Classification of Entities explained: this guide covers what it means, who it applies to, the step-by-step process, documents required, fees, due dates and penalties in India — so you can stay compliant with confidence and avoid costly mistakes.
Appendix XI carries two schemes for the classification of entities — SMC and Non-SMC for companies under the Companies (Accounting Standards) Rules, 2021, and MSME and Large for non-company entities from 1 April 2024.
From the ICAI Guidance Note on Tax Audit (Revised 2026), the Eleventh and, by ICAI's own statement, concluding edition under the Income-tax Act, 1961. The classification schemes below are set by the Companies (Accounting Standards) Rules, 2021 and an ICAI Council announcement, and are unaffected by the change of income-tax statute.
The contents list at the front of the Guidance Note describes Appendix XI as covering the "Companies (Accounting Standards) Rules, 2006". The appendix itself, correctly, sets out the Companies (Accounting Standards) Rules, 2021. The contents entry is stale; the appendix text is the one to follow.
The company limb of the classification of entities — clause 2(e)
An SMC means a company:
- whose equity or debt securities are not listed or are not in the process of listing on any stock exchange, whether in India or outside India;
- which is not a bank, financial institution or an insurance company;
- whose turnover (excluding other income) does not exceed two hundred and fifty crore rupees in the immediately preceding accounting year;
- which does not have borrowings (including public deposits) in excess of fifty crore rupees at any time during the immediately preceding accounting year; and
- which is not a holding or subsidiary company of a company which is not a small and medium-sized company.
Explanation: a company qualifies as an SMC if the conditions are satisfied as at the end of the relevant accounting period. Companies not falling within the definition of SMC are Non-SMCs.
The turnover and borrowing tests look at the immediately preceding accounting year, while the Explanation fixes qualification as at the end of the relevant accounting period. A company that crosses Rs 250 crore of turnover in the year under audit is still an SMC for that year — the threshold bites the following year. Reading both tests off the current year is the commonest error in this classification of entities.
The five instructions for SMCs
| Instruction | Requirement |
|---|---|
| 1.1 | An SMC that does not disclose certain information pursuant to the exemptions shall disclose, by way of a note: "The Company is a Small and Medium Sized Company (SMC) as defined in the Companies (Accounting Standards) Rules, 2021 notified under the Companies Act, 2013. Accordingly, the Company has complied with the Accounting Standards as applicable to a Small and Medium Sized Company." |
| 1.2 | Where a company no longer qualifies, the relevant standards become applicable from the current period, and the corresponding previous period figures need not be revised merely by reason of its having ceased to be an SMC — but the fact that it was an SMC and had availed the exemptions shall be disclosed in the notes |
| 1.3 | If an SMC opts not to avail the exemptions in respect of any but not all of the Accounting Standards, it shall disclose the standards in respect of which it has availed them |
| 1.4 | If an SMC desires to disclose information not required because of an exemption, it shall disclose that information in compliance with the relevant accounting standard |
| 1.5 | An SMC may avail partial exemption or relaxation, provided that such partial exemption or relaxation and disclosure shall not be permitted to mislead any person or public |
Rule 5 — the two-period waiting rule
"5. Qualification for exemption or relaxation in respect of SMC. — An existing company, which was previously not a Small and Medium Sized Company (SMC) and subsequently becomes a SMC, shall not be qualified for exemption or relaxation in respect of Accounting Standards available to a SMC until the company remains a SMC for two consecutive accounting periods."
The rule is asymmetric, and it is the one part of the classification of entities that operates over time rather than at a single date. A company that ceases to be an SMC loses the exemptions immediately, from the current period (instruction 1.2). A company that becomes an SMC waits two consecutive accounting periods before it can use them.
The non-company limb — the 2024 scheme
The ICAI Council, at its 433rd meeting held on 13–15 August 2024, revised the criteria for the classification of entities that are not companies. The revised scheme comes into effect in respect of accounting periods commencing on or after 1 April 2024:
- non-company entities are classified into two categories — Micro, Small and Medium Sized Entities (MSMEs) and Large entities;
- an MSME is a non-company entity satisfying the same five conditions as an SMC — unlisted, not a bank, financial institution or insurance company, turnover excluding other income not exceeding Rs 250 crore in the immediately preceding accounting year, borrowings not exceeding Rs 50 crore at any time in that year, and not a holding or subsidiary of an entity that is not an MSME — tested as at the end of the relevant accounting period;
- a Large entity is a non-company entity that is not an MSME; and
- this announcement supersedes the earlier ICAI announcement on criteria for classification of Non-company entities issued in March 2021.
The company definition says "borrowings (including public deposits)"; the non-company MSME condition says simply "borrowings". Otherwise the two sets of five conditions are word-for-word the same — which is what makes the single Rs 250 crore / Rs 50 crore pair usable across both limbs of this classification of entities.
The renaming of the levels in the classification of entities
| Old term used in the Accounting Standards | Now read as |
|---|---|
| Small and Medium Enterprise / SME | Micro, Small and Medium size entity / MSME |
| Level II, Level III and Level IV entities | MSME |
| Level I entity | Large entity |
The four-level structure collapses into two. Large entities are required to comply in full with all the Accounting Standards; certain exemptions and relaxations have been provided to MSMEs, set out in Annexure 1 to the announcement and reproduced at Appendix XII.
Two further points from the announcement: the changes will be incorporated in the Accounting Standards while publishing the updated Compendium, and the announcement is not relevant for non-company entities required to follow Ind AS or AS under other regulatory requirements.
Additional requirements for non-company MSMEs
- An MSME availing the exemptions shall disclose by way of a note that it is an MSME and has complied with the Accounting Standards as applicable to an MSME.
- Where it no longer qualifies, the standards apply from the current period; previous period figures need not be revised; and both the earlier MSME status and the fact that previous period figures have not been revised must be disclosed.
- An entity that becomes an MSME is not qualified for the exemptions until it remains an MSME for two consecutive years.
- Partial availing must be disclosed standard by standard.
- Where an exemption is not availed, the entity shall comply with the relevant requirements of the standard.
- Partial exemption shall not be permitted to mislead users of financial statements.
Requirement 2 is stricter than the company equivalent: a non-company MSME must disclose two facts on ceasing to qualify, where a company discloses one.
Worked example
| Entity | Result of the classification of entities |
|---|---|
| Unlisted private company, preceding year turnover Rs 190 crore, borrowings Rs 22 crore, no listed parent | SMC |
| Same company, subsidiary of a listed company | Non-SMC — condition (v) fails |
| Company that first met all five conditions in FY 2024–25 and again in FY 2025–26 | Exemptions available from FY 2025–26 — two consecutive periods |
| SMC whose preceding year turnover crossed Rs 250 crore | Non-SMC from the current period; prior figures not revised; earlier status disclosed |
| Partnership firm, turnover Rs 60 crore, borrowings Rs 8 crore | MSME non-company entity |
| Trust with turnover Rs 400 crore | Large entity — full compliance with all the standards |
Audit checklist
- Run the five conditions and record the classification of entities in the working papers.
- Read turnover and borrowings off the immediately preceding accounting year.
- Confirm qualification as at the end of the relevant accounting period.
- Apply rule 5's two-consecutive-period wait to a newly qualifying company.
- Check the SMC or MSME note is present in the financial statements.
- Check the standard-by-standard disclosure where exemptions are availed only in part.
- For a non-company MSME that has ceased to qualify, check both required disclosures.
- Confirm the entity is not one required to follow Ind AS under other regulations.
Common mistakes
- Testing turnover on the current year instead of the preceding one.
- Availing SMC exemptions in the first qualifying year, contrary to rule 5.
- Still using Level I to Level IV after the 2024 announcement.
- Omitting the note declaring SMC or MSME status.
- Restating comparatives merely because the entity ceased to qualify.