The ministry of corporate affairs (MCA) is planning to give a clarification in a few months to bring coherence between accounting standards and the new companies law regarding related-party transactions. Companies are apprehensive that unless this is done, these will have to keep separate records for the Companies Act and the accounting standard concerned.

"We have asked the Institute of Chartered Accountants (ICAI) for some guidelines. We will ensure a clarification comes in a few months," said a government official.

Accounting Standard (AS) 18 governs reporting of transactions with related parties in the financial statements of companies which are circulated to the shareholders and statutory authorities like the registrar of companies, income tax department, etc. It does not prescribe any restriction or prohibit companies from entering such transactions.

On the other hand, the Companies Act, 2013, provides that companies would have to seek their board of directors' approval, as well as the recommendation of the audit committee for certain related-party transactions. In some cases, which cross a prescribed threshold, approval of shareholders is also needed.

Therefore, while the accounting standards are more concerned with the disclosure of transactions after execution, the Companies Act, 2013, has given its attention to various approvals by the board, audit committee and shareholders before the transaction.

However, there are some differences between the way related parties are defined in AS-18 and the Act, bothering companies. The definition under the new companies law is wider than that in accounting standards. If two independent companies have family relatives and these companies enter into transactions, these are related-party deals, according to the Act, but not in terms of AS-18, say to experts.

"The coverage of relatives (under the Act) is solely based on relationship, without giving any consideration to financial dependence or influencing power," said Pankaj Chadha, partner in a member firm of EY Global

Also, even if a director is common in two independent companies, these will be taken as related parties if they enter into transactions. However, the AS-18 still considers them independent and not related parties, experts said.

"While the accounting standard restricts the definition of 'related party' to a relationship in which one party controls the other and to transactions between companies under common control, the definition under the Companies Act is far wider and covers relatives and their interest in firms and companies as well," said S Sriram, principal associate-direct tax, Lakshmikumaran & Sridharan attorneys.

Besides, the Act has made it binding on the companies to seek approvals at the stage of memorandum of understanding (MoU) itself, while the accounting standard is only bothered about transactions.

While the companies enter into a business with the help of an MoU, the actual transaction cost is decided on the basis of the purchase agreement.

"The MoU is only an umbrella agreement. The Act requires companies to take shareholders' approval even at that level, while the accounting standards are concerned only with the purchase agreement," said Manoj Kumar, managing partner, Hammurabi & Solomon.

With such differences, many companies are concerned that they have to maintain separate records - for new the companies law and accounting standards, creating unnecessary work overload.

Ultimately, "the report sent to the registrar of companies and circulated to shareholders will contain different sets of related-party transactions, creating confusion and doubt on the correctness of reporting," said Sriram.

More, under the Act, the definition of 'related parties' includes companies whose directors are 'accustomed to act' according to the 'advice, direction, instruction' of a director of another company. These terms can be interpreted differently. "The meaning of 'accustomed to act', 'advice, direction, instruction' is very subjective. No guidance has been prescribed to identify such transactions. This might lead to litigation," said Sriram.

What is a related-party transaction?

A business deal or arrangement between two parties who are joined by a special relationship prior to the deal. For example, a business transaction between a major shareholder and the corporation would be deemed a related-party transaction (Business Standard)