This is a composite, illustrative scenario, not an account of a named client. An advance of roughly ₹60 lakh to an entity owned by one of the company's directors had been on the books, unchanged in amount, for three consecutive financial years. In each of those three years, management's response to the audit's query on the balance was the same verbal explanation — that it was a temporary, short-term advance expected to be repaid shortly — with no interest ever charged on it and no board resolution, repayment schedule, or written loan agreement on file in any of the three years to support either the temporary characterisation or the interest-free terms.
Why 'temporary' stopped being a credible description
A genuinely temporary advance is one with some expectation of near-term repayment, usually evidenced by at least an informal understanding of timing even if not a formal loan agreement. An advance that has sat at exactly the same amount, with no partial repayment and no revised timeline, across three audit cycles, is no longer temporary by any reasonable reading of the word — it functions as a long-term, interest-free loan to a related party, and needed to be classified, approved, and disclosed as one.
What testing the balance across the three years found
- 01Pulled the balance from all three years' audit files side by sideIdentical amount in each year, with no movement at all — not even partial repayment or a top-up, which on its own undercut the 'temporary, being actively managed' framing.
- 02Checked for any board or shareholder approval under sections 185 and 186 of the Companies ActNo resolution existed for any of the three years — the advance appeared to have been made informally, without the approvals the Act requires for loans to entities in which a director is interested.
- 03Checked whether interest income had been foregone and what that implied for related-party disclosureNo interest had been charged in any year; under the applicable accounting standard, this still needed to be identified and disclosed as a related-party transaction on its actual terms, interest-free or not.
- 04Assessed the CARO clause 3(iii) reporting implicationsCARO requires reporting on loans and advances given, including terms and whether repayment is as stipulated — a three-year-old advance with no stipulated repayment terms at all is itself a reportable gap.
| Year | Management's characterisation | Actual status |
|---|---|---|
| Year 1 | Temporary, short-term | No repayment terms on file |
| Year 2 | Temporary, short-term | Unchanged balance, no repayment terms |
| Year 3 (this audit) | Temporary, short-term | Unchanged balance, no repayment terms, three years old |
What went into the file
- The three-year balance comparison, showing no movement, as the primary evidence against the temporary characterisation.
- The absence of section 185/186 approval, documented as a compliance gap requiring regularisation.
- The CARO clause 3(iii) disclosure on terms and repayment stipulation, drafted to reflect the actual facts rather than management's description.
- A recommendation that the loan either be formally documented with board approval, interest, and a repayment schedule, or be repaid, rather than continuing on an undocumented, informal basis.
A balance's own age is evidence that outweighs a verbal characterisation repeated unchanged every year. When a related-party advance described as temporary has not moved across three audit cycles, the right response is to test it as what it actually is — a long-standing, interest-free related-party loan — not to accept the label again because it was accepted the last two times.
This is practical guidance written for audit teams, not an authoritative statement of any standard or statute. Standards, forms and timelines change. Check the current text issued by the ICAI and the relevant authority before relying on anything here in an audit file.
Related resources
- Related parties & disclosuresHow to test related-party loan classification (loan vs advance vs investment)Read the actual terms of the arrangement rather than the label the client used, test repayment behaviour against those terms, and check the classification against what it actually triggers.
- CARO & Companies ActCARO clause 3(iv): compliance with sections 185 and 186How to test loans, investments, guarantees and security given by a company against sections 185 and 186 for CARO clause 3(iv) reporting.
- Related parties & disclosuresIdentifying related parties: the audit starting pointA client declaration is a starting point for the related-party list, not evidence of it. How to build and cross-check the list independently.
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