2025 (7) TMI 1774 - AT - Income Tax

Bad Debt Deduction Allowed Under Section 36(1)(vii) Despite Ongoing Recovery Efforts

The ITAT Mumbai allowed the assessee's claim for bad debt deduction under section 36(1)(vii), holding that the debt was effectively written off in the ... Disallowance of bad debt arising due to non-payment of amount by the debtor u/s 36 - Addition made as assessee had merely made a provision for doubtful debts and had not actually written off the debt in the books of account - HELD THAT:- Upon perusal of the ledger entries submitted before us and placed in the assessee’s paper book, we find that the assessee had indeed debited the profit and loss account and credited the debtor's account in its books, thereby effectively writing off the said amount, albeit under the caption “provision for doubtful debts.” In substance, the requirement of section 36(1)(vii) read with Explanation 1 thereto stands satisfied, as there is no condition prescribed in law regarding the nomenclature used for write-off, as long as the write-off is real and identifiable in the books. The assessee's claim is also supported by CBDT Circular No. 12/2016 dated 30.05.2016, which clarifies that if a bad debt is actually written off in the books of account, the claim shall be allowed, even if recovery efforts are ongoing or partially successful at a later stage. We also find that the observations of the AO regarding the absence of a formal court order for the settlement or the suspicion of a “concocted story” are baseless, as partial payments were, in fact, received—some through the court and others directly from the debtor—as evidenced by ledger entries. The revenuee has brought no material on record to controvert this factual matrix. We hold that the assessee has satisfied the statutory requirements under section 36(1)(vii) and the claim of bad debt is allowable. Assessee appeal allowed. ISSUES: Whether a debt written off as bad debt under section 36(1)(vii) of the Income-tax Act, 1961 is allowable as deduction when the write-off is recorded under the nomenclature 'provision for doubtful debts' instead of 'bad debts written off.'Whether the legal proceedings under section 138 of the Negotiable Instruments Act, 1881 and subsequent settlement affect the allowability of the bad debt deduction under section 36(1)(vii) of the Income-tax Act.Whether the absence of a formal court order approving the settlement of debt impacts the claim for bad debt deduction.Whether the Assessing Officer and Commissioner of Income Tax (Appeals) erred in disallowing the bad debt deduction on the ground that the debt was not actually written off in the books of account. RULINGS / HOLDINGS: On the issue of nomenclature, the Court held that 'there is no condition prescribed in law regarding the nomenclature used for write-off, as long as the write-off is real and identifiable in the books,' and therefore the use of 'provision for doubtful debts' instead of 'bad debts written off' does not disqualify the claim under section 36(1)(vii).Regarding the effect of legal proceedings and settlement, the Court found that the bad debt was 'actually written off in the books of account' and the subsequent partial recovery or settlement does not preclude allowance of the deduction, consistent with CBDT Circular No. 12/2016 dated 30.05.2016.The Court rejected the Assessing Officer's observations about the absence of a formal court order for the settlement as 'baseless,' noting that partial payments were received both through the Court and directly from the debtor, supported by ledger entries.The Court concluded that the Assessing Officer and CIT(A) erred in disallowing the claim solely on the ground that the debt was not written off, as the ledger accounts demonstrated that the amount was debited to the profit and loss account and credited to the debtor's account, satisfying the statutory requirement under section 36(1)(vii) read with Explanation 1. RATIONALE: The Court applied the statutory framework of section 36(1)(vii) of the Income-tax Act, 1961, which allows deduction for bad debts actually written off in the accounts of the assessee.The Court relied on the Explanation 1 to section 36(1)(vii), which does not prescribe any specific terminology for the write-off, focusing instead on the substance and reality of the write-off in the books.The Court considered CBDT Circular No. 12/2016 dated 30.05.2016, which clarifies that deduction for bad debts is allowable even if recovery efforts are ongoing or partially successful at a later stage.The Court noted the prior order of the Coordinate Bench directing the Assessing Officer to verify the actual write-off, and found that this verification was properly satisfied by the assessee's ledger entries.The Court rejected the Assessing Officer's reliance on the absence of a formal court order for settlement, emphasizing that settlements between debtor and creditor are business decisions and do not require judicial approval to affect tax treatment.No dissent or doctrinal shift was noted; the decision reaffirmed established principles regarding the allowability of bad debts under the Income-tax Act.