2009 (11) TMI 11 - HC - Income Tax

Overdue charges accrual basis of accounting - overdue charges on accrual basis not accounted the books of account - additional financial charges (overdue charges) held that - The change of method of accounting of overdue charges from the mercantile basis to cash system, method of accounting, as followed by an assessee, does not create any income; but the method of accounting only recognizes income. Therefore, either to apply the accrual system or cash system, recognition of income is a paramount factor - When the instalment itself is overdue, is not collected, there is no basis for making out a case that the additional overdue charges payable by the parties would be collectible with certainty. The terms of the agreements which enable the assessee-company to demand overdue charges is only an enabling provision and that enabling provision does not guarantee the collection of overdue charges. It only gives a cause of action to the assessee. In such cases it is very difficult to recognize income against overdue charges addition can not be made on deemed accrual basis.

Summary

Issues:
1. Whether overdue charges on accrual basis not accounted in the books of account should be brought to tax?
2. Whether additional financial charges (overdue charges) should be added as income of the assessee?

Analysis:

Issue 1:
The case involved a dispute regarding the treatment of overdue financial charges on hire purchase and lease transactions by the assessee Company. The Revenue contended that the assessee should have accounted for the overdue charges on accrual basis as per the mercantile system of accounting mandated by Section 145 of the Income-tax Act. However, the assessee argued that it recognized income from overdue charges only on a cash basis, in line with norms of the Reserve Bank of India and Accounting Standard 9 of ICAI. The Assessing Officer passed an order against the assessee, which was upheld by the Commissioner of Income-tax (Appeals). The Income-tax Appellate Tribunal, following a previous judgment in the assessee's own case, allowed the appeal, leading to the current appeal by the Revenue.

Issue 2:
The Division Bench of the Court referred to a previous decision regarding the change in the method of accounting by the assessee. It highlighted that the change in the method of accounting alone does not create income but only recognizes income. In this case, the disputed amount was overdue charges receivable by the assessee from parties based on hire-purchase and lease agreements. The Court emphasized that the terms of the agreements did not guarantee the collection of overdue charges, as they were payable only when parties defaulted on payments. Therefore, recognizing income against overdue charges was deemed difficult. The Tribunal's decision to delete the additions made towards overdue charges was upheld, as the change in the accounting method to a cash basis was found to be permissible in law and did not result in tax evasion or loss to the Revenue.

In conclusion, the appeal filed by the Revenue was dismissed as the Division Bench judgment supported the Tribunal's decision regarding the treatment of overdue charges, affirming that the change in the method of accounting of overdue interest alone on a cash basis was justified in this case.