2014 (11) TMI 179 - HC - Income Tax

Addition of accrued interest on Government securities - Whether the Tribunal was correct in reversing the finding of the AO that the assessee was following dual method of accounting as per Section 145(1) of the Act Held that - the interest that becomes due or liable to be payable whether or not it is paid, the interest is accrued or deemed to have been accrued - If the interest does not become due and not liable to pay such part of the interest arise it cannot be said that the interest has become accrued - For its accounting purpose, it has shown the proportionate interest entitled to receive on the Government securities - the income which has become due and payable should alone be considered as income accrued and that should be offered as tax - The fact that the assessee in its internal books of accounting mentions the proportionate interest, which is entitled to receive, in its balance sheet for the purpose of profit and loss cannot be deemed as income accrued, unless such income has become due and payable there was no inconsistency between the amended provisions of Sections 145 and 5 of the I.T. Act - the amended provisions of Sections 145 now insists mercantile system of accounting where on the income accrued the tax can be levied whether or not received unlike in cash system - Merely because in the books of account, the interest income, which is not due and payable is shown in the account of the assessee Decided against revenue. Expenses to be allotted to exempted income Held that - Following the decision in M/s CANARA BANK Versus THE ASST COMMISSIONER OF INCOME TAX, CIT & DCIT. 2014 (1) TMI 1586 - KARNATAKA HIGH COURT - the income is derived by the dividends u/s. 10(33) of the Act and interest on tax free bonds u/s. 10(15)(h) of the Act and interest on long term finance to infrastructure companies u/s. 10(23G) of the Act - the persons with whom the amounts are invested by the assessee are crediting the aforesaid amount to the assessee s account by way of a bank transfer - no human agency is involved in collecting these dividends and interest for which the assessee has to incur any expenditure - when the assessee has not incurred any expenditure for realizing this income, the question of holding that 2% of the gross total income is an expenditure and that has to be added back to the income is unsustainable in law Decided against revenue. Interpretation of Section 36(1)(vii) and Section 36(1)(viia) Held that - The authorities did not have the benefit of judgment delivered by the SC in Catholic Syrian Bank Ltd. Versus Commissioner of Income Tax, Thrissur 2012 (2) TMI 262 - SUPREME COURT OF INDIA thus, the matter is remitted back to the assessing authority with a direction to decide the aspect in the terms of the judgment of the Hon ble Supreme Court.

Summary

Issues:
1. Dual method of accounting for book profits and taxable income.
2. Allocation of expenditure to exempted income.
3. Allowability of bad debts deduction under Section 36(1)(vii) of the Act.

Issue 1: Dual method of accounting for book profits and taxable income
The Revenue raised the issue of whether the Appellate Authorities were correct in reversing the finding of the Assessing Officer regarding the assessee following a dual method of accounting for book profits and taxable income. The Court referred to a previous judgment in the case of CIT v. Karnataka Bank Ltd., where it was clarified that income must be accrued or deemed to have been accrued to be liable to tax. The Court emphasized that interest must become due and payable to be considered accrued income. The Court highlighted that the Assessing Officer cannot tax interest income that is not due and payable. The judgment favored the assessee, stating that the interest shown in the balance sheet for the broken period cannot be considered accrued income unless it has become due and payable. Therefore, the substantial question of law was answered in favor of the assessee.

Issue 2: Allocation of expenditure to exempted income
The second issue involved whether expenditure can be allocated to exempted income earned by the assessee. The Court referenced the case of Canara Bank v. Asstt. CIT, where it was held that if no expenditure is incurred in earning dividend income, no notional expenditure can be deducted. The Court noted that advancements in technology like online transactions have eliminated the need for human agency in collecting certain incomes, leading to no expenditure being incurred. The judgment emphasized that when no expenditure is incurred for realizing income, holding a percentage of the gross total income as expenditure is unsustainable. The substantial question of law was answered in favor of the assessee based on this interpretation.

Issue 3: Allowability of bad debts deduction under Section 36(1)(vii) of the Act
The third issue pertained to the interpretation of Section 36(1)(vii) and Section 36(1)(viia) of the Act regarding the allowance of bad debts deduction. The Court noted that the authorities did not consider a relevant judgment of the Hon'ble Apex Court on this matter. The interpretation given by the authorities was found to be inconsistent with the Apex Court's judgment. Therefore, the impugned orders on this issue were set aside, and the matter was remanded back to the assessing authority for a decision in line with the Supreme Court's judgment. The Court directed the assessing authority to decide the matter based on the Supreme Court's ruling in the case of Catholic Syrian Bank Ltd.

In conclusion, the judgment addressed three substantial questions of law raised by the Revenue, providing detailed analysis and referencing relevant legal precedents to resolve each issue in favor of the assessee. The Court's interpretations emphasized the importance of accrual of income for tax liability, the allocation of expenditure to earned income, and the correct application of provisions regarding bad debts deduction under the Income Tax Act.