Accounting Reforms in Indian Railways

 

Accounting Reforms in Indian Railways

of Accounting Reforms 

 

1.     Accrual Accounting

2.     Outcome Budget

3.     Performance Costing

 

Introduction:

 

·          Presently Government accounting in 3 tiers (i.e., Union, States & Local bodies)  follows Cash based Accounting system.

·         Source - GFR - General Financial Rules, other Codes & Manuals

·         It is felt that there is a need for Financial Reporting to be in sync with the shift in priorities of Public Finance. In order to achieve this, Accounting systems the world over are being revisited

·         FRBM Act (Financial Responsibility & Budget Management Act) and Outcome Budget are the first initiatives of the Accrual Accounting.

·         Change from Rule based to Standards based.  That means change from Cash to Accrual based system of Accounting.

 

·         Excerpts from Budget Speech 2016-17

 

>        As a thriving commercial entity, we also want IR to go a step further and establish an accounting system where outcomes can be tracked to inputs. This is a structural change which forms the bedrock of our transformation, as right accounting would determine right costing and hence right pricing and right outcomes. We intend taking up its implementation over Railways in a mission (Mission Book Keeping) mode and complete the entire roll out in next few years.”

 

 

 

 

·            IR have initiated several reforms in the area of Accounting systems and reporting systems, duly launching the Three Pilot Projects i.e., 1. Accrual Accounting 2. Performance Costing and 3. Outcome Budget. 

·            The above three put together are popularly known as Accounting Reforms.

 

1.      Accrual Accounting:

 

Limitations in Cash based system :

·         Profit & Loss Account and Balance Sheet are not as per the format of Commercial Accounts.

·         Terminology used in Financial Statements is not understandable to the Accountants/outsiders

·         Depreciation is not as per commercial principles

·         Asset Register is not maintained

·          Earnings & Expenditure are not accounted as per Accounting year concept

·         Outstanding expenditure is not captured in the same year.

·         No segregation of work in progress and finished works under erstwhile Demand No. 16.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Differences between Cash Accounting and Accrual Accounting

Basis	Cash Accounting	Accrual Accounting
Recording	Cash transactions only	Cash & Credit
Pre-paid /Outstanding expenses	Not taken into account	Taken into Profit & Loss Account
Accrued Income/ Income recd. In advance	Not taken into account	Taken into Profit & Loss Account
Recognizes Revenue	When the Cash is received.	When it is earned
Recognize expenses	When cash has been spent	When they are billed (receipt of invoice)
Bills Receivables and Bills Payables	Not accounted	Accounted
Profit or Loss	Not possible to calculate	Can calculate
Suitable for	Small businesses	Big businesses
Technical knowledge	Not required	Required
Legal position	No	Yes. Recognized by the Companies Act, 2015
Acceptability	No. Because it does not reveal the correct profit or loss	Yes.  Because it reveals Correct profit or loss and financial position at the end of Financial year.

 

 

 

Simple understanding of Difference between Cash Accounting and Accrual Accounting

 

Example: 

·         Mr Venkat commenced a Business on 01.03.2021 with a capital of Rs. 55,000.

·         He purchased the Goods worth of Rs. 50,000 by paying Cash and sold all the goods at an amount of Rs. 60,000 on Credit basis. 

·         Business expenses during the month of March, 2021 are Rs. 2000. (By cash)

·          Accounts are closing at 31st March.

·          Calculate Profit for the year 2020-21 as per Cash Accounting and Accrual Accounting

 

	Cash Basis	Accrual  Basis
Transaction	Cash Book	Expenditure	Income	Liabilities	Assets
Brought Capital into Business	+55000			Capital  55000 + Profit 8000 = 63000
Cash Purchases	-50000	50000
Credit Sales	-		60000		Sundry Debtors 60000
Expenses (paid by cash)	-2000	2000
Closing Balance of Cash/ Surplus	3000				Cash - 3000
Profit		8000
	Total	60000	60000	63000	63000

 

 

                                                               

 

 

 

 

 

For Accounting year 2020-21

 

SN	Transaction example	Cash Accounting	Accrual Accounting
1	Recd. Rs. 5000 as Income of the 2021-22 year (i.e., Recd Income in advance i.e., 2020-21.  Example - Advance Reservation)	Recorded Rs. 5000 as current Year (2020-21) Income in  Profit & Loss A/c	1. Recorded Rs. 5000 as Sundry Creditors On Liabilities side of Balance Sheet Of 2020-21 2. Recorded Rs. 5000 as Income in the year 2021-22  Profit & Loss Account duly deducting earlier  year Liabilities
2	Outstanding Contractor's payments Rs. One Lakh for year 2020-21	No Recording of Rs. One Lakh in the current year 2020-21 as Expenditure in Profit & Loss A/c. (Because there is no cash outgo)	Recording of Rs. One Lakh in the current year 2020-21 as Expenditure in Profit & Loss A/c. (Because expenditure is incurred, though no cash outgo)

 

Accrual Accounting Salient features:  

·          Follows Accounting year concept.

·         All revenues and payments are taken into account whether the same are realized or paid is immaterial.

·          Excludes payments paid in advance and revenues recd in advance.

·         Includes all expenses pertaining to the current year irrespective of the same paid or not.

·         Records all income accrued, though realized in the same year or not

·          Converting Financial Statements into Accrual Accounting format from 2014-15 onwards

·          Profit & Loss Account   -  change as     -  Statement of Income & Expenditure

·         Balance Sheet   - change as   - Statement of Financial Position

·         Preparing FAR - Fixed Asset Register,   which is base for Opening figures for Statement of Financial Position (earlier called as Balance Sheet)

·         Straight line method of Depreciation recommended

·         Segregating CWIP - Capital Works in Progress from Finished works.

·         No depreciation for CWIP

 

·         Take into account the all outstanding bills to Contractors and suppliers (like in March salaries under DP - Demands Payable) in current year itself and shown them as Liabilities in Statement of Financial Position.

·         Advance Incomes such as Reservations to be deduct from Earnings and shown as Liability in Statement of Financial Position.

·         Introduced Cash Flow Statement

·         Task given to ICAI - ARF - Institute of Chartered Accountants of India-Accounting Research Foundation

·         Two Pilot projects  -  NWR and RCF/Kapurthala

·         Changes in allocations required.

·         At present, there is no Primary Unit for Depreciation.  Once Accrual Accounting implemented, a separate Primary Unit is required for Depreciation in Finance Code Volume Two

·         Change in the Software i.e., in IPAS - Integrated Payroll & Accounting System

·         Approvals from Government and CAG

 

 

 2. Outcome Budget

 

Conversion of Financial Outlays into Physical Outcomes

 

Check the Table (end of the article) for clear examples of the conversion

 

Backdrop:

 

●        The existing budget system, although involves proper checks and validations at various levels relies heavily on expenditure figures of previous years which are then incremented as per the revised requirements in the next year.

 

●        The present system consists of comparison of expenditure incurred viz-a-viz budget estimates/allotment without estimating the final outcome expected to be achieved.

 

●        The Performance Budget was introduced in the year 1969 following the recommendations of the ARC - Administrative Reforms Commission.

 

●        For long,  a need was felt to address certain weaknesses in the performance budgeting system, such as lack of a clear relationship between the financial and performance budgets and inadequate target setting for the ensuing year.

 

●        To obviate the above lacunae, the Outcome Budget was introduced in the year 2005-06 in the Ministry of Finance.

 

 

In Indian Railways:

 

●        Implemented from 2006-07 onwards in Indian Railways and other ministries.

 

●        Applicable for all works of Rs. 5 Crores and above

 

●        Simply Outcome Budget means  “Converting Financial Outlays into Physical Outcomes”

 

●        Mechanism of “Checks & Balances”

 

●        It is a Progress Card on what Railways have done with the amount assigned in the previous annual Budget. 

 

What is:

 

●        Measures estimated outcomes of all Govt projects and checks whether money has been spent for the purpose it was sanctioned or not.

 

Method:

 

●         It is an evolving & dynamic process

●        The actual physical performance of the Previous Year, Current Year & targeted performance during the Next Year is analysed.

●        Achieved by defining Intermediate & Final Outcomes, Standardising Unit Costs, Capacity building for needed efficiency, ensuring regularisation & adequate flow of funds.

●        Reviewing every 3 months, benchmarking, effective monitoring & evaluation, identifying areas where funds to be reallocated.

Advantages:

 

1.       Outcome of the Projects - Not only in monetary terms, but also physical outcomes

2.       Helps Management to control expenses & introduce discipline in expenditure.

3.       Govt projects become more result oriented

4.       Reduce costs by identifying Projects that do not contribute enough outcomes.

5.       Fixing the accountability.

Examples:

 

SN	Activity	Financial Outlay	Physical Outcome
1	Earthing of signals to reduce the incidences of failure due to frequent lightning (in nos.)	Rs. 30 Laksh	1.     Substantially reduced rate of signal failure in the section from X to X-A 2.      Enhanced throughput of section in terms of GTKM and NTKM of freight trains,  3.     Increased coach kilometres / Passenger kilometres for passenger(PKM) trains  4.     Saving monetized in Rs …lacs per month
2	Fitment of fuel efficiency kit in diesel locomotives (in nos.)	45 lacs per kit	1.     Improved specific fuel consumption from F to F- A 2.       Saving of HSD oil in liters per month 3.      Saving monetized in Rs …lacs per month
3	Development of Goods shed with state of the art facilities	Rs. 50 lacs	1.     Reduced detention of rake from X to X-A 2.      Enhanced loading in tons 3.      Freight revenue expected to be increased by Rs…. lacs per month
4	Road Over Bridge (ROB)/ Road Under Bridge (RUB) - Removal of LC gates	Rs. 200 lacs	1.     Elimination of accident at LC gates. 2.       Increase in maximum train speed. 3.      Reduction in train detention. 4.       Increase throughput. 5.      Increased GTKM,NTKM &CKM andEnhanced Traffic Earnings 6.      Revenue expected to be increased by Rs ….lacs per month

 

 

*****

 

 

 

 

 

 

3. Performance Costing

 

·         The benefits of Accrual Accounting would accrue to the system by identifying appropriate cost and profit centres and allocating costs to them.

·         Establishment of Cost centers, Revenue Centers, Profit centers and Investment centers

·          A system of control by delegating and locating responsibility for costs as well as revenues i.e., fixation of responsibility on Individuals( Sr.DEE, Sr.DCM etc), Departments (Mech dept. ,Comml. Dept etc).

·          World Bank Team in 1970 year emphasized the need to fully develop a system of Responsibility Accounting on Railways.

·          The Railway Convention Committee 1971 commented on the Accounting and Budgetary exercise as a routine and dogmatic exercise undertaken and produced by the bureaucratic elite.

·          Consequently, the revised accounting Classification  came into force w.e.f 

01-04-1979 which provides synchronization of Accounting and Budgetary exercises.

 

Salient Features:

 

·          Emphasis division of an Organisation like Indian Railways among different Sub-Units like Sr.DEE or Accounts dept etc in such a way that each Sub-Unit is the responsibility of a Manager.

·          Cause and effect relationship between the Manager’s decisions and actions.

·          Manager should be held responsible for those activities directly falling under his/her control.

 

Pre-Requisites:

 

·          The area of responsibility and authority of each centre should be well defined.

·          Each responsibility Centre should have clear set of Goal for the Manager.

·          The Manager should participate in establishing such Goals that are going to be achieved.

·          Only the Revenues, Expenses, Profits and investments that are controllable by the Manager should be included in the performance report of the Centre.

·          Performance Report for each Responsibility centre should be prepared highlighting variances, the items requiring attention of the Manager.

·          In the Performance Report of Responsibility centre, the Expenses, Revenues and Investments controlled by the Manager should only fine place.

• Source documents like CO 7, JV and Money Receipt are to coded with specific unit as well as activity so that cost of each unit and activity can be captured for IPAS data.

 

  Responsibility Centres   -   Four Segments

 

        I.             Cost Centre:

 

Examples:  Electrical Dept/Accounts Dept/Sr.DEE/Sr.DME/Sr.DFM etc.  Efforts are now on hand to identify small units such as IOW/Signal Inspector/PWI etc. as suggested by the Committee for identification of Cost Centres and profit Centres by Sri Hassan Iqbal.

 

·          Is a smaller segment of area of responsibility for which costs can be accumulated.  But Controllable costs only be selected for this purpose.

 

      II.            Revenue Centre:

 

Examples:  Commercial Dept or Sr.DCM of a Division.

 

·         Responsible for generating revenue.

 

    III.            Investment Centre:

 

Examples: Projects like Doubling, New Line etc or CAO/CN, Sr.DEN etc.

 

·         A segment of activity for area held responsible for both Profit and Investments.

·          The Objective of Investment Centre is to maximize the Rate of Return on Investment.  The present Rate of Return is 10 %.

 

    IV.             Profit Centre:

 

Examples:  Zonal Railways such as South Central Railway, Western Rly.etc.  

 

·          An area of responsibility whereon the expenses and revenue pertaining to a particular Profit centre i.e., zonal Railway are accumulated;  So far zonal Railways are considering as a Profit Centre.(Profit and Loss Account and Balance sheet are prepared)

 

·         Efforts are on the way to propose Divisions such as Secunderabad Division, vijayawada Division etc as Profit Centres as recommended by the Committee of Sri Hasan Iqbal.

·          A Pilot project is being implementing the Sri Hasan Iqbal committee’s recommendation of Division as profit Centre in Vadodara Division in Western Railway with the help of Railway Staff College, Vadodara.

·          To make Division as Profit Centre, it is necessary to introduce the Divisionalisation of Apportionment of Earnings with due weightage or originating earnings /terminating//transshipping Divisions as an inducement for adopting aggressive marketing strategies.

                                                                                    *****

Depreciation Methods

 

Depreciation Methods

1996 Qn. Enumerate the methods of calculating Depreciation. Discuss the merits and limitations of these methods  - 20 marks

Ans:

1.       Straight Line Method / Fixed Installment Method

 

·         Fixed Percentage throughout the life of Asset

·         Fixed Amount throughout the Life of Asset

·         Easy to calculate

Calculation:

·          Depreciation  = Cost of Asset –Scrap value (estimated) / Estimated Life

·         Example:  Building cost – 10 lacs,  Life – 50 years , Scrap value at the end of life – 2 lacs

·         Depreciation per year = 10,00,000 – 2,00,000 / 50  = Rs. 16000

Merits:

·         Calculation of Depreciation is Simple and easy to understand

·         Depreciation burden on Profit and Loss Account equally throughout the life of the Asset 

·         Asset can be completely written off.

·         Suitable for the Assets having fixed working life.

Limitations:

·         Actual use of the asset is not considered.

·         Ignores the Interest factor.  That means not take into the account, the loss of interest on the amount invested in the Asset.

·         With the passage of time, the cost of maintenance of an asset goes up.  So initially the maintenance and depreciation together is less and goes up year after year.  So, the burden on the Profit and Loss account is uneven.

·          Difficult to assess the life of the Asset and Scrap value at the end of the life.  So, only estimated life and estimated scrap may not correct.

2.       Written Down Value (WDV) Method / Diminishing Balances Method:

·         Rate of percentage is fixed.

·         But, the Asset value is decreased year by year due to charging the Depreciation (duly deducting from the Asset value)

·         Though the percentage is fixed, but the Depreciation is calculated on the written down value of the Asset.

·         Useful for Assets like Buildings & Machinery, where the Repairs are required more due to passage of the time.

 

Example:

 

Cost of the Building is Rs. 10 Lacs.  Estimated Life of Asset is 50 years. 

 

Depreciation for the 1^st year =  Rs. 10,00,000 / 50  = Rs. 20,000

 

Depreciation for the 2^nd year = Rs. 9,80,000 / 50 = Rs. 19,600  ( Rs. 9,80,000 = Rs. 10,00,000 – Rs.20,000)

 

Depreciation for 3^rd year = Rs. 9,60,400 /50 = 19,208 (Rs. 9,60,400 = Rs. 9,80,000 – Rs.19,600)

 

It is goes on till 50^th year.

 

Merits:

 

·         Equally charged to Profit & Loss Account.  Because initially Depreciation is high and repairs are low. When Asset becomes older, Depreciation is low and the repairs are high.  So equally burdened throughout the life of the Asset.

·         Very logical because in the earlier years, the Asset is more productive and yields the better results compared to the later years.   So Depreciation too initially more and gradually reducing along with the passage of the time.

Limitations:

 

·         Assets cannot be completely written off.  But the balance lying at the end of life is negligible and can be charged to Profit and Loss Account of the last year.

·         Like Straight Line method, this method too ignores the Interest factor.

·         Actual usage of Asset is ignored.

 

3.       Annuity Method

 

·         Takes into the account the interest lost on the acquisition of the Asset (which is ignored in the previous two methods)

·         Interest is calculated on the book value of Asset and the same is debited to Asset Account and credited to Interest Account.

·         The Depreciation is based on the Interest rate and the life of the Asset and will be calculated with the help of Annuity Tables.

 

Example:  A lease is purchased on 1.1.2020 for 5 years at a cost of Rs. One Lac.  It is proposed to depreciate the Lease by Annuity method charging 12 %, one must write off a sum of Rs. 0.277410 for every Re One. 

Calculation of Depreciation for 1^st year =  Rs. 1,00,000 x 0.277410 = Rs. 27741

Calculation of Interest for 1^st year = Rs. 1,00,000 x 12 % = Rs. 12000

At the end of First year, Rs. 1,00,000 – Rs. 27,741 + Rs.12,000 = Rs. 84259

Calculation of Depreciation for 2^nd year = Rs. 27,741 (no change.  It is fixed throughout the life of the Asset)

Calculation of Interest for 2^nd year = Rs. 84,259 x 12 % = 10,111

At the end of 2^nd year = Rs.84,259 – Rs. 27,741 + 10,111 = 66,629

So, it is goes on till the completion of the Fifth year.

 

Merits:

·         This Method is scientific, because the depreciation is ascertained from the Annuity Tables duly taking the Interest foregone.

·         Provides recovery of invested Capital along with the Interest.   This is lack of the earlier two methods.

·         Suitable to such Assets which requires heavy investments initially.

Limitations:

·         Calculation of Depreciation becomes very difficult when additions are made to the Assets.

·         Calculation of Interest rate is arbitrary.

·         Not suitable for the Assets whose value is small.

·         Depreciation (which is fixed) and Interest (which is calculated on the diminishing value of Asset) are not uniform.

 

4.       Depreciation Fund Method:

 

·         This method is more realistic compared to previous methods. Because it provides the ready cash to the Company to replace the Asset at the end of life of Asset without any difficulty.

·         The amount written off as Depreciation should be kept aside and invested in readily saleable securities, preferably Govt Securities. With the accumulated securities, the company is able to replace the Asset at the end of life of the Asset.

·         Here, the Depreciation is not credited to the Asset Account.  Instead it is credited to Depreciation Fund Account

·         Journal entries are as follows

 

A.      Depreciation A/c  Dr    100

       To Depreciation Fund A/c   100

B.      Depreciation Fund Investments A/c   Dr 100

To Bank A/c                                                                        100

C.      Interest on Depreciation Fund Investments A/c Dr   10

To Depreciation Fund Investments A/c          10

·         Depreciation Fund Investments A/c shown on Assets Side

·         Depreciation Fund A/c shown on Liabilities side

·         The Asset continues to be shown at its original cost in the Balance sheet during its life period.

 

5.       Insurance Policy Method:

 

·         Instead of amount invested in Securities under Depreciation Fund method, a Insurance premium paid to cover the value of the Asset.

·         The Asset continues to be shown at its original cost in the Balance Sheet during its life period

·         The journal entries are

 

A.      Depreciation Insurance policy A/c  Dr 100

To Bank A/c                                                        100

B.      Profit & Loss A/c Dr   100

To Depreciation Reserve A/c 100

 

6.        Sum of Digits Method

Example:  Machine purchased at a cost of Rs. 10000.  Life is 5 years.

Formulae of Depreciation = Remaining life of the Asset / Sum of the digits of the life in years x cost of Asset

= 5/(1+2+3+4+5) x 10000

= 5/15 x 10000 

= 3333

 

Second Year Depreciation calculation

 = 4/(1+2+3+4)  x (10000-3333)

= 4/10 x 6667

= 2667

7.       Revaluation Method:

 

·         Very easy method. No formulas, no calculation specially.

·         Useful for small items like cattle, loose tools.  It’s not useful to maintain an account for single item.

·         At the end of year, the asset value is revalued and the difference between Opening Value and Revalue is charged as Depreciation in the Profit and Loss account.

·         Example:  Loose tools opening balance on 1.4.2019 is Rs. 10000.  On 31.03.2020, the same asset is revalued at Rs. 7500.  The difference Rs. 2500 was charged as Depreciation to Profit and Loss Account for the year ending 31.3.2020.

·         Merits and Limitations are not much. Just this method is useful for small assets like cattle, loose tools etc.

 

8.       Depletion Method:

 

·         Used for Quarries, Mines etc

·         Depreciation is calculated as per actual tonne of output

·         Example:

A Mine is purchased for Rs. 1,00,000.  Estimated Total quantity is 100 Tonnes.

Estimated Depreciation per Tonne = 100000/100 = Rs.1000

In 2019-20, the output is 5 Tonnes, the Depreciation = 5 x 1000 = Rs. 5000.9

9.       Machine Hour Rate Method:  (2004 -5 marks)

 

·         It is similar to Depletion method.

·         Depreciation is calculated based on the Number of machine hours used in that particular year.

Example:

An Machine is purchased at the cost of Rs. 1,00,000 /-.  Estimated Machine hours during its life is 10000.

Hence Depreciation per hour = 100000/10000 = Rs. 10

In 2019-20, the Total machine hours used are 400, the Depreciation charged to the Profit & Loss Account in that year = 400 x Rs.10 = Rs.4000

10.   Repair Provision Method:

 

·         The theme of this method is, the estimated repairs during the life of the Asset also considers at the time of calculation of the Depreciation and charged Actual Repairs to the Repairs provision instead of Profit & Loss Account.

 

·         Example:

 

A Machine purchased at the cost of Rs. 1,00,000 /-.  Estimated life is 10 years. Estimated Scrap value is Rs. 10,000/-.  Estimated Repairs 5000

 

 Depreciation& Repairs provision per year = Asset Value –Scrap Value + Estimated Repairs /No of years (life)

 

Depreciation& Repairs provision = 100000 – 10000 + 5000 / 10

 

Depreciation& Repairs Provision = 95000/10 = 9500  (Depreciation = 9000 & Repairs =500)

 

The Journal entry should be

 

Depreciation A/c Dr 9500

        To Machinery A/c  9000

        To Repairs Provision A/c  500

 

When Actual Repairs incurred

Repairs Provision A/c   Dr 300

              To Bank A/c                     300

       

·         The Actual Repairs, if any, not charged to Profit & Loss Account, but to Repairs Provison A/c

*****

       

 

 

 

Differences between Receipts & Payments Account and Income & Expenditure Account

 

Differences between Receipts & Payments Account and Income & Expenditure Account

                                                                                                                                                         (1996 – 10 Marks)  

SN	Basis	Receipts & Payments A/c	Income & Expenditure A/c
1	Nature	It is a Statement (emerged from Cash Book summary), not an account emerged out of Double Entry system.	It is an Account emerged out of Double Entry system
2	Similar to	Cash Book / Cash Account	Profit & Loss Account
3	Basis	Cash Basis	Mercantile / Accrual
4	Period	Previous years, Current year & Next year	Current year only
5	Outstanding / Prepaid  Expenses & Incomes	Not considered	Considered
6	Accounts	All Three accounts such as, Personal Account, Real Account & Nominal Account	Nominal Account only
7	Revenue & Capital	Revenue and Capital transactions	Revenue transactions nly
8	Transactions	Cash transactions only	Cash & Non Cash transactions
9	Starts with & Ends with	Opening balance and Closing Balance of Cash on Hand & Cash at Bank	There is no Opening balance and Closing Balance
10	Debit side	Receipts	Expenditure
11	Credit side	Payments	Income
12	Difference between two sides represents	Closing balance of Cash at Hand and Cash in Bank ( Debit balance or Overdraft balance)	Surplus or Deficit
13	Accompanied  by	Nothing	Balance Sheet