2010 (4) TMI 46 - SC - Income Tax

Bad debts written off deemed income u/s 41 - manner in which actual write off takes place under the Accounting principles - whether it is imperative for the assessee-Bank to close the individual account of each debtor in it s Books or a mere reduction in the Loans and Advances Account or Debtors to the extent of the provision for bad and doubtful debt is sufficient? Held that - Consequently after April 1 1989 a mere provision for bad debt would not be entitled to deduction under Section 36(1)(vii). To understand the above dichotomy one must understand how to write off . If an assessee debits an amount of doubtful debt to the profit and loss account and credits the asset account like sundry debtor s account it would constitute a write off of an actual debt. However if an assessee debits provision for doubtful debt to the profit and loss account and makes a corresponding credit to the current liabilities and provisions on the liabilities side of the balance-sheet then it would constitute a provision for doubtful debt. In the latter case the assessee would not be entitled to deduction after April 1 1989 There is no finding of the Assessing Officer that the assessee had unauthorisedly claimed the benefit of deduction under Section 36(1)(vii) twice over. The Order of the Assessing Officer is based on an apprehension that if the assessee fails to close each and every individual account of it s debtor it may result in assessee claiming deduction twice over. In this case we are concerned with the interpretation of Section 36(1)(vii) of 1961 Act. We cannot decide the matter on the basis of apprehensions/desirability. Firstly the Head Office Accounts clearly indicate in the present case that on repayment in subsequent years the amounts are duly offered for tax. Secondly one has to keep in mind that under the Accounting practice the Accounts of the Rural Branches have to tally with the Accounts of the Head Office. If the repaid amount in subsequent years is not credited to the Profit and Loss Account of the Head Office which is ultimately what matters then there would be a mis-match between the Rural Branch Accounts and the Head Office Accounts. Lastly in any event Section 41(4) of 1961 Act inter alia lays down that where a deduction has been allowed in respect of a bad debt or a part thereof under Section 36(1)(vii) of 1961 Act then if the amount subsequently recovered on any such debt is greater than the difference between the debt and the amount so allowed the excess shall be deemed to be profits and gains of business and accordingly chargeable to income tax as the income of the previous year in which it is recovered. In the circumstances we are of the view that the Assessing Officer is sufficiently empowered to tax such subsequent repayments under Section 41(4) of 1961 Act and consequently there is no merit in the contention that if the assessee succeeds then it would result in escapement of income from assessment. - Decided in favour of assessee.

Summary

Issues Involved:
1. Requirement for the assessee-Bank to close individual debtor accounts for bad debt write-off.
2. Sufficiency of reducing Loans and Advances or Debtors on the Balance Sheet for bad debt write-off.

Issue-wise Detailed Analysis:

1. Requirement for the assessee-Bank to close individual debtor accounts for bad debt write-off:

The primary question was whether the assessee-Bank needed to close each debtor's individual account in its books to write off bad debts or if reducing the Loans and Advances or Debtors on the Balance Sheet was sufficient. The Assessing Officer disallowed a significant sum, arguing that the bad debt was not written off correctly per accounting principles. The CIT(A) opined that it was unnecessary to pass entries in each debtor's individual account and that debiting the Profit and Loss Account and crediting the "Bad Debt Reserve Account" sufficed. The Tribunal upheld this view, stating that the write-off was valid as the provision was debited to the Profit and Loss Account, reducing the Loans and Advances or Debtors in the Balance Sheet.

The High Court, however, disagreed, relying on a previous judgment (Commissioner of Income Tax & Anr. vs. M/s. Wipro Infotech Limited), concluding that mere provision creation did not equate to an actual write-off post the insertion of the Explanation by the Finance Act, 2001. The Supreme Court, referencing Southern Technologies Limited vs. Joint Commissioner of Income Tax, clarified that post-April 1, 1989, a mere provision for bad debt does not qualify for deduction under Section 36(1)(vii). The Court emphasized that actual write-off requires debiting the Profit and Loss Account and reducing the corresponding amount from Loans and Advances or Debtors in the Balance Sheet.

2. Sufficiency of reducing Loans and Advances or Debtors on the Balance Sheet for bad debt write-off:

The Tribunal held that the assessee-Bank's method of debiting the Profit and Loss Account and reducing the Loans and Advances or Debtors on the Balance Sheet was sufficient for an actual write-off. The Supreme Court agreed, noting that the Bank had obliterated the provision from its accounts, showing the net amount of Loans and Advances or Debtors at the year-end. The Court highlighted that the Assessing Officer's insistence on closing each debtor's account was based on an apprehension of potential double deduction, which was not substantiated by any findings. The Court stated that the Assessing Officer could request details if there were reasonable grounds to suspect double deduction.

The Court also addressed the Department's argument that not closing individual accounts might lead to income escapement if repaid amounts were not credited to the Profit and Loss Account. The Court dismissed this concern, noting that the Head Office Accounts would reflect such repayments, ensuring no mis-match. Additionally, Section 41(4) of the Income Tax Act empowers the Assessing Officer to tax recovered amounts in subsequent years, mitigating the risk of income escapement.

Conclusion:

The Supreme Court upheld the Tribunal's judgment, allowing the assessee's appeals and setting aside the High Court's judgment. The Court confirmed that the assessee-Bank's method of write-off was valid under Section 36(1)(vii) of the Income Tax Act, 1961, and there was no requirement to close individual debtor accounts. The appeals were allowed with no order as to costs.