2023 (1) TMI 1087 - AT - Income Tax

Accrual of interest income - Real income received / receivable by the company on inter corporate deposit - Assessment u/s 143 - real income or hypothetical income - Assessee claims that no real income accrued to the company and merely as the assessee is following mercantile system of accounting it does not result in accrual of income from interest when there is no interest in real terms and the statement of the accounts of the assessee also did not reflect any credit entry in respect of interest receipt from the borrower - HELD THAT - Tax Authorities below have failed to keep in mind the fundamental principles of taxation that only real income should be taxed and not the hypothetical income. What the Ld. Tax Authorities below have considered to be income arising from interest to be taxable on accrual basis would be a case where interest account is not settled, however when the loan account and interest account stand settled between the parties and a deed of settlement stands then on the basis of accrual interest income cannot be attributed and only the actual interest received on that account, was liable to be shown in P L account. As rightly done by the assessee company. The assessee being in the business of lending, if had borrowed any amount on interest that is not of much consequence in the present facts and circumstances as being watchful of it s business interest and to secure the principal amount at least, the assessee gave up the claim of interest income. There is no allegation of untoward benefit to the borrower as the two entities were not known to each other. There is also force in the contention of assessee that in any case, if shortfall in interest is adjusted from principal amount on principle of first appropriation towards interest before applying it to principal. Then being in lending business, the shortage towards principal would be allowable as bad debt. Which assessee prevented. Being in lending business the bad debt ratio is crucial to the assessee and thus business expediency cannot be more justified then here. - Decided in favour of the assessee.

Issues Involved:
1. Accrual of interest income.
2. Waiver of interest due to commercial expediency.
3. Treatment of interest income under mercantile accounting.
4. Proportional disallowance of interest expense.
5. Real income vs. hypothetical income.
6. Non-disclosure of income and double jeopardy to revenue.

Issue-wise
Detailed Analysis:

1. Accrual of Interest Income:
The central issue revolves around whether interest income of Rs. 85,70,960/- accrued to the assessee during the assessment year 2015-16. The assessee argued that no real income accrued as the interest was waived off following a settlement deed dated 14.07.2015. The Assessing Officer (AO) and Commissioner of Income Tax (Appeals) [CIT(A)] held that since the assessee follows the mercantile system of accounting, the interest should be considered accrued and taxable.

2. Waiver of Interest Due to Commercial Expediency:
The assessee company advanced Rs. 6,00,00,000/- to M/s Parsvnath Developers Ltd. (PDL) and later waived off the interest to ensure recovery of the principal amount. The CIT(A) contended that the waiver was not justified as a business expense. However, the Tribunal held that the waiver was a commercial decision to prevent bad debt, thus justifying the waiver from a business perspective.

3. Treatment of Interest Income Under Mercantile Accounting:
The AO added Rs. 77,13,864/- to the income, assuming that the interest income of Rs. 85,70,960/- had accrued based on the mercantile system. The Tribunal found that the settlement deed, which waived off the interest, was executed before the finalization of accounts. Therefore, only the actual interest received (Rs. 8,57,096/-) should be considered as income.

4. Proportional Disallowance of Interest Expense:
The CIT(A) observed that the assessee did not have sufficient own capital to fund the loan to PDL and hence disallowed proportionate interest expense. The Tribunal did not specifically address this issue but focused on the principle that only real income should be taxed.

5. Real Income vs. Hypothetical Income:
The Tribunal emphasized that only real income should be taxed and not hypothetical income. It noted that the interest income was waived off through a formal agreement, and thus, no real income accrued to the assessee. The Tribunal cited several case laws, including CIT v. Excel Industries Ltd. and CIT v. Vasisth Chay Vyapar Ltd., to support this principle.

6. Non-disclosure of Income and Double Jeopardy to Revenue:
The CIT(A) argued that non-disclosure of interest income by the assessee would result in double jeopardy to the revenue, as PDL had claimed the interest expense and deducted TDS. The Tribunal countered this by stating that the settlement deed and the waiver of interest were legitimate business decisions, and the assessee had correctly accounted for the actual interest received.

Conclusion:
The Tribunal allowed the appeal in favor of the assessee, holding that the interest income of Rs. 85,70,960/- did not accrue due to the waiver agreed upon in the settlement deed. It emphasized the principle that only real income should be taxed and acknowledged the commercial expediency behind the waiver of interest. The addition of Rs. 77,13,864/- to the income was thus deleted.

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