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Principal Commissioner of Income Tax-5 Versus Shri Mahila Sewa Sahakari Bank Ltd.

2016 (8) TMI 377 - GUJARAT HIGH COURT

Determination of tax liability - Interest on non performing assets - whether non taxable on accrual basis looking to the guidelines of the Reserve Bank of India? - Held that:- While determining the tax liability of an assessee, two factors would come into play. Firstly, the recognition of income in terms of the recognised accounting principles and after such income is recognised, the computation thereof, in terms of the provisions of the Income Tax Act, 1961. Insofar as the computation of taxabi .....

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r entered into a discussion on the provisions of The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002, which provides for enforcement of security interest of banks and financial institutions and has observed that in the instant case, no material has been brought on record by the assessee to prove its efforts made in a bid to recover such debts which are classified as NPA and other categories. The Assessing Officer has also entered into a discus .....

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y of the CBDT Circular dated 9.10.1984, the Commissioner (Appeals) held that the same would not be applicable for the reason that the provisions of section 43D of the Act are clear and cannot be overridden through delegated legislation viz. circulars and notifications. The Commissioner (Appeals) was further of the opinion that the statutory provisions were brought on the Act much later than the said circular (which was issued in 1984) and therefore the said circular would not have any effect or .....

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ve Bank of India - Decided in favour of the assessee and against the revenue - Tax Appeal No. 531 of 2015 - Dated:- 5-8-2016 - Harsha Devani And A. G. Uraizee, JJ. For the Appellant : Mr Mr Bhatt, Sr. Advocate With Mrs Mauna M Bhatt, Advocate For the Respondent : Mr Manish J Shah, Caveator JUDGMENT ( Per : Honourable Ms. Justice Harsha Devani ) 1. The appellant - revenue in this appeal under section 260A of the Income Tax Act, 1961 (hereinafter referred to as the Act ) has called in question .....

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lding that interest on non performing assets is not taxable on accrual basis looking to the guidelines of the Reserve Bank of India? 4. Having regard to the fact that at the admission stage itself, both the learned counsel had addressed the court on the merits at length, the appeal was taken up for final hearing. 5. The assessment year is 2010-2011 and the relevant accounting period is the previous year 2009-2010. The respondent assessee, a co-operative bank, filed its return of income for asses .....

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sessee. The assessee carried the matter in appeal before the Commissioner (Appeals), who upheld the order passed by the Assessing Officer. The assessee challenged the order of the Commissioner (Appeals) before the Tribunal, which allowed the appeal by deleting the interest. Being aggrieved, the revenue is in appeal. 6. Mr. M.R. Bhatt, Senior Advocate, learned counsel for the appellant, submitted that under section 5 read with section 28 of the Income Tax Act, the liability attaches to profits wh .....

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receive the interest on such assets. According to the learned counsel, insofar as the liability under the Income Tax Act, is concerned, the same is governed by the provisions of that Act and merely because for accounting purposes, the assessee is required to follow the RBI Guidelines, does not mean that the assessee is not liable to show the interest income that had accrued to it under the mercantile system of accounting. It was submitted that the case of the assessee has to be dealt with for th .....

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. Insofar as the interest on NPAs is concerned, the chances of recovery may be remote but since the NPAs are not classified as bad debts, and action has to be taken for recovery of such debt, the interest income accrued thereon is exigible to tax. 6.1 It was submitted that in view of catena of judgments, it can be safely contended that accounting principles cannot override the provisions of the Act. Reliance was placed upon the decision of the Supreme Court in the case of Tuticorin Alkali Chemic .....

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of profit made by a company or value of assets of a company. But when the question is whether a receipt of money is taxable or not or whether certain deductions from that receipt are permissible in law or not, the question has to be decided according to the principles of law and not in accordance with accountancy practice. Accounting practice cannot override section 56 or any other provision of the Act. It was submitted that there will be accrual of income if the right to receive money exists. I .....

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g transaction accrues or arises, even though income is not realised income embedded in the receipt is deemed to arise or accrue. Where the accounts are maintained on cash basis, receipt of money or money s worth and not the accrual of the right to receive is the determining factor. 6.2 Reliance was also placed upon the decision of the Supreme Court in the case of Indermani Jatia v. Commissioner of Income-Tax, U.P. (1959) 35 ITR 298. Reference was also made to the decision of the Supreme Court in .....

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nterest becomes due and the same can be paid to the assessee in accordance with law. The decision of the Supreme Court in the case of Keshao Mills v. Commissioner of Income-tax, Bombay, (1953) 23 ITR 230, was cited for the proposition that the primary object of the Income Tax Act is to tax and not to merely ascertain an income. The computation of the income-tax is subsidiary and is only for the purposes of ascertaining the quantum of tax. Therefore, if the legislature chooses to lay down differe .....

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isbursements are taken into account. In the former, sums which are due to the business are entered on the credit side immediately they are legally due and before they are actually received and expenditures are entered the moment a legal liability to pay arises before the actual disbursements. The profit or loss at the end of the accounting year is, therefore based, not on the difference between what was actually received and what was actually paid out, but on the difference between the right to .....

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ubmitted that in the facts of the present case, as the NPAs have not been written off, the right to receive interest thereon accrues to the assessee in the assessment year under consideration, and hence, the Assessing Officer was wholly justified in holding that the assessee is liable to pay tax on the interest on NPA. 6.3 Reference was made to the decision of the Supreme Court in the case of State Bank of Travancore, Trivandrum v. Commissioner of Income-Tax, Kerala, (1986) 158 ITR 102, wherein .....

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ual of income but once accrual takes place and the income accrues, the same cannot be defeated by any theory of real income. It was submitted that the Supreme Court is alive to the concept of real income, but that is at the stage of pre-accrual. Once there is accrual, the provisions of section 5 of the Act take over and the assessment would be on the basis of the accounting principle followed by the assessee. 6.4 It was submitted that the above decision came to be distinguished by the Supreme Co .....

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circular of 9th October, 1984, provides a test for recognising whether the claim for interest can be treated as a doubtful claim unlikely to be recovered or not. The test provided by the said circular is to see whether at the end of three years, the amount of interest has, in fact, been recovered by the bank or not. If it is not recovered for a period of three years, then in the fourth year and onwards, the claim for interest has to be treated as a doubtful claim which need not be included in t .....

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the relevant time when the circular was issued, section 43D of the Act was not on the statute book. Therefore, once the provision is enacted, the circular loses its force and that even if the circular were to apply, the applicability thereof would have to be ascertained. It was submitted that the assessee not being a non-banking financial corporation and in view of the insertion of section 43D of the Act, which clearly demarcates the classes of assessees entitled to the benefit of sticky loans, .....

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laced upon the decision of the Supreme Court in Southern Technologies Limited v. Joint Commissioner of Income-Tax, Coimbatore, (2010) 320 ITR 577, wherein the court has held that the RBI Directions, 1998 have nothing to do with the accounting treatment or taxability of income under the Income Tax Act, 1961 and the two, viz., the Income Tax Act, 1961 and the RBI Directions, 1998 operate in different fields. It was submitted that as per the said decision, so far as the liability to income tax is c .....

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er the Supreme Court, accrual itself did not occur, it would have remarked, while discussing the provisions of section 43D of the Act, that as there is no accrual itself, the said provisions itself is redundant. In fact, insertion of section 43D of the Act itself recognised recognition of taxability of such interest. 6.6 Reliance was placed upon the decision of the Madras High Court in Commissioner of Income Tax, Coimbatore v. Sakthi Finance Limited, (2013) 352 ITR 102, wherein the court by a ca .....

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come thereon. Accrual of interest is a matter of fact to be decided separately for each case on the basis of examination of the facts and circumstances. The same would require an assessment of the relevant facts and circumstances of each case. Only by assessment of facts and circumstances, the authority would arrive at a decision whether there is uncertainty of interest accrued on NPA. Only when there is uncertainty of realisability of income or interest income then it is not chargeable to tax. .....

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e of contending that the assessee is estopped from treating the investment as stock-in-trade. The court, placing reliance upon the decision of the Supreme Court in the case of Southern Technologies Limited (supra) held that a method of accounting adopted by the tax-payer consistently and regularly cannot be discarded by the departmental authorities on the view that he should have adopted a different method of keeping the accounts or on valuation. The court held that for the purpose of the Income .....

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uction or not will depend upon the provision of law relating thereto and not the way, in which the entries are made in the books of accounts. It is not decisive or conclusive in the matter. For the purpose of the Income-tax Act whichever method is adopted by the assessee, a true picture of the profits and gains, that is, real income is to be disclosed. 6.8 Reliance was also placed upon the decision of the Supreme Court in the case of P. Mariappa Gounder v. Commissioner of Income-Tax, Madras, (19 .....

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62 was rightly taxed in the assessment year 1963-64 and it was wholly irrelevant as to when the amount awarded was in fact realised by the assessee. The decision of the Supreme Court in the case of Commissioner of Income Tax, Orissa v. Kalinga Tubes Limited, (1996) 218 ITR 164, was cited wherein the court referred to its earlier decision in the case of Kedarnath Jute Manufacturing Company Limited and observed that the said decision clearly lays down the legal proposition that when the assessee i .....

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in the Income Tax Officer assessed income of the assessee including the special remuneration paid to the assessee which, however, was not paid on account of litigation and rejected the contention that no amount was due as extra remuneration in several years and that no income had accrued on account of such extra remuneration. The Supreme Court held that the assessee acquired the right to receive the extra remuneration of ₹ 15,000/- per annum on the basis of the resolution passed by the com .....

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d the right to receive that income by virtue of the resolution and not by virtue of the judgment which held the resolution to be valid. The court, accordingly, did not find any force in the contention that until the suit is finally decided by the court, no right is said to have accrued to the assessee. Reference was made to the decision of the Supreme Court in the case of KCP Limited v. Commissioner, Bangalore, (2000) 245 ITR 421, wherein, during the assessment year 1972-73, the appellant compan .....

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s retained in a separate account, that would not make any difference. Merely maintaining a separate account under a heading given by the assessee would not alter the nature of the receipt if it is actually a trading receipt. The court held that the transfer of the amount to the Sugar Equalisation Fund of the Government would not have any bearing on the taxability of the amount which was a trading receipt in the assessment year 1972-73. 6.10 The decision of the Supreme Court in the case of Commis .....

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ctually received; and it brings into debit expenditure the amount for which a legal liability is incurred before it is actually disbursed. The court held that if the Income Tax Officer comes to the conclusion that such a right accrued or arose to the assessee in a particular accounting year, he shall include the said income in the assessment of the succeeding assessment year. No power is conferred on the Income Tax Officer to relate back an income that accrued or arose in a subsequent year to an .....

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The concept of real income cannot be employed so as to defeat the provisions of the Act and the rules. Where the provisions of the Act and the rules apply, it is only those provisions which must be applied or followed. There is no room nor would it be permissible for the court to import the concept of real income so as whittle down, qualify or defeat the provisions of the Act and the rules. 6.12 Next it was submitted that the assessee being a cooperative bank does not fall under any of the categ .....

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nly those entities; therefore, section 43D of the Act would not be attracted in the present case. It was submitted that when a specific provision in the nature of section 43D of the Act has been made, and entities like the assessee are excluded from the purview thereof, the assessee cannot indirectly claim benefit which would amount to a benefit similar to that under section 43D of the Act. 6.13 It was also submitted that the Circular of 1984 is not applicable to the case at hand for more than t .....

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o more than what is intended. In this regard the attention of the court was invited to the findings recorded by the Commissioner (Appeals) in paragraph 3.10 of his order. 6.14 It was, accordingly, urged that the impugned order being not in consonance with the law laid down by the Supreme Court in the case of Southern Technologies Limited (supra) and the consistent view adopted by the Supreme Court, deserves to be quashed and set aside and the appeal deserves to be allowed. 7. Mr. J.P. Shah, lear .....

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it cannot be relied upon to determine whether the income has, in fact, resulted or materialised in favour of the assessee. It was submitted that as per the provisions of section 45Q of the RBI Act, the provisions of Chapter III-B thereof have an overriding effect over the provisions of all other laws. It was submitted that the RBI Guidelines having been issued under the said Chapter, would prevail over the provisions of the Income Tax Act, and accordingly, interest income in respect of NPA is t .....

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visions of section 145(1) of the Act and sections 209 and 211 of the Companies Act, the assessee was obliged to conform to the mandatory accounting methods and that the system of accounting followed by the assessee was in conformity with the accounting standards. It was submitted that the Supreme Court in Southern Technologies Limited (supra) has clearly recognised the theory of real income and held that notwithstanding that the assessee may be following the mercantile system of accounting, it c .....

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of the decision of the Supreme Court in Southern Technologies Limited (supra), it is clear that the Supreme Court has observed that insofar as permissible deductions or exclusions under the Act are concerned, the same are admissible only if such deductions/exclusions satisfy the relevant conditions stipulated therefor under the Act. However, the Supreme Court has made a distinction with regard to income recognition and held that income has to be recognised in terms of the prudential norms even .....

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supra) was dealing with a case of bad debt viz., section 36(1)(vii) of the Act. According to the learned counsel, the judgment is divisible in two parts: (i) real income theory, and (ii) if there is a provision governing a situation like deduction under section 36(1)(vii) of the Act, a portion is culled out to be governed by the statutory provision. It was submitted that when there is no real income in the case of the assessee, to non-suit him there has to be a provision to the contrary in the I .....

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accounting and in his accounts he shows a particular income as accruing, whether that amount is really accrued or not is liable to bring the said income to tax. His accounts should reflect true and correct statement of affairs. Merely because the said amount accrued was not realised immediately, cannot be a ground for avoiding payment of tax. But, if in his account, it is clearly stated that though a particular income is due to him but it is not possible to recover the same, then it cannot be s .....

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(Mad), for the proposition that if no income is recognised at all from an asset, there is no question of applying the principle of accrual. The principle of accrual of income comes into play only when the income is recognised. In the facts of the said case, the assessee had classified its assets on the basis of the notification issued by the Reserve Bank of India. From the non-performing assets, the assessee had not recognised any income and was justified in not recognising the income as such. T .....

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and not brought into the profit and loss account cannot be included in the income of the assessee till such time interest is not actually received. The court further observed that a similar view has been taken by the apex court in the case of Mercantile Bank Limited v. Commissioner of Income-Tax, (2006) 283 ITR 84. The court held that the principle laid down in the said decisions would be applicable to the said case as the respondent assessee was not obliged to provide for hire charges and leas .....

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n UCO Bank s case [1999] 237 ITR 889 (SC) was of the view that the circulars dated October 6, 1952 and October 9, 1984 were binding on the authorities under section 119(1) of the Act. The court was also of the view that the judges in State Bank of Travancore [1986] 158 ITR 102 (SC) did not have the occasion to consider the 1984 circular and proceeded on the assumption that the 1978 circular was in force. The court did not agree with the conclusion expressed by the majority in State Bank of Trava .....

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application of the Income Tax Act. 7.4 Reference was made to the decision of the Supreme Court in United Commercial Bank v. Commissioner of Income-Tax (supra), to point out that the court has held that the majority decision in the State Bank of Travancore v. Commissioner of Income-Tax (supra) cannot be looked upon as laying down that a circular which is properly issued under section 119 of the Act for proper administration of the Act and for relieving the rigour of too literal a construction of .....

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ived. The very fact that the assessee, although generally using a mercantile system of accounting, keeps such interest amounts in a suspense account and does not bring these amounts to the profit and loss account, goes to show that the assessee is following a mixed system of accounting by which such interest is included in its income only when it is actually received. Looking to the method of accounting so adopted by the assessee in such cases, the circulars which have been issued are consistent .....

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ide whether the interest income which is transferred to the suspense account is, in fact, arising in respect of a doubtful or sticky loan. This is done by providing that nonreceipt of interest for the first three years will not be treated as interest on a doubtful loan. But if after three years the payment of interest is not received, from the fourth year onwards it will be treated as interest on a doubtful loan and will be added to the income only when it is actually received. We do not see any .....

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ion 119 of the Income-tax Act. As such, the circular would be binding on the Department. It was submitted that the circular has not been revoked by the Board after the coming into force of section 43D of the Act and hence, the same is still operative and binding upon the income-tax authorities. Accordingly, even in terms of the circular the interest on NPA cannot be treated as income of the assessee, except in the year when it is actually received. 7.5 An unreported decision of the Bombay High C .....

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o the facts of that case and issues involved. Reliance was placed upon the decision of the Supreme Court in the case of Keshavlal Khemchand and Sons Private Limited and Others v. Union of India and Others, (2015) 4 SCC 770, wherein the court held thus:- 40. Regulation of the monetary system and banking business is one of the fundamental responsibilities of any modern State and essential for the economic and political stability of the State. The vast increase of commerce both national and the int .....

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banks but to various other financial institutions which are amenable to its jurisdiction. Such instructions given from time to time are consolidated annually and published in the form of Master Circulars . One of such Circular dated 30-8-2001 was taken note of by this Court in Mardia Chemicals. Incidentally, the authority of Reserve Bank to issue such instructions was considered by this Court in ICICI Bank Ltd. v. Official Liquidator, and this Court held that Reserve Bank did have such authority .....

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detail and promptitude of action. 7.6 Reliance was also placed upon the decision of the Supreme Court in the case of Commissioner of Income-Tax v. Excel Industries Limited, (2013) 358 ITR 295, for the proposition that if the same fundamental aspect permeates in different assessment years, it would not be appropriate to allow reconsideration of an issue for a subsequent year. It was submitted that the respondent has been following the practice of not showing the interest on NPA as its income on .....

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o warrant for interference by this court. 8. In rejoinder, Mr. M.R. Bhatt, learned counsel for the appellant submitted that insofar as the decision of the Supreme Court in the case of Commissioner of Income-Tax v. Excel Industries Limited (supra) is concerned, the same in fact goes against the assessee inasmuch as, the Supreme Court has held that income accrues when it becomes due but it must also be accompanied by a corresponding liability of the other party to pay the amount. Only then can it .....

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he orders passed by the authorities below as well as the decisions on which reliance has been placed by the learned counsel for the respective parties. 10. The facts as emerging from the record are that assessee filed return of income for assessment year 2010-11 on 30.09.2010 declaring total income of ₹ 1,55,66,430/- wherein it did not show interest income on non-performing assets. The assessment was picked up for scrutiny and notice came to be issued to the assessee under section 142(2) o .....

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hat in compliance of the circular no interest had been charged by it on NPA. It was further the case of the assessee that the interest if charged on NPA would further enhance the NPAs as recovery of the NPA amount is itself not certain. It was further stated that even under the Income Tax Act, 1961 such amount cannot be taxed since no interest has ever accrued nor has been charged. In this regard, reliance was placed upon the C.B.D.T. Circular bearing F.No.201/21/84-ITA-II dated 09.10.1984. 10.1 .....

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held that the assessee should have offered the interest on the NPAs as income for the assessment year under consideration and that even if due to the prudential norms of the RBI Act, the bank does not recognise it as income for the particular financial year in which it accrued but offers the same on actual receipt, as a remedial measure, in order to comply with the provisions of the Income Tax Act, 1961 - the assessee can prepare book of accounts under prudential norms of the RBI Act and can add .....

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hat there is no merit in the contention of the assessee that under commercial accounting, interest on NPAs cannot be charged. On the question of applicability of the CBDT Circular dated 9.10.1984, the Commissioner (Appeals) held that the same would not be applicable for the reason that the provisions of section 43D of the Act are clear and cannot be overridden through delegated legislation viz. circulars and notifications. The Commissioner (Appeals) was further of the opinion that the statutory .....

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liance was placed upon the decision of the Pune Bench of the Tribunal in the case of ACIT v. Omerga Janta Sahakari Bank Ltd. and decided the issue in favour of the assessee. The Tribunal in the relied upon decision referred to the decision of the Supreme Court in the case of Southern Technologies Limited (supra) as well as the decision of the Delhi High Court in Vasisth Chay Vyapar Ltd. (supra) and observed thus: 9. The Hon ble Supreme Court in the case of M/s Southern Technologies Ltd. (supra) .....

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tion principles in the Companies Act 1956. In so far as computation of income under the Income Tax Act is concerned, (which involves deduction of permissible deductions and exclusions) the admissibility of such deductions shall be governed by the provisions of the Income Tax Act. The relevant observations of the Hon ble Supreme Court are extracted below: Applicability of Section 145. At the outset, we may state that in essence RBI Directions 1998 are Prudential/ Provisioning Norms issued by RBI .....

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ate in different areas. These Directions 1998 have nothing to do with computation of taxable income. These Directions cannot overrule the "permissible deductions" or "their exclusion" under the IT Act. The inconsistency between these Directions and Companies Act is only in the matter of Income Recognition and presentation of Financial Statements. The Accounting Policies adopted by an NBFC cannot determine the taxable income. It is well settled that the Accounting Policies fol .....

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governed by the Reserve Bank of India. Hence, the directions with regard to the prudential norms issued by the Reserve Bank of India are equally applicable to the assessees as it is applicable to the companies registered under the Companies Act. The Hon ble Supreme Court in Southern Technologies Ltd. (supra), that the provision of 45Q of Reserve Bank of India Act has an overriding effect vis-a-vis income recognition principle under the Companies Act. Hence, section 45Q of the RBI Act shall have .....

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192 (SC), was inclined to follow the decision of the Delhi High Court which was favourable to the assessee. 11. From the rival submissions advanced by the learned counsel for the respective parties, it is evident that there is no dispute that the RBI Guidelines are applicable to the assessee. It is the case of the assessee that in view of the RBI Guidelines, it cannot charge interest on accrual basis and that following the theory of real income, taxability of any notional income like accrued in .....

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y, the income pertaining to such assets has not been considered as income by the assessee. In this background the question as to whether in view of the guidelines of the Reserve Bank of India, interest on non performing assets is taxable on accrual basis, is required to be considered. 13. The law in respect of various aspects touching the controversy in issue has been extensively dealt with in the above decisions on which reliance has been placed by the learned counsel for the parties. The earli .....

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ision in favour of the assessee by placing reliance upon the observations made in paragraph 40 of the decision, whereas the Madras High Court in Sakthi Finance Limited (supra) has interpreted the said decision against the assessee. 14. Before adverting to the above decisions, it may be germane to refer to the historical background in respect of the controversy in issue. It appears that right from August, 1924 the distinction between an irrecoverable loan and a sticky loan was recognised by the C .....

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ccount and if the banks, financial institutions and money lenders, who kept their accounts on mercantile system, maintained a suspense account in which the unrealized interest was entered, the same should not be included in the assessee s taxable income, if the Income Tax Officer was satisfied, that there was little probability of the loans being repaid. In State Bank of Travancore s case (supra) the assessee a subsidiary of the State Bank of India, used to maintain accounts on mercantile system .....

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credited the same to a separate account styled Interest suspense account as the principal amounts of these sticky advances themselves had become, not bad or irrecoverable but extremely doubtful of recovery. However, in its returns the assessee disclosed such interest separately and claimed that the same was not taxable in its hands as income for the concerned years. The contention of the assessee was rejected at all levels principally on two grounds (a) since admittedly the assessee was followi .....

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e defeated by any theory of real income. The court observed that with a problem like the present one, it is better to adhere to the basic fundamentals of the law with clarity and consistency than to be carried away by common clichés. The concept of real income certainly is well-accepted one and must be applied in appropriate cases but with circumspection and must not be called in aid to defeat the fundamental principles of law of income-tax as developed. 15. In UCO Bank, Calcutta v. CIT ( .....

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aining to doubtful loans as not real income in the year in which it accrues, but only when it is realised. A mixed method of accounting is thus followed by the assessee Bank. This method of accounting adopted by the assessee is in accordance with accounting practice. Xxxx 6. The assessee s method of accounting, therefore, transferring the (sic interest on) doubtful debt to an interest suspense account and not treating it as profit until actually received is in accordance with accounting practice .....

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on such basis as the Income Tax Officer may determine. In the present case the method employed is entirely for a proper determination of income. 10. The question whether interest earned, on what have come to be known as sticky loans, can be considered as income or not until actual realization, is a question which may arise before several Income Tax Officers exercising jurisdiction in different parts of the country. Under the accounting practice, interest which is transferred to the suspense acc .....

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nsidered as travelling beyond the powers of the Board under Section 119 of the Income Tax Act. Such a circular is binding under Section 119. The circular of 9- 10-1984, therefore, provides a test for recognising whether a claim for interest can be treated as a doubtful claim unlikely to be recovered or not. The test provided by the said circular is to see whether at the end of three years, the amount of interest has, in fact, been recovered by the bank or not. If it is not recovered for a period .....

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ent directly deals with interest on sticky advances which have been debited to the customer but taken to the interest suspense account by a banking company. The majority judgment has referred to the circular of 6-10-1952 and its withdrawal by the second circular of 20-6-1978. The majority appears to have proceeded on the basis that by the second circular of 20-6-1978 the Central Board had directed that interest in the suspense account on sticky advances should be includible in the taxable income .....

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not have been deviated from. Negativing this contention, the Court said that the question of how far the concept of real income enters into the question of taxability in the facts and circumstances of the case, and how far and to what extent the concept of real income should intermingle with the accrual of income, will have to be judged in the light of the provisions of the Act, the principles of accountancy recognised and followed and the feasibility . The Court said that the earlier circulars .....

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84 was not pointed out to the Court, the Court naturally proceeded on the assumption that the benefit granted under the earlier circular was no longer available to the assessee and those circulars could not be resorted to for the purpose of overcoming the provisions of the Act. Interestingly, the concurring judgment of the second Judge has not dealt with this question at all but has decided the matter on the basis of other provisions of law. 15. The said circulars under Section 119 of the Income .....

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tain situations by applying a beneficial interpretation to the provision in question so as to benefit the assessee and make the application of the fiscal provision, in the present case, in consonance with the concept of income and in particular, notional income as also the treatment of such notional income under accounting practice. 16. In the premises the majority decision in State Bank of Travancore v. CIT cannot be looked upon as laying down that a circular which is properly issued under Sect .....

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clarifies the way in which these amounts are to be treated under the accounting practice followed by the lender. The circular, therefore, cannot be treated as contrary to Section 145 of the Income Tax Act or illegal in any form. It is meant for a uniform administration of law by all the Income Tax Authorities in a specific situation and, therefore, validly issued under Section 119 of the Income Tax Act. As such, the circular would be binding on the Department. 16. In Mercantile Bank Ltd. v. CIT .....

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ount would be decided in the light of the Board s earlier circular dated 6-10- 1952 as the said circular was withdrawn only in June 1978. With effect from 1979-80 the new procedure prescribed under the 1984 circular would apply. The procedure prescribed is not relevant for our purposes. But it is clear that the circular issued in 1978 was effectively set aside and rendered ineffective. 7. The Court in UCO Bank case was of the view that these circulars dated 6-10-1952 and 9-10-1984 were binding o .....

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ct; the question is whether the circular seeks to mitigate the rigour of a particular section for the benefit of the assessee in certain specified circumstances. So long as such a circular is in force it would be binding on the departmental authorities in view of the provisions of Section 119 to ensure a uniform and proper administration and application of the Income Tax Act. 8. Therefore, the assessment year in question in this appeal should have been dealt with by the Department in accordance .....

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nancial year of the appellant was July to June and the P&L account and the balance sheet were drawn as on 30th June. The P&L account and balance sheet was for the shareholders, Reserve Bank of India (RBI) and Registrar of Companies (ROC) under the Companies Act, 1956. However, for the IT Act, a separate P&L account was made out for the year ending 31st March and the balance sheet as on that date was prepared and submitted to the Assessing Officer for computing the total income under .....

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r NPA of ₹ 81,68,516. Before the Assessing Officer, the assessee claimed deduction in respect of ₹ 81,68,516 under section 36(1)(vii) being provision for NPA in terms of the RBI Directions, 1998 on the ground that the assessee had to debit the said amount to the P&L account [in terms of Para 9(4) of the RBI Directions] reducing its profits, contending it to be a write-off. In the alternative, the assessee submitted that consequent upon the RBI Directions, 1998 there has been dimi .....

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rt, hence, civil appeal(s) came to be filed before the Supreme Court by the NBFCs. The court, on an analysis of the RBI Directions, 1998 observed thus: Analysis of Para 9 of the RBI Directions, 1998 34. Vide Para 9, RBI has mandated that every NBFC shall disclose in its balance sheet the provision without netting them from the income or from the value of the assets and that the provision shall be distinctly indicated under the separate heads of accounts as: (i) provisions for bad and doubtful de .....

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d advances in the books of NBFC. For creating a provision the only yardstick is default in terms of the loan under the RBI norms, a provision is mathematical calculation on time lines. The entire exercise mentioned in the RBI Directions, 1998 is only in the context of presentation of NPA provisions in the balance sheet of an NBFC and it has nothing to do with computation of taxable income or accounting concepts. 35. It is important to note that the net profit shown in the P&L account is the .....

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nance Act (No. 2) of 2001 w.e.f. 1- 4-1989 insofar as Section 36(1)(vii) is concerned 36. Prior to 1-4-1989, the law, as it then stood, took the view that even in cases in which the assessee(s) makes only a provision in its accounts for bad debts and interest thereon and even though the amount is not actually written off by debiting the P&L account of the assessee and crediting the amount to the account of the debtor, the assessee was still entitled to deduction under Section 36(1)(vii). (Se .....

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before 1-4-1989, even a provision could be treated as a write-off. However, after 1-4-1989, a distinct dichotomy is brought in by way of the said Explanation to Section 36(1)(vii). Consequently, after 1-4-1989, a mere provision for bad debt would not be entitled to deduction under Section 36(1)(vii). 37. To understand the above dichotomy, one must understand how to write off . If an assessee debits an amount of doubtful debt to the P&L account and credits the asset account like sundry debto .....

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ending 31- 3-2003. On examination of Schedule J to the P&L account which refers to operating expenses, we find two distinct heads of expenditure, namely, provision for non-performing assets and bad debts/advances written off . It is for the appellant(s) to explain the difference between the two to the assessing officer. Which of the two items will constitute expenditure under the IT Act has to be decided according to the IT Act. In the present case, we are not concerned with taxability under .....

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s and then deducted from the list as provision for doubtful debts . However, these are matters of presentation of provisions for doubtful debts even under the Companies Act and have nothing to do with taxability under the IT Act. 43. As stated above, the Companies Act allows an NBFC to adjust a provision for possible diminution in the value of assets or provision for doubtful debts against the assets and only the net figure is allowed to be shown in the balance sheet, as a matter of disclosure. .....

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and insist that NBFCs should follow cash system in regard to such incomes. 44. Before concluding on this point, we need to emphasise that the 1998 Directions have nothing to do with the accounting treatment or taxability of income under the IT Act. The two viz. the IT Act and the 1998 Directions operate in different fields. 45. As stated above, under the mercantile system of accounting, interest/hire charges income accrues with time. In such cases, interest is charged and debited to the account .....

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o account due to uncertainty in collection of the income. It is for the assessing officer to accept the claim of the assessee under the IT Act or not to accept it in which case there will be add back even under real income theory as explained hereinbelow. 47. Prior to the RBI Directions, 1998, advances were stated net of provisions for NPAs/bad and doubtful debts. They were shown at net figure (advances less provisions for NPAs) and the amount of provision for NPA was shown in the notes to the a .....

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RBI has taken a position as a matter of disclosure, with which we agree, that if an NBFC deducts a provision for NPA from sundry debtors/loans and advances , it would amount to netting from the value of assets which would constitute breach of Para 9 of the RBI Directions, 1998. Consequently, NPA provisions should be presented on the liabilities side of the balance sheet under the head current liabilities and provisions as a disclosure norm and not as accounting or computation of income norm und .....

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on is in effect a write-off. Therefore, in our view, the RBI Directions, 1998, though deviate from the accounting practice as provided in the Companies Act, do not override the provisions of the IT Act. 50. The question still remains as to what is the nature of provision for NPA in terms of the RBI Directions, 1998. In our view, provision for NPA in terms of the RBI Directions, 1998 does not constitute expense on the basis of which deduction could be claimed by NBFCs under Section 36(1)(vii). Pr .....

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gular writeoff and a prudential write-off. (See Advanced Accounts by Shukla, Grewal and Gupta, Ch. 26, p. 26.50.) If one keeps these concepts in mind, it is very clear that the RBI Directions, 1998 are merely prudential norms. They can also be called as disclosure norms or norms regarding presentation of NPA provisions in the balance sheet. They do not touch upon the nature of expense to be decided by the AO in the assessment proceedings. 55. The point to be noted is that the IT Act is a tax on .....

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amp;L account under the 1998 Directions is only a notional expense and, therefore, there would be add back to that extent in the computation of total income under the IT Act. 56. One of the contentions raised on behalf of NBFCs before us was that in this case there is no scope for add back of the provision against NPA to the taxable income of the assessee. We find no merit in this contention. Under the IT Act, the charge is on profits and gains, not on gross receipts (which, however, has profits .....

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e Act. Therefore, even applying the theory of real income, a debit which is expressly disallowed by Explanation to Section 36(1) (vii), if claimed, has got to be added back to the total income of the assessee because the said Act seeks to tax the real income which is income computed according to ordinary commercial principles but subject to the provisions of the IT Act. Under Section 36(1)(vii) read with the Explanation, a write-off is a condition for allowance. If real profit is to be computed .....

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virtue of Section 45-Q, an overriding effect is given to the RBI Directions, 1998 vis-à-vis income recognition principles in the Companies Act, 1956. These Directions constitute a code by itself. However, these RBI Directions, 1998 and the IT Act operate in different areas. These RBI Directions, 1998 have nothing to do with computation of taxable income. These Directions cannot overrule the permissible deductions or their exclusion under the IT Act. The inconsistency between these Direct .....

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as far as income recognition is concerned, Section 145 of the IT Act has no role to play in the present dispute. On a close reading of the above decision it appears that in the facts of the said case, the assessee, after making provision for NPA had sought deduction of such amount under section 36(1) (vii) of the Act and alternatively claimed deduction under section 37 of the Act. Clearly, therefore, deduction was sought of an amount which was shown as income in the earlier years. In the presen .....

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ue is required to be considered by this court. 19. Section 45Q of the RBI Act, which is relevant for the present purpose, reads thus: 45-Q. Chapter III-B to override other laws.-The provisions of this Chapter shall have effect notwithstanding anything inconsistent therewith contained in any other law for the time being in force or any instrument having effect by virtue of any such law. 20. Section 45Q finds place in Chapter IIIB of the RBI Act. Thus, the provisions of Chapter IIIB of the RBI Act .....

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ognition is concerned, clause 4.1.1 of the circular provides that the policy of income recognition has to be objective and based on the record of recovery. Income from non-performing assets (NPA) is not recognised on accrual basis but is booked as income only when it is actually received. Therefore, banks should not take to income account interest on non-performing assets on accrual basis. Thus, in view of the mandate of the RBI Guidelines the assessee cannot recognise income from non-performing .....

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on of total income under the IT Act or with the accounting treatment. The 1998 Directions only lay down the manner of presentation of NPA provision in the balance sheet of an NBFC. The court has referred to the deviations between the RBI Directions and the Companies Act as follows: 42. Broadly, there are three deviations: (i) in the matter of presentation of financial statements under Schedule VI to the Companies Act; (ii) in not recognising the income under the mercantile system of accounting a .....

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and provisions created against them. Thus, the P&L account prepared by NBFC in terms of the RBI Directions, 1998 does not recognise income from NPA and, therefore, directs a provision to be made in that regard and hence an add back . It is important to note that add back is there only in the case of provisions. [Emphasis supplied] 22. Therefore, in terms of the above decision, where an assessee makes provision for NPA and seeks deduction of such amount under section 36(1)(vii) or section 37 .....

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financial accounts. They force the NBFCs to reflect true and correct profits. By virtue of Section 45-Q, an overriding effect is given to the RBI Directions, 1998 vis-à-vis income recognition principles in the Companies Act, 1956. These Directions constitute a code by itself. However, these RBI Directions, 1998 and the IT Act operate in different areas. These RBI Directions, 1998 have nothing to do with computation of taxable income. These Directions cannot overrule the permissible deduc .....

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to follow the RBI Directions, 1998 in view of Section 45-Q of the RBI Act. Hence, as far as income recognition is concerned, Section 145 of the IT Act has no role to play in the present dispute. Thus, insofar as income recognition is concerned, the court has held that even the Assessing Officer has to follow the RBI Directions, 1998 in view of section 45Q of the RBI Act and that as far as income recognition is concerned, section 145 of the Income Tax Act, has not role to play. 23. In the light o .....

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play. However, recognition of income stands on a different footing. Insofar as income recognition is concerned, it would be the RBI Directions which would prevail in view of the provisions of section 45Q of the RBI Act and section 145 would have no role to play. Hence, the Assessing Officer has to follow the RBI Directions. 24. The Delhi High Court in Commissioner of Income-tax v. Vasisth Chay Vyapar Ltd., (2011) 330 ITR 440 (Delhi), has in the context of a similar issue arising in the case of .....

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isions of Income Tax Act and to examine as to whether in the given circumstances, interest income has accrued to the assessee. It is stated at the cost of repetition that admitted position is that the assessee had not received any interest on the said ICD placed with Shaw Wallace since the assessment year 1996-97 as it had become NPAs in accordance with the Prudential norms which was entered in the books of accounts as ITA 139/2008,ITA 466/2008, ITA 537/2008,ITA 408/2003 well. The assessee has f .....

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of Shaw Wallace. What to talk of interest, even the principal amount itself had become doubtful to recover. In this scenario it was legitimate move to infer that interest income thereupon has not "accrued". We are in agreement with the submission of Mr. Vohra on this count, supported by various decisions of different High Courts including this court which has already been referred to above. (2) In the instant case, the assessee company being NBFC is governed by the provisions of RBI Ac .....

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t the Court has held that RBI Act does not override the provisions of the Income Tax Act. However, when we examine the issue involved therein minutely and deeply in the context in which that had arisen and certain observations of the Apex Court contained in that very judgment, we find that the proposition advanced by Mr. Sabharwal may not be entirely correct. In the case before the Supreme Court, the assessee a NBFC debited Rs. 81,68,516 as provision against NPA in the profit and loss account, w .....

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court centered around deductibility of provision for NPA. After analyzing the provisions of the RBI Act, their Lordships of the Apex Court observed that in so far as the permissible deductions or exclusions under the Act are concerned, the same are admissible only if such deductions/exclusions satisfy the relevant conditions stipulated therefor under the Act. To that extent, it was observed that the Prudential Norms do not override the provisions of the Act. However, the Apex Court made a disti .....

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ed by the NBFC cannot determine the taxable income. However, insofar as income recognition is concerned, the Assessing Officer has to follow the RBI Directions, 1998 in view of section 45Q of the RBI Act. That insofar as income recognition is concerned, section 145 of the Income Tax Act, 1961 has not role to play. 26. In Commissioner of Income-tax v. Sakthi Finance Limited, (supra), the Madras High Court was dealing with a similar issue in relation to a non-banking financial institution. The cou .....

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the claim of the assessee under the Income-tax Act or not to accept. In case of Southern Technologies Limited, (2010) 320 ITR 577, the Assessing Officer accepted the assessee's case towards non-recognition of interest for ₹ 20.34 lakhs as would be apparent from a reading of Paragraph No.31 of the Judgment of the Hon'ble Supreme Court in case of Southern Technologies Limited, (2010) 320 ITR 577. By a careful reading of the case of Southern Technologies Limited, (2010) 320 ITR 577, w .....

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each case on the basis of examination of the facts and circumstances. The same would require an assessment of the relevant facts and circumstances of each case. Only by assessment of facts and circumstances, the Authority could arrive at a decision whether there is uncertainity of the interest accrued on NPA. Only when there is uncertainity of realizability of income or interest income then it is not chargeable to tax. The system of accounting followed only recognises it bringing the income to b .....

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a v. CIT (supra) has held that such circulars are not meant for contradicting or nullifying any provision of the statute. They are meant for proper administration of the statute, they are designed to mitigate the rigours of the application of a particular provision of the statute in certain situations by applying a beneficial interpretation to the provision in question so as to benefit the assessee and make the application of the fiscal provision, in that case, in consonance with the concept of .....

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d to the benefit thereof. Merely because by virtue of the provisions of section 43D of the Act, a certain class of assessees is given benefit under the provisions of the Act would not mean that the same would override the circular. 29. On behalf of the appellant it has been contended that section 43D of the Act itself recognises recognition of taxability of such interest and that when a specific provision in the nature of section 43D of the Act has been made, and entities like the assessee are e .....

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ions of Chapter IIIB thereof have an overriding effect over other laws including the Income Tax Act, 1961. Therefore, notwithstanding the provisions of section 43D of the Act, since the provisions of section 45Q of the RBI Act have an overriding effect vis-à-vis income recognition principles in the Companies Act, the Assessing Officer is bound to follow the RBI Directions so far as income recognition is concerned. The contention that the assessee cannot indirectly claim the benefit which .....

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Act for all banking and non banking financial companies stating that if the interest has not been received for three years, the same will not be taxed as an income even on accrual basis even if interest has been credited to Interest Suspense Account would be applicable in its case. The Assessing Officer brushed aside the submission based upon the circular of 1984, on the ground that the same is applicable only to banking companies and not to cooperative banks, on a misconception of law that a co .....

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ties as they apply to, or in relation to banking companies subject to the modifications stated thereunder. Clause (a) of section 56, to the extent the same is relevant for the present purpose, provides that throughout the Act, unless the context otherwise requires, - (i) references to a banking company or the company or such company shall be construed as references to a co-operative bank. Section 2(i) of the RBI Act provides that co-operative bank , co-operative credit society , director , prima .....

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