Real income principle prevents taxation of NPA interest on accrual basis for a co-operative bank outside section 43D.

Interest on non-performing assets of a co-operative bank was held not to accrue for tax purposes on the mercantile system where the bank was outside section 43D but bound by RBI prudential norms. The Tribunal applied the real income principle and accepted that interest on doubtful advances does not arise as taxable income when recovery is uncertain. In the absence of a jurisdictional High Court ruling and faced with conflicting non-jurisdictional authorities, the view favourable to the assessee was adopted. The addition made on accrual basis was therefore deleted.

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Issues: Whether interest income relatable to non-performing assets of a co-operative bank not covered by section 43D of the Income-tax Act, 1961 was taxable on accrual basis in the relevant assessment year.

Analysis: The assessee was a co-operative bank governed by Reserve Bank of India prudential norms, but not a scheduled bank and therefore outside section 43D. The dispute was whether interest on NPAs had accrued during the year despite the mercantile system of accounting. The Tribunal accepted that, for income recognition, the RBI directions and the principle of real income governed the matter. Relying on the reasoning that interest on doubtful advances does not accrue where recovery itself is uncertain, and following the view adopted in the line of authorities considered by the CIT(A), the Tribunal held that the interest on NPAs could not be brought to tax on accrual basis. In the absence of a jurisdictional High Court decision and faced with conflicting non-jurisdictional views, the Tribunal adopted the view favourable to the assessee.

Conclusion: Interest income relatable to NPAs was not taxable on accrual basis and the addition was rightly deleted.

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