1993 (5) TMI 172 - HC - Income Tax

High Court Upholds Spread-Out Income Treatment for Deferred Commission

Commissioner of Income-tax Versus Bank of Tokyo Ltd.

The High Court affirmed the Tribunal's decision that income from deferred guarantee commission should be spread over the relevant period and assessed ... - Issues Involved:1. Accrual of Income from Deferred Guarantee Commission2. Consistency in Method of Accounting3. Applicability of Section 145 of the Income-tax Act, 1961Summary:1. Accrual of Income from Deferred Guarantee Commission:The primary issue was whether the income from deferred guarantee commission accrued in the year the guarantee agreements were entered into or should be spread over the period to which the guarantee commission related. The assessee, a non-resident banking company, argued that the commission should be proportionately assessed over the period of the guarantee, as it followed the mercantile system of accounting. The Tribunal upheld this view, noting that the guarantee commission for the unexpired period should not be taxed in the year of receipt. The Tribunal referenced Rule 16 of the Foreign Exchange Dealers' Association of India Rules, which allows for the refund of commission if the guarantee is redeemed before the expiry period. The Tribunal found that the assessee-bank had been refunding the commission for the unexpired period in cases of premature revocation of the guarantee contract.2. Consistency in Method of Accounting:The assessee consistently followed the mercantile system of accounting, recording the guarantee commission in the books of account based on the period to which it related. This method had been accepted by the tax authorities up to the assessment year 1975-76. The Tribunal held that the tax authorities were not justified in deviating from this accepted method in subsequent years. The Tribunal emphasized that the system of accounting followed by the bank was bona fide and there was no evidence to show that it was defective. The Tribunal noted that the consistent method of accounting should be accepted as it allowed for the correct determination of profits.3. Applicability of Section 145 of the Income-tax Act, 1961:The Tribunal observed that under section 145(1) of the Act, the income-tax authorities were bound to accept the method of accounting consistently followed by the assessee. The Tribunal rejected the revenue's contention that the entire commission accrued at the time of entering into the guarantee agreement. It was held that the commission income should accrue year by year over the period of the debt repayment guaranteed. The Tribunal concluded that the right to receive the commission for the unexpired period was contingent upon the guarantee running its full course. The Tribunal's decision was supported by the observation that the commission, though payable at the outset, did not crystallize into a perfected right to receive until the expiry of the unexpired period.Conclusion:The High Court affirmed the Tribunal's decision, holding that the income from deferred guarantee commission should be spread over the period to which it related and assessed proportionately. The Court emphasized that the consistent method of accounting followed by the assessee should be accepted, and the accrual of income should be year by year over the period of the guarantee. The question was answered in the affirmative, in favor of the assessee and against the revenue, with no order as to costs.