MCA Notification Regarding Audit Trail in Accounting Software

The law

The Ministry of Corporate Affairs (MCA) recently issued a notification regarding enforcement of Gazette Notification No. GSR 205 (E) dated 24th March 2021 – Amendment to Rule 3(1) of Companies (Accounts) Rules 2014 which seeks to bring a host of reforms and improvements in the way businesses operate in India. The following sections of the notification concern small and medium businesses and software providers like us and need to be noted carefully.

  • A provision to Rule 3 (1) of the Companies (Accounts) Rules, 2014 reads, “Provided that for the financial year commencing on or after the 1st day of April, 2021, every company which uses accounting software for maintaining its books of account, shall only use a software that has a feature for recording audit trail of each and every transaction, creating an edit log of each change made in the books of accounts along with the date when such changes were made and ensuring that the audit trail cannot be disabled.”
  • Point (g) of Companies (Audit and Auditors) Amendment Rules, 2021, which reads as – whether the company has used such accounting software for maintaining its books of account which has feature of recording Audit Trail (edit log) facility and the same has been operated throughout the year for all transactions recorded in the software and the Audit Trail feature has not been tampered with and the audit trail feature has been preserved by the company as per the statutory requirements for record retention

The intent

These reflect a laudable intent of the government to bring in more transparency and improve compliance. The objective seems to be to detect (wherever allegation is levelled) manipulation of electronic accounting records by management of corporates to play a fraud on the interests of stakeholders (shareholders, lenders, tax authorities) and in the process, defeat the object and purpose of law.

Audit trail refers to the trail of all activities surrounding a particular transaction.  Even though at a conceptual and regulatory level, the requirement of audit trail is very important and apt, there are a couple of concerns that we foresee with the specific requirements mentioned in the aforesaid notification.

The concerns

The notification has an impact on businesses, auditors and software providers. There are concerns that emanate from the operational areas of businesses and there are still details that remain unclear that do need to be understood and highlighted.

  • While audit trail aims to track, penalize and discourage fraudulent changes in accounting entries, it is important to note that there is an aspect of ‘human error’ also involved in this subject. One such example among the many is, ‘while making a sales entry of INR 1990, if the user by mistake types INR 1099, they will need to change the same afterwards to reflect the on-ground reality.’ This, however, will also get recorded in the audit trail and may lead to unnecessary difficulties for both the auditor and the business in question. Any model which relies on tax officers’ intervention and increases burden on businesses is likely to fail.
  • Although from an accounting and control perspective, audit trail has existed since decades, businessmen as well as the accounting community supporting them do not fully understand the same.
  • The order mandates an implementation from 1st of April 2021, which is less than a week from when the order was announced. Such a rushed enforcement can trigger panic, mistrust and resistance from businesses. This shall certainly increase cost of compliance and pressure on the accountants’ community. To make the whole ecosystem ready and prepare all layers of professions for a successful and collaborative implementation of audit trail in the Indian business community will need time.

What are we doing?

Given these realities, we have made required submissions to the Ministry of Corporate Affairs and to the Hon’ble Finance Minister, to consider these points and take an informed decision and consider withdrawal of the implementation or at the least, defer the implementation.  We are also in consultation with senior practitioners, CAs and other industry members to understand the impact and ease of application of these notifications from a practical standpoint. We will keep you informed of the outcome of such consultations in due course of time.

While our product does have the audit trail capability today, we are seeking clarifications from the government before we can make a statement on our product being compliant with the requirements. These have to do with the definition of ‘edit’, data loss due to unforeseeable circumstances, limitations of technology to guarantee a fool-proof audit trail etc.  

We will continue pushing for more clarity and consideration so we are able to act in the best interests of our customers and that our product gets ready to help them comply with this notification at the earliest.

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