CA Bharat Sonkhiya, CA Vikash Maharshi & Manan Khandelwal – [2024] 158 taxmann.com 152 (Article)
Introduction
Before discussing on the Topic, firstly we should understand the term ‘Discounting’.
Is dollar received today is worth more than a dollar received in the future, the answer is Yes and it is due to the Time Value of Money.
Discounting is the method to determine the present value of money. Discounting refers to the process of determining the present value of future cash flows or a sum of money by adjusting it for the time value of money. The fundamental concept of discounting is that money loses value over time due to a variety of variables, including risk, opportunity cost, and inflation. In order to represent their current worth, future cash flows or amounts are adjusted downward.
Now let us take an Example to understand this:
Had you received Rs.1000 today, you have invested it somewhere and earned interest on it but since, you will receive Rs1000 after 1 year, interest amount you could have earned becomes opportunity cost for you.
Therefore, we can say if discount rate @ 5% is taken as if you invest the amount in bank or anywhere else you could have earned Interest@5%.
The formula for calculating the present value using discounting is:
In this case, the present value of ₹1,000 to be received one year from now, using a discount rate of 5%, would be:
This example clearly state that the same amount of money received in the future has a lower value in present terms due to time value of money.
IND AS 113 describes techniques for fair value measurements. Discounting is a technique under Income approach for the calculation of the fair value of Financial Instruments.
Let us understand about the Financial Instruments!
As per IND AS 32, Financial Instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instruments of another entity.
Further, a Financial asset is cash, an equity instrument of another entity, a contractual right to receive cash or another financial asset from another entity, and
A Financial liability is a contractual obligation resulting from past event, for which the entity has obligation to settle by paying cash or another financial asset.
IND AS 109, Financial Instruments, provides guidance on the recognition, measurement, derecognition, and presentation of financial assets and liabilities.
AS and IND AS
Accounting Standard does not mandate or provide any guidance for fair value measurement of financial instruments whereas IND AS 109 mandates the requirement of fair value measurement of financial instruments.
Accounting Standards are rule based while IND AS are principle based. Therefore, IND AS provides a comprehensive approach.
Now, after understanding Discounting concept and Financial Instruments, let us understand the terms ‘Security Deposit’ and ‘Retention Money’.
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