For any Indian business that imports raw materials, exports products or services, borrows in foreign currency, holds overseas investments, or has a foreign subsidiary, Ind AS 21 (The Effects of Changes in Foreign Exchange Rates) is the accounting standard that governs how every one of those transactions appears in the financial statements. Getting foreign currency accounting under Ind AS 21 right is not merely a technical compliance matter — it directly affects reported profit or loss, net worth, and the figures that banks, investors, and regulators rely on.

Classic Partners LLP works extensively with Indian companies that have cross-border operations — from businesses with export receivables in USD to Indian subsidiaries of multinational groups consolidating under IFRS. In our experience, Ind AS 21 is one of the standards most commonly misapplied in practice, particularly in three areas: the classification of items as monetary or non-monetary, the FCMITDA carve-out for long-term borrowings, and the translation of foreign subsidiary financial statements. This guide addresses all three, with practical examples and the regulatory context CFOs and finance teams in India need.

01The Foundation: Functional Currency Under Ind AS 21

Before accounting for a single foreign currency transaction, Ind AS 21 requires the entity to establish its functional currency — the currency of the primary economic environment in which it operates. This is not necessarily the same as the currency in which the entity prepares its books or the currency mandated by its country of registration. It is the currency that most fundamentally drives the economics of the business.

Ind AS 21 sets out a hierarchy of indicators:

• Primary indicators (carry the most weight): the currency that mainly influences sales prices, and the currency of the country whose competitive forces and regulations mainly determine those prices
• Secondary indicators: the currency in which sales proceeds are retained, in which financing is raised, and in which operating receipts are normally held

For the vast majority of Indian businesses — companies selling and operating in India with INR-denominated revenues and costs — the functional currency is the Indian Rupee (INR). Every transaction in any other currency is therefore a foreign currency transaction requiring Ind AS 21 treatment.

02Initial Recognition of Foreign Currency Transactions

A foreign currency transaction is any transaction denominated or requiring settlement in a foreign currency — purchases or sales of goods and services priced in foreign currency, borrowing or lending in foreign currency, acquisition of foreign assets, and subscriptions to foreign equity.

At the date of the transaction, Ind AS 21 requires recognition at the spot exchange rate — the rate for immediate settlement on that specific date. In practice, Indian companies use:

• The RBI reference rate published daily on the RBI website
• The bank's contracted rate for the specific transaction (for import LCs, export bills, or loan drawdowns)
• A weekly or monthly average rate as an approximation, provided exchange rates during that period did not fluctuate significantly

The transaction is recorded in INR at this rate — no parallel entry in foreign currency is maintained in the Indian statutory books. The foreign currency amount is retained for tracking purposes for subsequent retranslation.

03Subsequent Measurement: Monetary vs Non-Monetary Items

After initial recognition, Ind AS 21 requires different treatment depending on whether the foreign currency item is monetary or non-monetary — this classification is the single most important judgment in the standard.

Monetary Items — Retranslate at Closing Rate

Monetary items are those that will be received or paid in a fixed number of currency units:

• Trade receivables and payables in foreign currency
• Foreign currency bank balances
• Loans and borrowings denominated in foreign currency (including ECBs)
• Security deposits payable or receivable in foreign currency
• Accrued expenses in foreign currency

At each balance sheet date, monetary items are retranslated at the closing rate (the spot rate at 31 March or the relevant year-end date). Exchange differences arising on retranslation are recognised in profit or loss — subject to the FCMITDA carve-out discussed below for long-term items.

Non-Monetary Items — No Retranslation at Historical Cost

Non-monetary items do not carry a right or obligation to receive or pay a fixed number of currency units:

• Property, plant and equipment purchased in foreign currency
• Inventory denominated in foreign currency
• Prepaid expenses in foreign currency
• Goodwill on acquisition of a foreign business
• Equity investments in foreign entities

Non-monetary items measured at historical cost are locked at the transaction date exchange rate and never retranslated in subsequent periods. The machinery imported for EUR 2,00,000 at 92.50 will remain at INR 1,85,00,000 in the books regardless of where EUR/INR moves — only depreciation and impairment are applied. Non-monetary items measured at fair value use the exchange rate at the date the fair value was determined; the resulting exchange difference follows the treatment of the fair value change itself.

04The FCMITDA Carve-Out: India's Key Deviation from IAS 21

This is the most commercially significant difference between Ind AS 21 and its global counterpart IAS 21 — and one of the most practically important provisions for Indian companies with significant foreign currency borrowings.

What IAS 21 (IFRS) Requires

Under IAS 21, all exchange differences on monetary items — including long-term foreign currency borrowings — are recognised in profit or loss immediately in the period they arise. There is no option to defer or spread them. A sharp depreciation of the INR against USD in a single year hits the entire foreign currency loan balance through P&L in that year.

What Ind AS 21 Allows: The FCMITDA Option

For long-term foreign currency monetary items that were recognised before the company's Ind AS adoption date (generally before 1 April 2016, 2017, or 2018 depending on the company's transition phase), Ind AS 21 allows the company to choose to accumulate the exchange differences in the Foreign Currency Monetary Item Translation Difference Account (FCMITDA) — a separate reserve in equity — and amortise them to profit or loss over the remaining life of the monetary item on a systematic basis.

The practical impact for Indian companies with External Commercial Borrowings (ECBs) or foreign currency term loans has been significant. Infrastructure companies, power generators, and capital-intensive manufacturers that took large USD or JPY denominated loans faced enormous P&L volatility from exchange differences as the INR depreciated. The FCMITDA option allowed that impact to be spread over the loan's life, producing a smoother P&L profile while still accurately reflecting the economic position on the balance sheet.

05Translation of Foreign Subsidiaries and Foreign Operations

When an Indian parent company prepares consolidated financial statements that include a foreign subsidiary, the subsidiary's financial statements — prepared in its functional currency — must be translated into INR (the parent's presentation currency). Ind AS 21 prescribes the following translation method:

The Foreign Currency Translation Reserve (FCTR) is reclassified from OCI to P&L only when the foreign operation is disposed of — partially or fully. Until disposal, the FCTR sits in equity, accumulating the translation gains and losses that arise as the exchange rate between the subsidiary's functional currency and the parent's presentation currency changes each year.

06Ind AS 21 and Transfer Pricing: The Intercompany Angle

For Indian companies that have cross-border intercompany transactions with foreign subsidiaries or affiliates — such as service fees, royalties, loans, or intercompany sales — Ind AS 21 determines the INR equivalent at which those transactions are initially recorded. The exchange rate used must be the spot rate at the transaction date.

This creates an important intersection with transfer pricing compliance. When intercompany prices are set in foreign currency — as is common for multinational groups using a central pricing framework — the INR equivalent recognised under Ind AS 21 at spot rate becomes the basis for:

• The revenue or expense recognised in the Indian entity's P&L
• The benchmarking analysis in the transfer pricing documentation
• The Form 3CEB disclosure of international transactions with associated enterprises

07Disclosure Requirements Under Ind AS 21

The following disclosures are required under Ind AS 21 in the annual financial statements:

• Total exchange differences recognised in profit or loss for the period (excluding those on financial instruments measured at FVTPL)
• Exchange differences recognised in OCI and reclassified from OCI to P&L during the period (for translation of foreign operations)
• The functional currency and the presentation currency — and the reason for using a different presentation currency if applicable
• If a change in functional currency occurred during the period: the fact of the change, the reason, and the date
• For FCMITDA users: the opening balance, additions, amortisation, and closing balance of the FCMITDA account

08Common Ind AS 21 Compliance Mistakes in Practice

Based on Classic Partners LLP's experience with Indian companies across import/export businesses, manufacturing groups, and multinational subsidiaries, these are the most frequent Ind AS 21 errors:

• 1 Using the incorrect rate — averaging monthly rates across an entire quarter for volatile currencies, or using the previous day's rate rather than the transaction date rate for significant transactions.
• 2 Misclassifying advances as monetary items — foreign currency advances paid to suppliers (for future delivery of goods) are typically non-monetary once the delivery obligation is confirmed; retranslating them creates incorrect exchange differences.
• 3 Retranslating non-monetary items — applying the closing rate to imported fixed assets or inventory purchased in foreign currency, which is incorrect under Ind AS 21.
• 4 Incorrect FCMITDA elections — applying the FCMITDA carve-out to short-term foreign currency items, or to items originated after the Ind AS adoption date (where the carve-out is not available).
• 5 Using weighted average rate for foreign operations without verification — applying a single quarterly average rate without verifying it does not fluctuate significantly, particularly for subsidiaries in high-inflation or high-volatility currency environments.
• 6 Not reclassifying FCTR on partial disposal — when a foreign subsidiary is partially disposed of (reducing the parent's ownership without losing control), the proportionate FCTR must be reclassified to NCI, not to P&L.

09Frequently Asked Questions

10The Bottom Line

Ind AS 21 is not a standard that operates in isolation — every foreign currency entry in an Indian company's books has an Ind AS 21 dimension, and the consequences of misapplication flow directly into P&L, net worth, and the figures used in FEMA filings, transfer pricing studies, and DTAA computations. The three judgments that matter most — functional currency determination, monetary vs non-monetary classification, and the FCMITDA election — are all decisions that need to be made and documented at the point of initial adoption, not corrected at year-end. For companies with overseas subsidiaries, the FCTR that accumulates quietly in OCI year after year can crystallise into a significant tax event on disposal, and that event needs to be planned for long in advance. Getting Ind AS 21 right is getting your cross-border financial reporting, regulatory, and tax position right simultaneously.