Section 128: Understanding Books of Account under the Companies Act 2013

Accurate financial record-keeping isn’t just good business practice; it’s the very backbone of any successful and legally compliant company operating in India. For many small business owners and directors, navigating the legal requirements can seem daunting. However, understanding these rules is crucial. The primary regulation governing how companies must maintain their financial records is Section 128 of the Companies Act, 2013. This section lays down specific rules that every registered company, regardless of size, must follow. For small businesses, in particular, grasping these obligations regarding books of account under the companies act 2013 is critical not only for smooth operations but also for avoiding significant legal repercussions. This post will guide you through what constitutes ‘books of account’, where and how they need to be maintained, the mandatory retention period, the immense significance of compliance, and practical steps you can take. Understanding these regulations is the first step towards building a financially sound and legally secure business foundation.

What are “Books of Account” as Defined by the Companies Act 2013?

Before diving into the rules, it’s essential to understand what the law means by “books of account”. The term isn’t just about your final profit and loss statement or balance sheet; it encompasses the foundational records that lead to those statements. Understanding books of account under companies act involves recognizing the comprehensive nature of financial documentation required. These records must collectively provide a transparent and accurate picture of the company’s financial health and transactions, enabling stakeholders, auditors, and regulators to assess its performance and compliance.

Defining the Scope: Section 128(1) Explained

Section 128(1) of the Companies Act, 2013, mandates that every company must prepare and keep, at its registered office, books of account and other relevant books and papers and financial statements for every financial year. These records must give a “true and fair view” of the state of the affairs of the company, including its branch office or offices, if any, and explain the transactions effected both at the registered office and its branches. Specifically, the “books of account” should include records maintained in respect of:

• All sums of money received and expended by the company and the matters in respect of which the receipt and expenditure take place (Essentially, detailed cash book and ledger entries covering all inflows and outflows).
• All sales and purchases of goods and services by the company (Records like sales registers, purchase registers, invoices issued and received, supporting vouchers, etc.).
• The assets and liabilities of the company (Detailed records of all fixed assets, investments, inventory, receivables, payables, loans, share capital, reserves, etc.).
• The items of cost as may be prescribed under section 148 in the case of a company which belongs to any class of companies specified under that section (Applicable for companies required to maintain cost records, detailing material costs, labour costs, overheads, etc.).

The requirement for these books to present a “true and fair view” is paramount. This means the records should be accurate, complete, prepared according to applicable accounting standards, and should not mislead anyone relying on them.

Mandatory Accounting Principles: Accrual Basis & Double-Entry System

The Companies Act, 2013, doesn’t just specify what records to keep, but also how they should be maintained fundamentally. Section 128(1) explicitly requires companies to maintain their books of account on an accrual basis and according to the double-entry system of accounting.

• Accrual Basis: This is a fundamental accounting principle. It means transactions are recorded when they occur (revenue when earned, expenses when incurred), regardless of when the cash is actually received or paid. For example, if you provide a service in March but get paid in April, under the accrual basis, the revenue is recognized in March. This provides a more accurate picture of a company’s financial performance and position during a specific period compared to the cash basis (which only records transactions when cash changes hands).
• Double-Entry System: This is the bedrock of modern accounting. Every financial transaction has a dual effect and is therefore recorded in at least two accounts – a debit in one account and a credit in another. For instance, when a company buys machinery with cash, the ‘Machinery’ account (an asset) increases (debited), and the ‘Cash’ account (another asset) decreases (credited). This system ensures the accounting equation (Assets = Liabilities + Equity) remains balanced and provides a self-checking mechanism to maintain accuracy.

Adhering to these two principles is non-negotiable under the Act and forms the foundation for preparing reliable financial statements.

Key Rules for Maintaining Books of Account under the Companies Act 2013

Section 128, along with associated rules, lays down specific directives on how and where companies must maintain their financial records. Adhering to these companies act 2013 books of account rules is essential for ensuring compliance with books of account in India. These rules cover the physical location of the books, the option for electronic maintenance, and the duration for which records must be preserved.

Place of Keeping Books of Account: The Registered Office Rule

The default rule under Section 128(1) is straightforward: Every company must keep its books of account and other relevant papers at its registered office. This ensures that the primary records are available at the official address known to the Registrar of Companies (ROC) and other stakeholders. This location serves as the central point for inspection and regulatory oversight.

However, the Act recognizes that businesses may operate from multiple locations or find it operationally convenient to maintain accounts elsewhere. Therefore, an exception exists:

• The Board of Directors can decide, by passing a Board Resolution, to keep all or any of the books of account at any other place within India.
• If such a decision is made, the company must file Form AOC-5 with the Registrar of Companies (ROC) within seven days of the Board Resolution. This form provides the full address of the other place where the books are being kept.

Failure to notify the ROC renders the maintenance of books at a location other than the registered office a non-compliance.

Option for Electronic Maintenance: Rules and Safeguards

Recognizing the shift towards digitalization, the proviso to Section 128(1) allows companies to maintain their books of account and other relevant books and papers in electronic mode. This offers flexibility and efficiency but comes with specific conditions outlined in the Companies (Accounts) Rules, 2014, to ensure the integrity, accessibility, and security of these digital records. The key requirements are:

• Format: The electronic records must be maintained in the format in which they were originally generated, sent, or received, or in a format which presents the information accurately as originally generated, sent or received. Alterations that compromise the original data are not permitted.
• Accessibility: The information must remain complete and unaltered and be legible and accessible in India throughout its required retention period, so it can be used for subsequent reference. This means authorized personnel, auditors, and regulators must be able to access and read the data easily.
• Branch Records: Records related to transactions at branch offices, even if maintained electronically, must be accessible at the registered office.
• Integrity and Security: There must be a proper system for ensuring the storage, retrieval, display, and printout of the electronic records as needed. This implies robust IT infrastructure and controls.
• Backup: Crucially, the company must ensure proper backups of the electronic books of account are taken. These backups should be maintained and preserved, preferably on servers physically located in India. This safeguards against data loss due to technical failures or cyber incidents.
• Annual Disclosure to ROC: If the electronic records are maintained on a cloud or by a third-party service provider (even outside India, though backups must be in India), the company must inform the ROC on an annual basis at the time of filing its financial statements. This disclosure should include details like the name and address (if applicable) of the service provider, their Internet Protocol (IP) address, and their location.

Companies opting for electronic maintenance must ensure they meet all these conditions diligently. More details can be found in the Companies (Accounts) Rules, 2014 on the MCA website.

Preservation Period: How Long to Keep Your Records?

A common question for businesses is how long they need to hold onto their financial records. Section 128(5) provides a clear answer: companies must preserve their books of account, along with relevant vouchers and supporting documents, for a minimum period of eight financial years immediately preceding the current financial year.

For example, for the financial year ending March 31, 2024, a company must have records readily available dating back to the financial year ending March 31, 2016 (i.e., FY 2015-16 through FY 2022-23).

It’s important to note that this is a minimum requirement. If the Central Government orders an investigation into the affairs of the company, the company might be required to preserve its books for a longer period as directed by the investigating authorities. Therefore, destroying records precisely after eight years might be risky if any investigation spanning older periods is anticipated or ongoing.

Importance of Maintaining Books of Account under Companies Act 2013

Complying with Section 128 is not just about ticking a legal box; it’s fundamental to the health, transparency, and sustainability of your business. The importance of maintaining books of account under companies act 2013 cannot be overstated. It impacts everything from legal standing and financial health to strategic planning and stakeholder trust. Neglecting this core requirement can lead to severe consequences and hinder business growth significantly. Proper record-keeping provides a clear view of financial performance, facilitates compliance, supports decision-making, and builds credibility.

Ensuring Legal Compliance and Avoiding Penalties

The most immediate reason to comply with Section 128 is to avoid legal trouble. Failure to maintain proper books of account as required by the Act is a serious offense. Section 128(6) outlines the penalties for non-compliance. The responsibility falls on key personnel within the company:

• The Managing Director (MD)
• The Whole-Time Director (WTD) in charge of finance
• The Chief Financial Officer (CFO)
• Any other person charged by the Board with the duty of complying with the provisions of this section.

If these individuals fail to take reasonable steps to secure compliance, they shall be punishable with:

• Imprisonment for a term which may extend to one year; or
• A fine which shall not be less than ₹50,000 but which may extend to ₹5,00,000; or
• Both.

These penalties are significant and can impact the personal liability of directors and key officers. Ensuring meticulous compliance with books of account in India is therefore a critical risk management activity for the company and its leadership.

Accurate Financial Reporting & Strategic Decision Making

Well-maintained books of account are the bedrock upon which accurate financial statements – the Balance Sheet, the Profit and Loss Account (Statement of Profit and Loss), and the Cash Flow Statement – are built. Without reliable underlying records prepared on an accrual basis using the double-entry system, these statements would be meaningless or misleading.

Accurate financial statements are indispensable tools for management. They provide vital insights into:

• Profitability: Understanding revenue streams, cost structures, and profit margins.
• Financial Position: Assessing assets, liabilities, and owner’s equity at a specific point in time.
• Cash Flow: Tracking the movement of cash in and out of the business.
• Performance Trends: Identifying patterns over time to understand growth, seasonality, or potential issues.

Armed with this information, directors and managers can make informed strategic decisions about pricing, investment, cost control, expansion, and resource allocation. Poor records lead to poor decisions, potentially jeopardizing the company’s future.

Facilitating Audits and Tax Filings

Maintaining proper books of account significantly simplifies mandatory processes like statutory audits and tax filings. When books of account companies act India requirements are met diligently throughout the year, the annual statutory audit becomes a much smoother and less time-consuming process. Auditors rely heavily on these records to verify transactions and express an opinion on the truth and fairness of the financial statements. Disorganized or incomplete records can lead to audit delays, qualified opinions, and increased audit fees.

Similarly, accurate calculation and filing of taxes, including Goods and Services Tax (GST) and Income Tax, depend entirely on well-kept books.

• GST: Regular reconciliation of purchase and sales registers with GST returns (GSTR-1, GSTR-3B) is crucial for claiming correct Input Tax Credit (ITC) and ensuring accurate GST liability payment. Find official information on the GST Portal.
• Income Tax: Computing taxable income requires accurate records of revenues, expenses, depreciation, etc. Properly maintained books provide the necessary audit trail and support for figures reported in the Income Tax Return. Visit the Income Tax Department website for tax regulations.

Organized records minimize the risk of errors, disputes with tax authorities, and potential penalties for incorrect filings. If you need assistance, TaxRobo offers expert Auditing Services, GST Filing Services, and Income Tax Filing Services.

Building Credibility with Stakeholders

Transparency and accuracy in financial reporting are key to building trust with various stakeholders. Whether you are seeking investment, applying for a bank loan, negotiating terms with suppliers, or attracting potential business partners, demonstrating robust financial health through well-maintained books of account is crucial.

• Investors: Potential investors scrutinize financial records to assess the company’s performance, stability, and potential return on investment.
• Lenders/Banks: Banks rely heavily on financial statements derived from proper books of account to evaluate creditworthiness before approving loans or credit facilities.
• Suppliers & Customers: Strong financial records can help negotiate better credit terms with suppliers and assure large customers of your company’s reliability as a long-term partner.

Conversely, poorly kept records or an inability to produce required financial information quickly can raise red flags, damage reputation, and hinder opportunities for growth and collaboration.

Practical Steps Towards Compliance for Small Businesses

Understanding the rules is one thing; implementing them effectively in a small business setting is another. Here are some practical steps small business owners and directors can take to ensure compliance with Section 128.

Choosing the Right Tools: Accounting Software

Manual bookkeeping is prone to errors and can be incredibly time-consuming, especially as a business grows. Investing in user-friendly accounting software is highly recommended for small businesses. Several options are available in the Indian market (like Tally, Zoho Books, QuickBooks, etc. – choose one that fits your budget and needs). For a detailed guide on setting up an accounting system for your small business, refer to Set Up An Accounting System for My Small Business.

Using appropriate software offers numerous benefits:

• Automation: Reduces manual data entry for tasks like invoicing, payment tracking, and bank reconciliation.
• Accuracy: Minimizes calculation errors inherent in manual systems, especially with features enforcing double-entry principles.
• Efficiency: Speeds up the process of recording transactions and generating reports.
• Reporting: Provides instant access to key financial reports (P&L, Balance Sheet, Cash Flow, GST reports) needed for decision-making and compliance.
• Scalability: Can handle increasing transaction volumes as the business expands.

Selecting software designed for Indian compliance requirements (GST, TDS, etc.) is crucial. For more information about maintaining accurate accounting records for tax purposes, visit Maintaining Accurate Accounting Records for Tax Purposes.

Establishing Robust Record-Keeping Habits

Software is just a tool; consistent habits are essential for maintaining accurate books. Small businesses should establish clear processes:

• Regular Updates: Don’t let bookkeeping pile up. Update books regularly – ideally daily or at least weekly – to ensure records are current and accurate.
• Organize Supporting Documents: Maintain a systematic filing system (physical or digital) for all supporting documents like invoices (sales and purchase), expense receipts, bank statements, contracts, and vouchers. These are crucial evidence for auditors and tax authorities. Link them clearly to the corresponding entries in your accounting software.
• Bank Reconciliation: Regularly reconcile your company’s bank statements with the cash/bank book entries in your accounting records. This helps identify discrepancies, unrecorded transactions, or potential errors quickly.
• Implement Simple Internal Controls: Even in small teams, basic controls help. For example, if possible, segregate duties slightly (e.g., the person approving payments isn’t the only one recording them). Have clear authorization processes for expenses. Learn more about the primary purpose of internal audits in the modern organization from Primary Purpose of Internal Audit in the Modern Organization.

Consistency is key. Making bookkeeping a routine part of business operations prevents year-end chaos and ensures ongoing compliance.

When to Seek Professional Assistance

While software and good habits help, ensuring full compliance with books of account under the companies act 2013 can still be complex, especially concerning specific accounting standards, depreciation rules, cost recording (if applicable), and electronic record-keeping protocols. It’s often wise to seek professional help.

Consider consulting with:

• Chartered Accountants (CAs): Experts in accounting standards, auditing, and taxation. They can help set up your chart of accounts, ensure compliance with accounting principles, prepare financial statements, handle audits, and provide tax advice.
• Company Secretaries (CSs): Specialists in corporate law compliance, including filings with the ROC like Form AOC-5 for changing the place of books.
• Professional Firms: Organizations like TaxRobo offer integrated services covering accounting, bookkeeping, auditing, tax filing, and ROC compliance, providing a one-stop solution for small businesses.

Seeking professional assistance, especially during the initial setup phase or for periodic reviews, can provide peace of mind and ensure you are meeting all legal requirements accurately. TaxRobo can be your partner in achieving hassle-free compliance. Explore our Accounting Services or book an Online CA Consultation to discuss your specific needs.

Conclusion

Section 128 of the Companies Act, 2013, sets clear mandates for maintaining books of account under the companies act 2013. From defining what constitutes these records and requiring the accrual basis and double-entry system, to specifying the place of maintenance (registered office or notified alternative), allowing electronic records under strict conditions, and demanding preservation for eight financial years, the law leaves little room for ambiguity.

The importance of adhering to these rules extends far beyond mere legal obligation. Proper books of account are vital for avoiding hefty penalties (including imprisonment and fines up to ₹5 Lakhs), enabling informed business decisions, facilitating smooth audits and tax filings, and building credibility with investors, lenders, and other stakeholders. For small businesses aiming for sustainable growth and a strong reputation, meticulous compliance with Section 128 is non-negotiable.

If navigating these requirements seems overwhelming, remember that expert help is available. TaxRobo provides comprehensive accounting, auditing, and compliance services tailored for Indian businesses, ensuring you meet your obligations efficiently and accurately. Don’t let bookkeeping complexities hold your business back. Contact TaxRobo today for expert guidance and support.

FAQs: Books of Account under the Companies Act 2013

Q1: What specific records fall under “books of account” as per Section 128?

Books of account broadly include records detailing:

• All money received and spent, with details of the transactions.
• All sales and purchases of goods and services.
• All assets (like machinery, buildings, debtors) and liabilities (like loans, creditors, provisions).
• Items of cost, if your company falls under the category required by Section 148 to maintain cost records.

Essentially, they encompass all financial transaction records necessary to present a true and fair view of the company’s financial state and performance.

Q2: Can my small private limited company maintain its books of account entirely in the cloud?

Yes, Section 128 permits maintaining books of account in electronic mode, which includes cloud-based solutions. However, you must strictly comply with the conditions specified in the Companies (Accounts) Rules, 2014. Key conditions include ensuring the records remain accessible in India at all times, are in their original or accurately represented format, cannot be altered improperly, have proper backups (preferably on servers located in India), and are retrievable for viewing and printing. Additionally, if using a third-party service provider, you must annually inform the ROC about their details.

Q3: What happens if my company fails to maintain proper books of account under the companies act 2013?

Non-compliance with Section 128 can lead to serious consequences. The persons responsible within the company (typically the Managing Director, Whole-Time Director in charge of finance, CFO, or another designated officer) can face personal liability. Penalties include imprisonment for up to one year, or a fine ranging from ₹50,000 to ₹5,00,000, or both. Furthermore, improper books hinder the preparation of accurate financial statements, complicate statutory audits, can lead to tax disputes, and damage the company’s credibility.

Q4: How long must a company in India keep its financial records?

According to Section 128(5) of the Companies Act, 2013, a company must preserve its books of account, along with supporting vouchers, for a minimum period of eight financial years immediately preceding the current financial year. For instance, at the end of FY 2023-24, records back to FY 2015-16 must be maintained. Note that this period might be extended if an investigation into the company’s affairs is ordered.

Q5: Do these rules for books of account also apply to a One Person Company (OPC)?

Yes, absolutely. A One Person Company (OPC) is a type of private limited company registered under the Companies Act, 2013. Therefore, Section 128 and its requirements regarding the maintenance of books of account (including accrual basis, double-entry system, place of keeping, electronic options, and preservation period) apply fully to OPCs just as they do to other companies. While OPCs might enjoy certain relaxations in other compliance areas (like holding AGMs or board meeting frequencies), the fundamental requirement to maintain proper books of account remains mandatory.