2012 (12) TMI 202 - AT - Income Tax

Interest income - cash system versus accrual system Held that - Under Section 145(1) of the Act, income chargeable under this head shall subject to the provisions sub-section (2) be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee. - As already noticed the assessee is following the cash system of accounting. Therefore the interest cannot be assessed on accrual basis - in respect of OFCPN/DDB, the interest thereon could not be assessed on accrual basis since the assessee had followed cash system of accounting In favor of assessee Capital gain - transaction of Interest Coupon Strips short term or long term Held that - Capital gains arising on the sale of the deep discount bonds should be assessed as long term capital gains on the footing that he held them for a period of more than 12 months starting from 23-9-2000 before they were sold on 20-3-2002 - assessee is entitled to the exemption under Section 54EC as claimed In favor of assessee Capital gain - Non Convertible Debenture - deduction u/s.54EC Held that - the capital gain should be assessed as Long Term Capital Gain on the footing that the period of holding of Deep Discount Bond is more than the period prescribed. - gain in question was to be taxed as long term capital gain - in consequence thereupon the assessee should also be entitled for exemption u/s.54AC of IT Act. - ground of the assessee is allowed

Issues Involved:
1. Accrual of interest income on investments.
2. Classification of capital gains on sale of interest coupon strips.
3. Deduction under Section 54EC of the Income Tax Act.

Detailed Analysis:

1. Accrual of Interest Income on Investments:
The primary issue was whether the interest income on investments in Deep Discount Bonds (DDBs) of ICICI Ltd. and Infrastructure Leasing and Financial Services Ltd. should be recognized on an accrual basis despite the assessee following the cash system of accounting. The Assessing Officer (AO) added Rs.45,15,49,625/- as accrued interest income based on the guidelines of Circular No.2 of 2002 issued by CBDT. The assessee contended that this circular should not apply retrospectively and that the interest should be recognized only on a cash basis.

The ITAT referred to its earlier decision in the case of Karsanbhai Khodidas Patel HUF vs. ACIT, where it was held that interest on DDBs should not be assessed on an accrual basis if the assessee follows the cash system of accounting. The tribunal concluded that Circular No.2 of 2002 cannot override Section 145(1) of the Income Tax Act, which allows income to be computed based on the regular method of accounting employed by the assessee. Therefore, the tribunal reversed the findings of the authorities below and allowed this ground of the assessee.

2. Classification of Capital Gains on Sale of Interest Coupon Strips:
The second issue was whether the gains from the sale of interest coupon strips of Tata Finance Ltd. should be classified as long-term or short-term capital gains. The AO treated the gains as short-term capital gains based on Circular No.2 of 2002, which required annual income recognition on such strips, irrespective of the method of accounting followed by the assessee.

The ITAT referred to its decision in the case of Karsanbhai Khodidas Patel HUF, which clarified that the holding period should be calculated from the date of allotment and not from the date of issue of debenture certificates. The tribunal held that the capital gains arising from the sale of the interest coupon strips should be assessed as long-term capital gains since the holding period exceeded 12 months. Consequently, the tribunal allowed this ground of the assessee.

3. Deduction under Section 54EC of the Income Tax Act:
The third issue was related to the disallowance of the deduction under Section 54EC, which the AO denied on the grounds that the gains were short-term capital gains. Since the tribunal held that the gains should be classified as long-term capital gains, it also allowed the deduction under Section 54EC. The AO was directed to verify the investment and allow the deduction as per law.

Conclusion:
The ITAT allowed the appeal of the assessee on all grounds. It held that the interest income on DDBs should not be recognized on an accrual basis if the assessee follows the cash system of accounting. The gains from the sale of interest coupon strips were classified as long-term capital gains, and consequently, the deduction under Section 54EC was allowed. The tribunal's decision was consistent with its earlier rulings in similar cases, ensuring that the method of accounting regularly employed by the assessee was respected.

← Previous Next →