Accrued Interest Under Mercantile Accounting Is Taxable On Accrual, Not When Booked

Accrued interest under the mercantile system is taxable on accrual, even if the assessee does not debit it in the books for that year. An assessee cannot selectively depart from a regularly followed accounting method for one transaction while the underlying right to receive the income remains alive. If income later proves irrecoverable, the proper remedy lies in the statutory bad-debt mechanism, not in excluding accrued income from assessment. The debtor's financial condition is not material to the immediate question of accrual. On these principles, the interest was includible in total income.

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Issues: Whether interest that had accrued on a loan could be excluded from taxable income merely because the assessee chose not to debit it in the books for the relevant accounting year despite following the mercantile system of accounting.

Analysis: Under the Income-tax Act, 1922, income must be computed in accordance with the method of accounting regularly employed by the assessee. Where the mercantile system is adopted, income is assessable on accrual and not on actual receipt. The assessee cannot, unilaterally during the accounting year, depart from that system in respect of a particular transaction while keeping the underlying right alive. Any relief for income that later becomes irrecoverable lies in the statutory provision for bad debts and not in excluding accrued income from assessment. The financial condition of the debtor was therefore not material to the immediate question of accrual.

Conclusion: The interest of Rs. 20,400 had accrued to the assessee during the previous year and was rightly included in the total income; the answer was against the assessee and in favour of the Revenue.

Ratio Decidendi: An assessee who regularly follows the mercantile system of accounting is bound to be assessed on accrued income, and cannot avoid tax on that income by declining to make a corresponding book entry during the accounting year.

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