest accrued after the balance sheet date.
3. It is an adjusting event; recognise Rs. 12,00,000 and continue to disclose Rs. 1,44,000 as a contingent liability.
4. It is an adjusting event; recognise Rs. 13,44,000 as a provision in 2025-26 since the judgment evidences the obligation existing at 31 March 2026. (correct answer)

Answer: D — It is an adjusting event; recognise Rs. 13,44,000 as a provision in 2025-26 since the judgment evidences the obligation existing at 31 March 2026.

Explanation. The suit was filed in 2024-25 in respect of a breach of contract that occurred before the balance sheet date, and the judgment rests on the same contract terms that existed at 31 March 2026. The judgment therefore provides further evidence of the condition existing at the balance sheet date and is an adjusting event. The liability of Rs. 12,00,000 together with interest of Rs. 1,44,000, aggregating Rs. 13,44,000, must be recognised as a provision in the year ended 31 March 2026 and removed from contingent liabilities, with disclosure of the nature of the obligation.

Where it goes wrong. Option (b) splits the interest artificially; the interest is a present obligation measured in accordance with the judgment and cannot be deferred merely because the award was quantified after the reporting date.

Authority. AS 4 (Revised) para 10; AS 29 (Revised) paras 14-15 (recognition of provision)

Question 5 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. Vardhan Chemicals Ltd is an Indian company with the Indian rupee as its reporting currency and a financial year ending 31 March 2026. The following extracts are placed before you: (i) On 1 February 2026, the company imported a reactor from a US supplier for USD 2,00,000, payable on 30 April 2026. The company did not enter into any forward contract. Spot rates per USD were: 1 February 2026 Rs. 84.20; 31 March 2026 Rs. 86.50; 30 April 2026 (date of settlement) Rs. 85.30. The reactor was commissioned on 1 March 2026 and is depreciated on the straight-line basis over 10 years with no residual value. The company has not exercised the option available under paragraph 46A of AS 11 and the liability does not qualify as a long-term foreign currency monetary item. (ii) The company holds all of the equity of Vardhan GmbH, Germany, whose activities are carried out with a high degree of autonomy, are financed mainly by local borrowings and are sold mainly in the local market. Translation of Vardhan GmbH's financial statements at the closing rate for 2025-26 produced a net exchange gain of Rs. 18,50,000. (iii) Depreciation charged in the statement of profit and loss is Rs. 18,00,000, whereas depreciation allowable under the Income-tax Act, 1961 is Rs. 31,00,000. During the year the company created a provision for warranty of Rs. 9,00,000, of which claims aggregating Rs. 4,00,000 were actually settled and allowed as a deduction during the year; the balance is allowable only on payment. The applicable tax rate is 25% (ignore surcharge and cess). There is no doubt regarding the availability of sufficient future taxable income.

What is the exchange difference on the USD payable for the reactor that Vardhan Chemicals Ltd must recognise in the statement of profit and loss for the year ended 31 March 2026?

1. Loss of Rs. 2,20,000
2. Loss of Rs. 4,60,000 (correct answer)
3. Loss of Rs. 6,80,000
4. Gain of Rs. 2,40,000

Answer: B — Loss of Rs. 4,60,000

Explanation. The transaction is recorded at the exchange rate on the date of the transaction: USD 2,00,000 x Rs. 84.20 = Rs. 1,68,40,000. At the balance sheet date, this monetary liability is restated at the closing rate: USD 2,00,000 x Rs. 86.50 = Rs. 1,73,00,000. The resulting exchange difference of Rs. 4,60,000 is a loss and is recognised in the statement of profit and loss for 2025-26, since the option under paragraph 46A of AS 11 has not been exercised and the liability does not qualify as a long-term foreign currency monetary item.

Where it goes wrong. Option (d) uses the settlement rate of Rs. 85.30 and measures only the 2026-27 movement; option (a) measures the difference between the closing rate and the settlement rate, which belongs to the next year.

Authority. AS 11 para 9; AS 11 para 11(a); AS 11 para 13

Question 6 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Based on the tax information given, what is the net deferred tax position of Vardhan Chemicals Ltd as at 31 March 2026?

1. Deferred tax liability of Rs. 2,00,000 (correct answer)
2. Deferred tax liability of Rs. 3,25,000
3. Deferred tax liability of Rs. 1,00,000
4. Deferred tax asset of Rs. 2,00,000

Answer: A — Deferred tax liability of Rs. 2,00,000

Explanation. Excess depreciation allowed for tax purposes (Rs. 31,00,000 - Rs. 18,00,000 = Rs. 13,00,000) is a timing difference originating in the current year that will reverse later, giving rise to a deferred tax liability of Rs. 3,25,000 (25%). The warranty provision of Rs. 9,00,000 is allowed only on payment; since Rs. 4,00,000 has been paid and allowed, the timing difference is Rs. 5,00,000, giving a deferred tax asset of Rs. 1,25,000. Net position = Rs. 3,25,000 - Rs. 1,25,000 = deferred tax liability of Rs. 2,00,000.

Where it goes wrong. Option (b) recognises only the deferred tax liability and ignores the deductible timing difference on warranty; option (c) deducts the entire Rs. 9,00,000 provision although Rs. 4,00,000 has already been allowed.

Authority. AS 22 para 13; AS 22 para 21 (measurement); AS 22 para 15 (prudence)

Question 7 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

How should the net exchange gain of Rs. 18,50,000 arising on translation of the financial statements of Vardhan GmbH be dealt with in the consolidated financial statements of Vardhan Chemicals Ltd for 2025-26?

1. Recognise Rs. 18,50,000 in the statement of profit and loss for 2025-26 as other income.
2. Adjust Rs. 18,50,000 against the carrying amount of the investment in Vardhan GmbH.
3. Accumulate Rs. 18,50,000 in a Foreign Currency Translation Reserve as a separate component of shareholders' funds until disposal. (correct answer)
4. Recognise Rs. 18,50,000 as an extraordinary item in the statement of profit and loss.

Answer: C — Accumulate Rs. 18,50,000 in a Foreign Currency Translation Reserve as a separate component of shareholders' funds until disposal.

Explanation. Vardhan GmbH operates with a high degree of autonomy, is financed locally and sells locally; it is therefore a non-integral foreign operation. Under AS 11, its assets and liabilities are translated at the closing rate, income and expenses at transaction-date rates, and all resulting exchange differences are accumulated in a foreign currency translation reserve until disposal of the net investment, because such changes have little or no direct effect on present and future cash flows from operations. On disposal, the cumulative amount is recognised in the statement of profit and loss.

Where it goes wrong. Option (a) applies the treatment appropriate to an integral foreign operation, where exchange differences are taken to the statement of profit and loss; option (b) confuses translation differences with the carrying amount of the investment.

Authority. AS 11 para 24 (non-integral foreign operations); AS 11 para 30(c); AS 11 para 32 (disposal)

Question 8 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

At what amount should the reactor be reported in the balance sheet of Vardhan Chemicals Ltd at 31 March 2026, before charging depreciation for the year?

1. Rs. 1,73,00,000
2. Rs. 1,70,60,000
3. Rs. 1,72,00,000
4. Rs. 1,68,40,000 (correct answer)

Answer: D — Rs. 1,68,40,000

Explanation. The reactor is a non-monetary item carried at historical cost denominated in a foreign currency. As per AS 11, such an item is reported using the exchange rate at the date of the transaction, i.e. USD 2,00,000 x Rs. 84.20 = Rs. 1,68,40,000. The subsequent depreciation in the exchange rate of the payable does not alter the carrying amount of the asset; the exchange difference is dealt with separately as a monetary item. Since the company has not exercised the paragraph 46A option, the exchange loss of Rs. 4,60,000 cannot be added to the cost of the reactor.

Where it goes wrong. Option (a) translates a historical-cost non-monetary item at the closing rate; option (b) uses the settlement rate, which is relevant only to the monetary liability on the date of payment.

Authority. AS 11 para 11(b); AS 11 para 9; AS 10 (Revised) para 9 (cost of PPE)

Question 9 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. Sundaram Ceramics Ltd valued its closing inventory at 31 March 2026 at cost, Rs. 62,00,000; the financial statements were approved on 30 May 2026. In April 2026, before approval, the company discovered that tiles of a batch costing Rs. 15,00,000 (included in the above) had developed hairline cracks due to a defect in the clay procured in February 2026; the entire batch was sold in May 2026 for Rs. 9,50,000. The net realisable value of the remaining inventory exceeded its cost. At what amount should the inventory be carried in the balance sheet as at 31 March 2026?

Sundaram Ceramics Ltd valued its closing inventory at 31 March 2026 at cost, Rs. 62,00,000; the financial statements were approved on 30 May 2026. In April 2026, before approval, the company discovered that tiles of a batch costing Rs. 15,00,000 (included in the above) had developed hairline cracks due to a defect in the clay procured in February 2026; the entire batch was sold in May 2026 for Rs. 9,50,000. The net realisable value of the remaining inventory exceeded its cost. At what amount should the inventory be carried in the balance sheet as at 31 March 2026?

1. Rs. 62,00,000
2. Rs. 47,00,000
3. Rs. 56,50,000 (correct answer)
4. Rs. 52,50,000

Answer: C — Rs. 56,50,000

Explanation. The defect arose from clay procured in February 2026, i.e. the condition existed at the balance sheet date, and the sale proceeds of Rs. 9,50,000 provide additional evidence of the net realisable value at 31 March 2026. The event is therefore an adjusting event. The batch must be written down by Rs. 5,50,000 (Rs. 15,00,000 - Rs. 9,50,000). Carrying amount = Rs. 62,00,000 - Rs. 5,50,000 = Rs. 56,50,000, being the lower of cost and net realisable value.

Where it goes wrong. Option (a) treats the subsequent sale as a non-adjusting event; option (b) deducts the entire cost of the batch rather than only the write-down to net realisable value.

Authority. AS 4 (Revised) para 10; AS 2 (Revised) para 5 and para 24 (valuation at lower of cost and NRV)

Question 10 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. Meera Steels Ltd had a trade receivable of Rs. 20,00,000 from Anand Forge Ltd at 31 March 2026, against which no provision was made as Anand Forge had been regular in payments until March 2026. On 18 April 2026, a fire destroyed Anand Forge's plant; Anand Forge was declared bankrupt on 20 May 2026 and only Rs. 2,00,000 is expected to be recovered. The financial statements of Meera Steels Ltd were approved on 12 June 2026. How should this be dealt with in the financial statements for 2025-26?

Meera Steels Ltd had a trade receivable of Rs. 20,00,000 from Anand Forge Ltd at 31 March 2026, against which no provision was made as Anand Forge had been regular in payments until March 2026. On 18 April 2026, a fire destroyed Anand Forge's plant; Anand Forge was declared bankrupt on 20 May 2026 and only Rs. 2,00,000 is expected to be recovered. The financial statements of Meera Steels Ltd were approved on 12 June 2026. How should this be dealt with in the financial statements for 2025-26?

1. Non-adjusting event: make no adjustment to the receivable; disclose the nature and estimated financial effect. (correct answer)
2. Adjusting event: write off Rs. 18,00,000 from the receivable in 2025-26.
3. Adjusting event: create a provision for the entire Rs. 20,00,000 in 2025-26.
4. Prior period item: adjust the opening balance of retained earnings by Rs. 18,00,000.

Answer: A — Non-adjusting event: make no adjustment to the receivable; disclose the nature and estimated financial effect.

Explanation. The customer's inability to pay was caused by a fire that occurred on 18 April 2026, i.e. after the balance sheet date, and the customer was regular in its payments up to March 2026. The bankruptcy therefore does not provide evidence of a condition existing at 31 March 2026; it is a non-adjusting event. No adjustment is made to the carrying amount of the receivable in the 2025-26 financial statements. Being material, the event and its estimated financial effect should be disclosed so that users can make proper evaluations.

Where it goes wrong. Students routinely treat every post-reporting-date bankruptcy as an adjusting event; the crucial test is whether the underlying cause existed at the balance sheet date.

Authority. AS 4 (Revised) para 11; AS 4 (Revised) para 12; AS 4 (Revised) para 10

Question 11 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

Scenario. At 31 March 2026, Nalanda Textiles Ltd had a net worth of Rs. 42 crores. On 15 May 2026, before the financial statements were approved on 5 June 2026, the company's sole manufacturing unit was destroyed in a flood; the unit was uninsured, generated 92% of revenue, and the directors resolved on 20 May 2026 to wind up the company. How should the financial statements for 2025-26 be prepared?

At 31 March 2026, Nalanda Textiles Ltd had a net worth of Rs. 42 crores. On 15 May 2026, before the financial statements were approved on 5 June 2026, the company's sole manufacturing unit was destroyed in a flood; the unit was uninsured, generated 92% of revenue, and the directors resolved on 20 May 2026 to wind up the company. How should the financial statements for 2025-26 be prepared?

1. On a going concern basis, with disclosure of the flood as a non-adjusting event.
2. On a liquidation basis, as the going concern assumption is no longer appropriate, with disclosure of the event and its financial effect. (correct answer)
3. On a going concern basis, treating the flood loss as an extraordinary item in 2025-26.
4. On a going concern basis, since the flood occurred after the balance sheet date and cannot affect the 2025-26 statements.

Answer: B — On a liquidation basis, as the going concern assumption is no longer appropriate, with disclosure of the event and its financial effect.

Explanation. Events occurring after the balance sheet date may indicate that the enterprise has ceased to be a going concern. Destruction of the only production unit, loss of 92% of revenue, absence of insurance and a directors' resolution to wind up constitute unusual changes affecting the existence or substratum of the enterprise. The going concern assumption being no longer valid, the financial statements are prepared on a liquidation basis, with disclosure of the event and its financial effect so that users can make proper evaluations and decisions.

Where it goes wrong. Option (a) mechanically applies the adjusting/non-adjusting dichotomy and overlooks the overriding requirement to reassess the going concern assumption.

Authority. AS 4 (Revised) para 14 (going concern); AS 1 (Revised) para 14 (fundamental accounting assumptions)

Question 12 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

Scenario. Which of the following constitutes a change in accounting policy requiring retrospective application and disclosure under AS 5?

Which of the following constitutes a change in accounting policy requiring retrospective application and disclosure under AS 5?

1. Change in the method of depreciation from straight line to written down value.
2. Revision of the estimated useful life of plant based on a fresh technical evaluation.
3. Creation of a provision for warranty for the first time pursuant to a new warranty scheme.
4. Change in the method of valuation of inventories from first-in-first-out to weighted average cost. (correct answer)

Answer: D — Change in the method of valuation of inventories from first-in-first-out to weighted average cost.

Explanation. Accounting policies are the specific accounting principles and methods of applying them adopted in preparing the financial statements. A change from FIFO to weighted average cost alters the principle of inventory measurement and is a change in accounting policy, to be applied with disclosure of the effect and adjustment of the comparative figures. A change in the method of depreciation and a revision of useful life are changes in accounting estimates (prospective), while adopting a policy for transactions that did not occur previously (a new warranty scheme) is not a change in accounting policy.

Where it goes wrong. Option (a) is the classic trap: a change in the depreciation method is treated as a change in accounting estimate under AS 5 read with AS 10 (Revised), not as a change in policy.

Authority. AS 5 paras 25-27 (changes in accounting policies); AS 5 paras 21-23 (changes in accounting estimates)

Question 13 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. While finalising the accounts for 2025-26, Prakash Ltd discovered that machinery purchased on 1 April 2024 for Rs. 75,00,000 (depreciated on the straight-line basis at 15% per annum) had been erroneously depreciated at 10% per annum in both 2024-25 and 2025-26. In 2025-26, the company also paid Rs. 4,00,000 as penalty for delayed remittance of GST, which the accountant proposes to classify as a prior period item. What amount must be separately disclosed as a prior period item in the statement of profit and loss for 2025-26?

While finalising the accounts for 2025-26, Prakash Ltd discovered that machinery purchased on 1 April 2024 for Rs. 75,00,000 (depreciated on the straight-line basis at 15% per annum) had been erroneously depreciated at 10% per annum in both 2024-25 and 2025-26. In 2025-26, the company also paid Rs. 4,00,000 as penalty for delayed remittance of GST, which the accountant proposes to classify as a prior period item. What amount must be separately disclosed as a prior period item in the statement of profit and loss for 2025-26?

1. Rs. 3,75,000 as a prior period item; the GST penalty of Rs. 4,00,000 is not a prior period item. (correct answer)
2. Rs. 7,50,000 as a prior period item, being the shortfall for both the years.
3. Rs. 7,75,000 as a prior period item, being the shortfall for both years and the GST penalty.
4. Rs. 4,00,000 as a prior period item, since the depreciation shortfall is a change in estimate.

Answer: A — Rs. 3,75,000 as a prior period item; the GST penalty of Rs. 4,00,000 is not a prior period item.

Explanation. Annual shortfall in depreciation = 5% of Rs. 75,00,000 = Rs. 3,75,000. The shortfall pertaining to 2024-25 arises in the current period as a result of an error in the preparation of the financial statements of a prior period and is therefore a prior period item to be separately disclosed so that its impact on the current profit or loss can be perceived. The shortfall for 2025-26 is corrected in the current year's depreciation charge and is not a prior period item. The GST penalty is an expense of the current period arising from a default in the current year and is not an error or omission of a prior period.

Where it goes wrong. Option (b) aggregates the shortfall of both years; only errors in the financial statements of prior periods qualify, since the current year's accounts are still being prepared.

Authority. AS 5 para 14 (prior period items); AS 5 para 15 (disclosure of prior period items); AS 5 para 16

Question 14 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. On 1 April 2021, Deccan Ltd purchased a machine for Rs. 80,00,000 and depreciated it on the straight-line basis over an estimated useful life of 10 years with no residual value. On 1 April 2025, based on a technical assessment, the management revised the remaining useful life to 4 years (total life of 8 years). What is the depreciation charge for the year ended 31 March 2026?

On 1 April 2021, Deccan Ltd purchased a machine for Rs. 80,00,000 and depreciated it on the straight-line basis over an estimated useful life of 10 years with no residual value. On 1 April 2025, based on a technical assessment, the management revised the remaining useful life to 4 years (total life of 8 years). What is the depreciation charge for the year ended 31 March 2026?

1. Rs. 8,00,000
2. Rs. 9,60,000
3. Rs. 12,00,000 (correct answer)
4. Rs. 10,00,000

Answer: C — Rs. 12,00,000

Explanation. Depreciation for the first four years = Rs. 80,00,000 / 10 = Rs. 8,00,000 per annum, aggregating Rs. 32,00,000; carrying amount on 1 April 2025 = Rs. 48,00,000. The revision of useful life is a change in accounting estimate to be applied prospectively; the unamortised carrying amount is depreciated over the remaining useful life of 4 years. Depreciation for 2025-26 = Rs. 48,00,000 / 4 = Rs. 12,00,000, with the nature and amount of the change disclosed.

Where it goes wrong. Option (b) divides the carrying amount by 5 years, wrongly including a past year in the remaining life; option (a) continues the original charge ignoring the revision.

Authority. AS 5 paras 21-23 (change in accounting estimate); AS 10 (Revised) para 57 (review of useful life)

Question 15 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

Scenario. Which of the following would qualify as an extraordinary item under AS 5 in the financial statements of a manufacturer of automobile components?

Which of the following would qualify as an extraordinary item under AS 5 in the financial statements of a manufacturer of automobile components?

1. Write-down of inventories to net realisable value following a fall in steel prices.
2. Loss on disposal of the company's investment in the equity shares of a supplier.
3. Provision for warranty claims arising in the ordinary course of business.
4. Loss of Rs. 3,20,00,000 arising from attachment of the company's factory by the State authorities in a land-title dispute. (correct answer)

Answer: D — Loss of Rs. 3,20,00,000 arising from attachment of the company's factory by the State authorities in a land-title dispute.

Explanation. Extraordinary items are income or expenses that arise from events or transactions clearly distinct from the ordinary activities of the enterprise and are not expected to recur frequently or regularly. Attachment of the property of the enterprise is an event wholly unrelated to the manufacture of automobile components and is not expected to recur; it is therefore an extraordinary item, whose nature and amount must be separately disclosed. The write-down of inventories, disposal of investments and warranty provisions arise within, or are incidental to, ordinary activities and at most qualify as exceptional items requiring separate disclosure.

Where it goes wrong. Option (a) is listed in AS 5 as an example warranting separate disclosure as an exceptional item, not as an extraordinary item.

Authority. AS 5 para 12 (extraordinary items); AS 5 para 13 (exceptional items)

Question 16 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. On 1 February 2026, Ravi Ltd purchased goods for USD 90,000, payable on 30 April 2026, and on the same date entered into a three-month forward exchange contract at Rs. 85.20 per USD to cover the exposure. The spot rate on 1 February 2026 was Rs. 84.00; on 31 March 2026 it was Rs. 85.60; and on 30 April 2026 it was Rs. 85.00. What amount of premium or discount on the forward contract must be recognised in the statement of profit and loss for the year ended 31 March 2026?

On 1 February 2026, Ravi Ltd purchased goods for USD 90,000, payable on 30 April 2026, and on the same date entered into a three-month forward exchange contract at Rs. 85.20 per USD to cover the exposure. The spot rate on 1 February 2026 was Rs. 84.00; on 31 March 2026 it was Rs. 85.60; and on 30 April 2026 it was Rs. 85.00. What amount of premium or discount on the forward contract must be recognised in the statement of profit and loss for the year ended 31 March 2026?

1. Rs. 1,08,000
2. Rs. 72,000 (correct answer)
3. Rs. 36,000
4. Rs. 1,44,000

Answer: B — Rs. 72,000

Explanation. The forward contract is not intended for trading or speculation but to establish the amount of reporting currency payable. The premium at inception = (Rs. 85.20 - Rs. 84.00) x USD 90,000 = Rs. 1,08,000, which is amortised as expense over the life of the contract of three months. Two months (February and March) fall in the year ended 31 March 2026, so the premium to be charged in 2025-26 is Rs. 1,08,000 x 2/3 = Rs. 72,000; the balance of Rs. 36,000 is charged in 2026-27. Exchange differences on the contract are recognised separately in the period in which rates change.

Where it goes wrong. Option (a) charges the entire premium in the first year; option (c) recognises only one month's amortisation, ignoring February.

Authority. AS 11 para 15 (forward exchange contracts); AS 11 para 16

Question 17 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

Scenario. At 31 March 2026, Alpha Ltd held an item of property, plant and equipment in its UK branch (an integral foreign operation) which is carried at fair value. The fair value was determined on 15 January 2026 at GBP 1,20,000 when the exchange rate was Rs. 102 per GBP; the rate on 31 March 2026 was Rs. 106 per GBP. At what amount should the item be reported in the financial statements of Alpha Ltd at 31 March 2026?

At 31 March 2026, Alpha Ltd held an item of property, plant and equipment in its UK branch (an integral foreign operation) which is carried at fair value. The fair value was determined on 15 January 2026 at GBP 1,20,000 when the exchange rate was Rs. 102 per GBP; the rate on 31 March 2026 was Rs. 106 per GBP. At what amount should the item be reported in the financial statements of Alpha Ltd at 31 March 2026?

1. Rs. 1,22,40,000 (correct answer)
2. Rs. 1,27,20,000
3. Rs. 1,24,80,000
4. Rs. 1,20,00,000

Answer: A — Rs. 1,22,40,000

Explanation. The item is a non-monetary item carried at fair value denominated in a foreign currency. As per AS 11, such an item is reported using the exchange rate that existed when the fair value was determined, i.e. GBP 1,20,000 x Rs. 102 = Rs. 1,22,40,000. The closing rate applies only to monetary items and to non-monetary items of non-integral foreign operations, where all assets and liabilities are translated at the closing rate.

Where it goes wrong. Option (b) translates at the closing rate, which is the rule for monetary items and for non-integral foreign operations, not for a fair-valued non-monetary item.

Authority. AS 11 para 11(c); AS 11 para 11(a); AS 11 para 20 (integral foreign operations)

Question 18 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. Sumitra Ltd has a wholly owned non-integral foreign operation in Kenya. At 31 March 2026, cumulative exchange differences of Rs. 64,00,000 (gain) arising on translation were held in the Foreign Currency Translation Reserve. On 1 September 2026, Sumitra Ltd sold the entire operation and recognised a gain on disposal. How should the Rs. 64,00,000 be dealt with?

Sumitra Ltd has a wholly owned non-integral foreign operation in Kenya. At 31 March 2026, cumulative exchange differences of Rs. 64,00,000 (gain) arising on translation were held in the Foreign Currency Translation Reserve. On 1 September 2026, Sumitra Ltd sold the entire operation and recognised a gain on disposal. How should the Rs. 64,00,000 be dealt with?

1. Continue to be held in the Foreign Currency Translation Reserve as a separate component of shareholders' funds.
2. Adjusted against the cost of the investment while computing the gain on disposal.
3. Treated as a prior period item in the year of disposal.
4. Recognised in the statement of profit and loss as income in the year of disposal. (correct answer)

Answer: D — Recognised in the statement of profit and loss as income in the year of disposal.

Explanation. Exchange differences arising on translation of a non-integral foreign operation are accumulated in a foreign currency translation reserve until disposal of the net investment. On disposal, whether through sale, liquidation, repayment of share capital or abandonment, the cumulative amount of deferred exchange differences relating to that operation is recognised as income or expense in the same period in which the gain or loss on disposal is recognised. The reserve is therefore released to the statement of profit and loss in 2026-27, not adjusted against the cost of investment.

Where it goes wrong. Option (b) reflects the accounting for an integral foreign operation or a reclassification adjustment, which is not permitted on outright disposal.

Authority. AS 11 para 30(c); AS 11 para 32

Question 19 · 2 marks · Chapter 7: Standards Impacting Financial Statements · hard

Scenario. For the year ended 31 March 2026, Tanvi Ltd reported accounting income (before tax) of Rs. 40,00,000. The following differences were noted: (i) depreciation charged in the accounts Rs. 12,00,000, while depreciation allowable under the Income-tax Act, 1961 was Rs. 19,00,000; (ii) a donation of Rs. 1,50,000 debited to the statement of profit and loss is wholly disallowed for tax purposes; (iii) a provision for gratuity of Rs. 5,00,000 was created during the year, nothing was paid, and no deduction is allowable until payment. The tax rate is 30%. What is the tax expense to be recognised in the statement of profit and loss for 2025-26?

For the year ended 31 March 2026, Tanvi Ltd reported accounting income (before tax) of Rs. 40,00,000. The following differences were noted: (i) depreciation charged in the accounts Rs. 12,00,000, while depreciation allowable under the Income-tax Act, 1961 was Rs. 19,00,000; (ii) a donation of Rs. 1,50,000 debited to the statement of profit and loss is wholly disallowed for tax purposes; (iii) a provision for gratuity of Rs. 5,00,000 was created during the year, nothing was paid, and no deduction is allowable until payment. The tax rate is 30%. What is the tax expense to be recognised in the statement of profit and loss for 2025-26?

1. Rs. 11,85,000
2. Rs. 12,45,000 (correct answer)
3. Rs. 13,05,000
4. Rs. 12,15,000

Answer: B — Rs. 12,45,000

Explanation. Taxable income = Rs. 40,00,000 - Rs. 7,00,000 (excess tax depreciation) + Rs. 1,50,000 (donation, permanent difference) + Rs. 5,00,000 (gratuity, timing difference) = Rs. 39,50,000. Current tax = 30% x Rs. 39,50,000 = Rs. 11,85,000. Deferred tax = 30% x (Rs. 7,00,000 - Rs. 5,00,000) = Rs. 60,000 liability. Tax expense = current tax + deferred tax = Rs. 11,85,000 + Rs. 60,000 = Rs. 12,45,000. The donation, being a permanent difference, creates no deferred tax.

Where it goes wrong. Option (a) recognises only current tax and ignores the deferred tax on timing differences; option (c) creates deferred tax on the donation, which is a permanent difference.

Authority. AS 22 para 13; AS 22 para 21; AS 22 para 6 (permanent and timing differences)

Question 20 · 2 marks · Chapter 7: Standards Impacting Financial Statements · medium

Scenario. Prudent Ltd has unabsorbed depreciation of Rs. 25,00,000 and carried forward business losses of Rs. 60,00,000 as at 31 March 2026 under the Income-tax Act, 1961. Timing differences give rise to a potential deferred tax asset of Rs. 21,25,000. The company's projections show future taxable income based on a binding export order. Under AS 22, the deferred tax asset should be recognised:

Prudent Ltd has unabsorbed depreciation of Rs. 25,00,000 and carried forward business losses of Rs. 60,00,000 as at 31 March 2026 under the Income-tax Act, 1961. Timing differences give rise to a potential deferred tax asset of Rs. 21,25,000. The company's projections show future taxable income based on a binding export order. Under AS 22, the deferred tax asset should be recognised:

1. In full, since deferred tax assets are recognised to the extent of all timing differences.
2. Only to the extent of 50% of the amount computed, as a matter of prudence.
3. Only to the extent that there is virtual certainty, supported by convincing evidence, of sufficient future taxable income. (correct answer)
4. Not at all, since the company has unabsorbed depreciation and carry forward of losses.

Answer: C — Only to the extent that there is virtual certainty, supported by convincing evidence, of sufficient future taxable income.

Explanation. Where an enterprise has unabsorbed depreciation or carry forward of losses under tax laws, deferred tax assets are recognised only to the extent that there is virtual certainty supported by convincing evidence that sufficient future taxable income will be available against which such assets can be realised. Virtual certainty must be supported by concrete evidence available at the reporting date, such as a profitable binding export order, and cannot rest merely on business projections. Such evidence justifies recognition, so a blanket non-recognition is also incorrect.

Where it goes wrong. Option (a) applies the ordinary reasonable-certainty test, which is applicable only in the absence of unabsorbed depreciation or carry forward losses; option (d) ignores the existence of convincing evidence.

Authority. AS 22 para 15 (prudence); AS 22 para 17 (virtual certainty); AS 22 para 18 (convincing evidence)