2000 (1) TMI 1009 - HC - Income Tax

Summary

Issues:
1. Change in method of accounting by the assessee from mercantile system to hybrid system.
2. Treatment of interest on doubtful loans in the assessment years 1983-84, 1984-85, 1985-86.

Analysis:

Issue 1: Change in method of accounting
The assessee, a banking organization, transitioned from the mercantile system of accounting to a hybrid system starting from the assessment year 1987-88. Under the new system, interest on doubtful debts was no longer charged, and the amount in the suspense account was adjusted based on recoveries or write-offs. The assessing officer referred to the Supreme Court's decision in the State Bank of Travancore case and CBDT instructions, arguing that interest on doubtful debts should be taxed. However, the tribunal distinguished the case, noting that the assessee did not credit interest receivable on sticky loans to its accounts post 1987-88, following a cash system for such interest. The tribunal found the hybrid accounting system valid, as it accurately reflected the bank's profits, especially considering the doubtful nature of sticky loans. Consequently, the tribunal deleted the addition, ruling in favor of the assessee.

Issue 2: Treatment of interest on doubtful loans
The tribunal held that no interest accrued to the assessee in the relevant years on loans categorized under suit filed accounts, claims lodged accounts, and accounts provided for bad and doubtful debts. Citing the UCO BANK case, the court emphasized that circulars issued were consistent with Section 145, ensuring uniform treatment for interest on doubtful loans. The circulars provided guidelines for assessing authorities to determine when interest income should be included, especially for doubtful or 'sticky' loans. Based on these principles, the court affirmed that the change in the accounting method to a hybrid system was bona fide and valid. Consequently, the tribunal's decision to deny interest accrual on specific loans was upheld, favoring the assessee over the department.

In conclusion, the High Court of Karnataka upheld the tribunal's decision, ruling in favor of the assessee regarding the change in the method of accounting and the treatment of interest on doubtful loans for the specified assessment years. The judgment highlighted the validity and acceptability of the hybrid accounting system adopted by the assessee and affirmed that no interest accrued on specific categories of loans as per the tribunal's findings.