Accounting method and bank tax treatment: sticky-loan interest, securities valuation, and bad-debt deduction principles

Business income is to be computed on the method of accounting regularly employed by the assessee, and that method may be displaced only where income cannot properly be deduced from it. On that basis, sticky-loan interest was treated on a cash basis under the bank's consistent hybrid accounting practice. Securities held by the bank were treated as trading stock, and valuation could not be switched in tax computation while the books continued to reflect cost. The text also states that the bad-debt provision deduction under section 36(1)(viia) was independent of actual write-off, subject to exclusion of sticky-loan interest already kept out of the debtors' accounts.

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Issues: (i) whether interest on sticky loans could be excluded from accrual taxation where the bank followed a regular hybrid system of accounting; (ii) whether shares and securities held by a bank could be treated as stock-in-trade and whether their valuation could be altered only in the return while the books continued to reflect cost; (iii) whether deduction under section 36(1)(viia) required actual write-off of bad debts; (iv) whether deduction under section 80M had to be recomputed by reducing only actual expenditure and not estimated expenditure; (v) whether earlier years' expenses and the penalty under section 273 required reconsideration in the light of the final tax determination.

Issue (i): whether interest on sticky loans could be excluded from accrual taxation where the bank followed a regular hybrid system of accounting

Analysis: The method of accounting regularly employed by an assessee is relevant for computation of business income, and it can be disturbed only if income cannot properly be deduced therefrom. The bank had consistently treated interest on doubtful recoveries on a cash basis while following mercantile accounting for ordinary advances. That treatment was supported by accepted banking practice and the accounting standard referred to in the order. The facts were treated as distinguishable from the precedent relied on by the Revenue because the interest on sticky loans was not debited on accrual in the first place.

Conclusion: The additions made on accrual basis in respect of sticky loans were deleted and the issue was decided in favour of the assessee.

Issue (ii): whether shares and securities held by a bank could be treated as stock-in-trade and whether their valuation could be altered only in the return while the books continued to reflect cost

Analysis: The bank's own books consistently valued the securities at cost, which is a recognised method of valuation. The jurisdictional High Court ruling relied upon by the Tribunal indicated that a taxpayer cannot, after maintaining one method in the accounts, claim a different basis only for tax purposes unless the book method itself is such that income cannot properly be deduced. The Tribunal also rejected the attempted distinction between older and later purchases and held that all such holdings formed part of the trading stock of the bank.

Conclusion: The assessee could not claim valuation at cost or market price whichever is lower for tax purposes while the books reflected cost alone, and the issue was decided against the assessee in part and in favour of the Revenue in part, subject to consequential recomputation treating all securities as stock-in-trade.

Issue (iii): whether deduction under section 36(1)(viia) required actual write-off of bad debts

Analysis: The deduction under section 36(1)(viia) was treated as an independent allowance for provision for bad and doubtful debts, and the Tribunal did not accept the insistence on a corresponding write-off in the debtors' accounts as a precondition. At the same time, interest on sticky loans not brought into the debtors' accounts on cash basis was to be excluded while computing the deduction to prevent duplication.

Conclusion: The assessee was held entitled to the statutory deduction without the insistence on actual write-off, subject to exclusion of interest on sticky loans not adjusted in the books, and the issue was decided in favour of the assessee.

Issue (iv): whether deduction under section 80M had to be recomputed by reducing only actual expenditure and not estimated expenditure

Analysis: The record was insufficient to decide the factual basis on which dividend income was earned and the extent of expenditure attributable to such income. The Tribunal therefore did not finally accept either side's computation and directed a fresh examination with opportunity to place relevant facts and submissions before the Assessing Officer.

Conclusion: The matter was restored for recomputation and was left open for fresh determination.

Issue (v): whether earlier years' expenses and the penalty under section 273 required reconsideration in the light of the final tax determination

Analysis: The claim for earlier years' expenses was not rejected as a matter of principle; instead, the assessee was to be given an opportunity to substantiate the liability and the year of crystallisation. The penalty under section 273 was directed to be re-examined after giving effect to the relief granted in the connected assessment year.

Conclusion: These matters were remitted for reconsideration and consequential action.

Final Conclusion: The common appeals were allowed to the extent of deletion of additions on sticky loans and grant of relief on the bad-debt deduction, while the valuation of securities, dividend deduction computation, earlier years' expenses, and penalty-related issues were either decided against the assessee or sent back for fresh determination, resulting in only partial relief overall.

Ratio Decidendi: Income from business must be computed on the basis of the method of accounting regularly employed by the assessee, and a recognised accounting method cannot be displaced unless it is shown that income cannot properly be deduced from it.

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