Non-performing asset interest is taxable on receipt basis, and bank provisions may qualify under the bad debt deduction rule.

For banks, interest on non-performing assets was held taxable only on actual receipt, applying the real income theory and RBI prudential norms; section 145 could not override that income-recognition framework, so the Revenue's addition failed. The Tribunal also held that a provision qualifying under section 36(1)(viia) for bad and doubtful debts was allowable even where it related to standard assets, because the deduction is available to the specified banking category and is not confined by that asset classification. The assessee succeeded on both issues and the Revenue's appeal was dismissed.

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Issues: (i) Whether interest on non-performing assets was taxable on accrual basis or only on receipt basis in the hands of a co-operative bank; (ii) Whether provision made against standard assets was allowable as a deduction under section 36(1)(viia) of the Income-tax Act, 1961.

Issue (i): Whether interest on non-performing assets was taxable on accrual basis or only on receipt basis in the hands of a co-operative bank.

Analysis: The Tribunal applied the real income theory and the settled principle that, for income recognition in respect of non-performing assets, the banking assessee had to follow RBI prudential norms. It noted that interest on doubtful advances does not constitute real income when recovery is not reasonably certain and that section 145 of the Income-tax Act does not override the mandatory income-recognition framework governing such assets. Reliance was placed on the consistent line of authority holding that interest on NPA accounts is taxable only on actual receipt.

Conclusion: The issue was decided in favour of the assessee and against the Revenue.

Issue (ii): Whether provision made against standard assets was allowable as a deduction under section 36(1)(viia) of the Income-tax Act, 1961.

Analysis: The Tribunal held that the statutory deduction for banks is for provision for bad and doubtful debts, and the allowance is not confined merely because the provision relates to standard assets. It treated the assessee's claim as falling within the main provision of section 36(1)(viia), observing that the deduction is available to the specified banking category and is not restricted by a rigid distinction between standard assets and bad assets for this purpose.

Conclusion: The issue was decided in favour of the assessee and against the Revenue.

Final Conclusion: The additions made by the Assessing Officer were deleted and the Revenue's appeal was dismissed.

Ratio Decidendi: For banks, interest on non-performing assets is assessable only when actually received, and a provision that falls within the statutory allowance for bad and doubtful debts under section 36(1)(viia) cannot be disallowed merely because it relates to standard assets.

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