Income Tax, Issue Update

Treatment of recognition of interest on NPA

Case: The Chitradurga District Co-Op Central Bank Ltd vs Dy. CIT, Bangalore ITAT

Outcome: Remand


  • The Assessee was a co-operative bank carrying on banking business. The Assessing Officer had noticed that the Assessee was following hybrid system of accounting, viz., cash system for accounting interest income on loans given by it and mercantile system for all other items. In view of the same, the Assessee did not account for interest accrued on standard asset and non-performing assets.
  • The Assessing Officer noticed that the provisions of section 145 of the Act mandated that the income chargeable under the head ‘Profits & Gains’ on itself or profession shall be computed in accordance with either cash or mercantile system of accounting regularly employed by the Assessee.
  • Accordingly, the Assessing Officer took the view that the interest income accrued on standard assets and non-performing assets should be assessed in the hands of the Assessee on accrual basis. The interest accrued on standard assets which was not accounted as income by the Assessee worked out to Rs.260.03 lakhs. Similarly, the interest accrued on non-performing asset but not accounted as income worked out to Rs.260.53 lakhs. The Assessing Officer had assessed both the amount referred above as income of the Assessee.

Key points

  • Reliance was placed on the decision of the Hon’ble Karnataka High Court in the case of CIT Vs. Canfin Homes Ltd., wherein it was concluded that it was clear, if an Assessee adopted the mercantile system of accounting and in his accounts he showed a particular income as accruing, whether that amount was really accrued or not was liable to bring the said income to tax. The Assessee’s accounts should reflect true and correct statement of affairs. Merely because the said amount accrued was not realised immediately could not be a ground to avoid payment of tax. But, if in the Assessee’s account it was clearly stated though a particular income was due to the Assessee but it was not possible to recover the same, then it could not be said to have been accrued and the said amount could not be brought to tax. In the instant case, the issue was concerned with a non-performing asset. As the definition of non-performing asset shows an asset becomes non-performing when it ceases to yield income. Non-performing asset was an asset in respect of which interest had remained unpaid and had become past due. Once a particular asset was shown to be a non-performing asset, then the assumption was that it was not yielding any revenue. When it was not yielding any revenue, the question of showing that revenue and paying tax would not arise. As was clear from the policy guidelines issued by the National Housing Bank, the income from non-performing asset should be recognised only when it was actually received. Therefore, the contention of the Revenue that in respect of non- performing assets even though it did not yield any income as the Assessee has adopted a mercantile system of accounting, the Assessee had to pay tax on the revenue which had accrued notionally was without any basis.
  • Hence, it was inferred that interest on non-performing assets was to be taxed on receipt basis.

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