2008 (9) TMI 18 - SC - Income Tax

AO added back the provision for doubtful debts to net profit - provision made to cover up the probable diminution in the value of asset, can t be said to be a provision for liability, because even if a debt is not recoverable no liability could be fastened upon the assessee - provision made towards irrecoverability of the debt can t be said to be a provision for liability- AO was not justified in adding back the provision for doubtful debts under clause (c) of the Explanation to Section 115JA

Summary

Issues:
1. Justification of adding back the provision for doubtful debts to the net profit under Section 115JA of the Income-tax Act, 1961.

Analysis:
The case involved a civil appeal concerning the assessment year 1997-98 where the Department questioned the AO's decision to add back a provision for doubtful debts to the book profits under clause (c) of the Explanation to Section 115JA of the Income-tax Act, 1961. The assessee, a trading company, had debited an amount on account of bad debts to the profit and loss account. However, the AO added this amount to the book profits as a provision for bad and doubtful debts. The CIT(A), Tribunal, and High Court had ruled in favor of the assessee, leading to the appeal in the Supreme Court.

The Supreme Court analyzed Section 115JA of the Income-tax Act, which pertains to deemed income for certain companies. It highlighted that the AO's role is to compute the total income of the assessee as per the Act, followed by calculating 30% of the book profit and comparing it with the total income. The Court emphasized that the AO's power is limited to examining whether the accounts are certified and maintained in accordance with the Companies Act, with adjustments as per the Explanation to Section 115JA.

Referring to the Apollo Tyres Ltd. case, the Court reiterated that the AO must accept the authenticity of accounts certified under the Companies Act and has no jurisdiction to go beyond the net profit shown in the profit and loss account, except as provided in the Explanation. The adjustments under Section 115JA are distinct from those under Section 349 of the Companies Act, allowing specific additions to the net profit for computing book profit.

In the specific context of the provision for bad and doubtful debts, the Court analyzed Item (c) of the Explanation, which deals with provisions for meeting unascertained liabilities. It clarified that a provision for bad debts related to receivables does not constitute a provision for liability, as the irrecoverability of debt does not create a liability for the assessee. Thus, the provision for doubtful debts in this case did not meet the criteria of Item (c) and should not have been added back to the net profit under Section 115JA.

Ultimately, the Court found no merit in the civil appeal and dismissed it, emphasizing that the AO was not justified in adding back the provision for doubtful debts to the book profits under Section 115JA of the Income-tax Act, 1961.