Pr CIT vs. Shri Mahila Sewa Sahakari Bank Ltd (Gujarat High Court)

The High Court had to consider the following question of law at the instance of the department:

“Whether on the facts and in the circumstances of the case, the Income Tax Appellate Tribunal is right in law and on facts in holding that interest on non performing assets is not taxable on accrual basis looking to the guidelines of the Reserve Bank of India?”

HELD by the High Court dismissing the appeal:

(i) Section 45Q finds place in Chapter IIIB of the RBI Act. Thus, the provisions of Chapter IIIB of the RBI Act have an overriding effect qua other enactments to the extent the same are inconsistent with the provisions contained therein. In order to reflect a bank’s actual financial health in its balance sheet, the Reserve Bank has introduced prudential norms for income recognition, asset classification and provisioning for advances portfolio of the co-operative banks. The guidelines provided thereunder are mandatory and it is incumbent upon all cooperative banks to follow the same. Insofar as income recognition is concerned, clause 4.1.1 of the circular provides that the policy of income recognition has to be objective and based on the record of recovery. Income from non-performing assets (NPA) is not recognised on accrual basis but is booked as income only when it is actually received. Therefore, banks should not take to income account interest on non-performing assets on accrual basis. Thus, in view of the mandate of the RBI Guidelines the assessee cannot recognise income from non-performing assets on accrual basis but can book such income only when it is actually received. Thus, this is a case where at the threshold, the assessee, in view of the RBI Guidelines, cannot recognise income from NPA on accrual basis. This is, therefore, a case pertaining to recognition of income and not computation of the income of the assessee.

(ii) The Supreme Court in Southern Technologies Limited (supra) has held that the 1998 Directions are only disclosure norms and have nothing to do with computation of total income under the IT Act or with the accounting treatment. The 1998 Directions only lay down the manner of presentation of NPA provision in the balance sheet of an NBFC. The court has referred to the deviations between the RBI Directions and the Companies Act

(iii) Therefore, in terms of the above decision, where an assessee makes provision for NPA and seeks deduction of such amount under section 36(1)(vii) or section 37 of the Act, then in the computation of income, the RBI Guidelines would have no role to play, and hence, an add back. Insofar as income recognition is concerned, the Supreme Court has held thus:

“Applicability of Section 145 57. At the outset, we may state that in essence the RBI Directions, 1998 are prudential/provisioning norms issued by RBI under Chapter III-B of the RBI Act, 1934. These norms deal essentially with income recognition. They force the NBFCs to disclose the amount of NPA in their financial accounts. They force the NBFCs to reflect “true and correct” profits. By virtue of Section 45-Q, an overriding effect is given to the RBI Directions, 1998 vis-à-vis “income recognition” principles in the Companies Act, 1956. These Directions constitute a code by itself. However, these RBI Directions, 1998 and the IT Act operate in different areas. These RBI Directions, 1998 have nothing to do with computation of taxable income. These Directions cannot overrule the “permissible deductions” or “their exclusion” under the IT Act. The inconsistency between these Directions and the Companies Act is only in the matter of income recognition and presentation of financial statements. The accounting policies adopted by an NBFC cannot determine the taxable income. It is well settled that the accounting policies followed by a company can be changed unless the AO comes to the conclusion that such change would result in understatement of profits. However, here is the case where the AO has to follow the RBI Directions, 1998 in view of Section 45-Q of the RBI Act. Hence, as far as income recognition is concerned, Section 145 of the IT Act has no role to play in the present dispute.”

Thus, insofar as income recognition is concerned, the court has held that even the Assessing Officer has to follow the RBI Directions, 1998 in view of section 45Q of the RBI Act and that as far as income recognition is concerned, section 145 of the Income Tax Act, has not role to play.

(iv) In the light of the above discussion what emerges is that while determining the tax liability of an assessee, two factors would come into play. Firstly, the recognition of income in terms of the recognised accounting principles and after such income is recognised, the computation thereof, in terms of the provisions of the Income Tax Act, 1961. Insofar as the computation of taxability is concerned, the same is solely governed by the provisions of the Income Tax Act and the accounting principles have no role to play. However, recognition of income stands on a different footing. Insofar as income recognition is concerned, it would be the RBI Directions which would prevail in view of the provisions of section 45Q of the RBI Act and section 145 would have no role to play. Hence, the Assessing Officer has to follow the RBI Directions.

(v) The distinction drawn by the Delhi High Court Commissioner of Income-tax v. Vasisth Chay Vyapar Ltd., (2011) 330 ITR 440 (Delhi), is that while the accounting policies of adopted by the NBFC cannot determine the taxable income. However, insofar as income recognition is concerned, the Assessing Officer has to follow the RBI Directions, 1998 in view of section 45Q of the RBI Act. That insofar as income recognition is concerned, section 145 of the Income Tax Act, 1961 has not role to play.

(vi) In Commissioner of Income-tax v. Sakthi Finance Limited, (supra), the Madras High Court was dealing with a similar issue in relation to a non-banking financial institution. The court did not agree with the view adopted by the Delhi High Court in Commissioner of Income-tax v. Vasisth Chay Vyapar (supra)

(vii) For the reasons stated hereinabove, this court is in agreement with the view taken by the Delhi High Court.

(viii) In the light of the view adopted by the court, it is not necessary to enter into any detailed discussion as regards the applicability or otherwise of the CBDT Circular to the facts of the present case. The Supreme Court in UCO Bank, Calcutta v. CIT (supra) has held that such circulars are not meant for contradicting or nullifying any provision of the statute. They are meant for proper administration of the statute, they are designed to mitigate the rigours of the application of a particular provision of the statute in certain situations by applying a beneficial interpretation to the provision in question so as to benefit the assessee and make the application of the fiscal provision, in that case, in consonance with the concept of income and in particular, notional income as also the treatment of such notional income under the accounting practice. The court, accordingly, did not find any inconsistency or contradiction between the circular so issued and section 145 of the Income Tax Act. In the aforesaid premises, until the circular is revoked, the same continues to be in force and the same having been issued to mitigate the hardships caused to the class of assessees covered by the circular, such assessees would be entitled to the benefit thereof. Merely because by virtue of the provisions of section 43D of the Act, a certain class of assessees is given benefit under the provisions of the Act would not mean that the same would override the circular.