The Mayani Urban Co Op. Bank Ltd.,, ... vs Assessee

The Mayani Urban Co-op. Bank Ltd., A/p Mayani, Tal. Khanapur, Dist. Sangli. PAN : AAAAT7489H .... Appellant

Vs.

Income Tax Officer, Ward (3), Satara. .... Respondent

Assessee by : Mr. Nikhil Pathak Department by : Mr. B. C. Malakar Date of hearing : 09-02-2015 Date of pronouncement : 31-03-2015

ORDER

PER G. S. PANNU, AM

The captioned appeal by the assessee is directed against the order of

the Commissioner of Income Tax (Appeals)-III, Pune dated 09.11.2012 which,

in turn, has arisen from an order dated 16.09.2011 passed by the Assessing

Officer u/s 143(3) of the Income-tax Act, 1961 (in short "the Act") pertaining to

the assessment year 2009-10.

2. In this appeal, assessee has raised the following Grounds of Appeal :-

"1] The learned CIT(A) erred in confirming the disallowance of Rs.1,82,000/- made by the learned A.O. in respect of expenditure claimed in the nature of amortization of premium paid on Govt. securities classified as 'Held to Maturity' without appreciating that as per law, the addition is not justified.

1.1] The learned CIT(A) erred in holding that -

a. The Govt. securities classified by the assessee bank as 'Held to Maturity' were in the nature of capital assets and hence, the same had to be valued at cost.

b. The premium paid over and above the face value of the securities at the time of purchase was to be included as a part 2 ITA No.262/PN/2013

of the cost of securities as the said securities were in the nature of 'Held to Maturity' securities.

c. The RBI Guidelines do not override the Income Tax Act and hence, the treatment given by the assessee in the form of amortization of premium paid in respect of Govt. securities, though in line with the RBI Guidelines is not allowable under the Income Tax Act.

1.2] The learned CIT(A) ought to have appreciated that -

a. All the securities held by a bank are to be treated as stock in trade for Income Tax purposes and hence, the Govt. securities held by the assessee bank were in the nature of stock in trade and not capital assets.

b. The treatment of amortization of premium paid over and above the face value at the time of purchase over the period of maturity was in line with the RBI Guidelines and the accounting method consistently followed by the assessee bank and hence, the same was justified.

c. The amortization of premium paid in respect of 'HTM' securities was an allowable deduction in view of the CBDT Instruction No.17 of 2008 dated 26.11.2008 and hence, the disallowance upheld by the learned CIT(A) is not justified.

1.3] Without prejudice to the above grounds, the assessee submits that the HTM securities were also part of the stock in trade of the assessee bank and hence, the said securities should have been valued at cost or market price whichever is less and the resultant loss to the assessee should have been allowed.

2] The learned CIT(A) erred in upholding the action of the learned A.O. in restricting the deduction u/s 36(1)(viia) to Rs.54,95,000/- as against the deduction of Rs.83,33,864/- claimed by the assessee bank. 2.1] The learned CIT(A) erred in holding that -

a. The provision on standard assets of Rs.58,000/- made by the assessee bank in line with the RBI Guidelines was not an allowable deduction u/s 36(1)(viia) on the ground that the said provision was in respect of fully recoverable advances and hence, it was not in the nature of provision for bad and doubtful debts as contemplated u/s 36(1)(viia) of the Act.

b. The provision on overdue interest of Rs. 22,00,000/- made by the assessee bank was not allowable u/s 36(1)(viia) on the ground that the said provision was in respect of overdue interest, the recovery of which was not doubtful and hence, it was not in the nature of provision for bad and doubtful debts as contemplated u/s 36(1)(viia) of the Act.

c. The provision on overdue interest of Rs. 22,00,000/- made by the assessee bank was not allowable u/s 36(1)(viia) on the ground that only the provisions in respect of advances made by the bank are allowable u/s 36(1)(viia) whereas the provision for overdue interest was not covered under the provisions of 36(1)(viia) of the Act.

2.2] The learned CIT(A) failed to appreciate that the deduction u/s 36(1)(viia) was allowable to the assessee bank in respect of the 3 ITA No.262/PN/2013

provision on standard assets of Rs. 58,000/- and provision of Rs.22,00,000/- on account of overdue interest and hence, there was no reason to disallow the same.

2.3] The learned CIT(A) ought to have appreciated that the provision on overdue interest made by the assessee bank was also in the nature of provision for doubtful debts and hence, the same was covered under the provisions of section 36(1)(viia) and hence, the claim of the assessee should have been allowed.

3] Without prejudice to the above grounds, the assessee submits that in case, the claim of the assessee in respect of deduction u/s 36(1)(viia) in respect of overdue interest is not acceptable, the assessee submits that the interest income of Rs.22,00,000/- should not have been assessed as income of the assessee 4] The appellant craves leave to add, alter, amend or delete any of the above grounds of appeal."

3. In so far as the Ground of Appeal Nos.1 to 1.3 are concerned, the

substantive issue relates to the action of the lower authorities in making a

disallowance of Rs.1,82,000/- in respect of a deduction claimed by the

assessee on account of amortization of premium paid on Government

securities classified as "Held to Maturity" (HTM).

4. On this aspect, it was a common point between the parties that similar

disallowance was made by the income-tax authorities in the case of the

assessee for assessment year 2007-08, which came up before the Tribunal in

ITA No.261/PN/2013 dated 16.09.2014 wherein the disallowance has been

deleted. A copy of the said order has also been placed on record.

5. Following the aforesaid precedent, the order of the CIT(A) is set-aside

on this aspect and the Assessing Officer is directed to delete the addition of

Rs.1,82,000/-. Thus, assessee succeeds on Ground of Appeal Nos.1 to 1.3.

6. In so far as the Ground of Appeal Nos.2 to 2.3 are concerned, the same

relates to the action of the income-tax authorities in restricting the deduction 4 ITA No.262/PN/2013

claimed by the assessee u/s 36(1)(viia) of the Act to Rs.54,95,000/- as against

Rs.83,33,864/- claimed by the assessee bank.

7. At the time of hearing, the Ld. Representative for the assessee

furnished a written communication of the assessee bank dated 09.01.2015

stating that the assessee bank does not wish to press the Ground of Appeal

Nos.2 to 2.3 relating to disallowance of the deduction u/s 36(1)(viia) of the Act

as confirmed by the CIT(A). In view of the aforesaid, the Ground of Appeal

Nos.2 to 2.3 are dismissed as "Not Pressed".

8. The only Ground remaining for consideration is Ground of Appeal No.3

which is to the effect that the interest income of Rs.22,00,000/- on Non

Performing Assets (in short "NPAs") is not assessable as income in the year

under consideration. In this context, brief facts are that assessee is a co-

operative bank carrying on banking business in terms of a license issued by

the Reserve Bank of India (RBI). In the return of income filed, assessee

claimed deduction u/s 36(1)(viia) of the Act on account of the Provision for bad

and doubtful debts of Rs.83,33,864/-. The Assessing Officer restricted the

deduction claimed to the extent of Rs.54,95,000/- i.e. to the extent assessee

had made a corresponding Provision for bad and doubtful debts by way of a

debit to the Profit & Loss Account. Assessee carried the matter in appeal

before the CIT(A) professing that the Provision for overdue interest -

Rs.22,00,000/- and NPA provision on standard assets - Rs.58,000/- also be

considered as Provision made in the account books which were eligible for

calculating the allowable deduction u/s 36(1)(viia) of the Act. This aspect of

the matter was also decided against the assessee by the CIT(A) and the said

action of the CIT(A) has been accepted by the assessee as it has not pressed

Ground of Appeal Nos.2 to 2.3 before us. However, an alternate plea by way

of Ground of Appeal No.3 has been raised, whereby assessee contends that 5 ITA No.262/PN/2013

the income with respect to the interest on overdue advances i.e.

Rs.22,00,000/- is not assessable on accrual basis but is liable to be taxed as

and when received. The case made out by the assessee is that interest on

NPAs classified as per RBI norms is not assessable on accrual basis but is

liable to taxed as and when received. This plea was not raised before the

lower authorities but it has been raised for the first time before the Tribunal by

way of Ground of Appeal No.3.

9. The Ld. Representative for the assessee pointed out that the aforesaid

plea involves a point of law on which the relevant facts are already available

on record and therefore such a plea is admissible for adjudication following the

parity of reasoning laid down by the Hon'ble Supreme Court in the case of

National Thermal Power Co. Ltd. vs. CIT, 229 ITR 383 (SC). Apart therefrom,

it has also been pointed out that an identical controversy has been considered

by the Pune Bench of the Tribunal in the case of The Solapur District Central

Co-op. Bank Ltd. vs. ACIT vide ITA No.495/PN/2012 dated 29.09.2014 in

favour of the assessee.

10. The aforesaid factual matrix brought out by the Ld. Representative for

the assessee has not been disputed by the Ld. Departmental Representative.

11. We have heard the rival submissions. At the outset, we may note that

the aforesaid plea being raised by the assessee is essentially a question of

law relating to recognition of income on account of interest on NPAs classified

as per RBI guidelines. The controversy relating to non-recognition of income

on accrual basis relatable to NPAs is no longer res-integra, and the same has

already been adjudicated in favour of the assessee by the Pune Bench of the

Tribunal in the case of ACIT vs. The Omerga Janta Sahakari Bank Ltd. vide

order dated 31.10.2013 and also other subsequent decisions of the Pune 6 ITA No.262/PN/2013

Bench of the Tribunal. Apart therefrom, the Hon'ble Bombay High Court in the

case of CIT vs. M/s KEC Holdings Limited vide Income Tax Appeal No.221 of

2012 dated 11.06.2014 has also approved the proposition that the interest

income on NPAs classified as per RBI norms is not recognizable on accrual

basis. In this background, we therefore deem it fit and proper to admit the

aforesaid fresh plea raised by the assessee for adjudication as it is relevant to

determine the appropriate tax liability of the assessee. In coming to such

decision, we are guided by the principles laid down by the Hon'ble Supreme

Court in the case of National Thermal Power Co. Ltd. (supra).

12. The plea of the assessee is that the interest income of Rs.22,00,000/-

which has been credited in the Profit & Loss Account is relatable to the NPAs

classified as per RBI norms. According to the assessee though such income

has been credited in the Profit & Loss Account, is not to be assessed on

accrual basis inasmuch as assessee has duly created a Provision by way of

equivalent debit in the Profit & Loss Account. A similar situation in the case of

a cooperative society carrying on banking business under a license issued by

RBI was considered by the Pune Bench of the Tribunal in the case of The

Solapur District Central Co-op. Bank Ltd. (supra). The relevant discussion in

the order of the Tribunal reads as under :-

"11. We have carefully considered the rival submissions. As noted earlier, the crux of the controversy is with regard to assessee's claim that income with respect to the Interest on NPAs classified as per RBI norms is not assessable on accrual basis but is liable to be taxed as and when received. As per the Revenue, in the present case, assessee has credited gross interest in its Profit & Loss Account which is inclusive of the interest relatable to the NPAs, and crediting of such interest in the Profit & Loss Account shows that assessee has perceived such income to have been accrued, because assessee is following the mercantile system of accounting.

12. Undisputedly, the assessee bank is following the mercantile system of accounting. However, with regard to the recognition of income on NPAs, it has applied the RBI guidelines which say that such income is not to be recognized on accrual basis but is to be recognized as income only when it is actually received. The RBI guidelines also prescribe the manner in which the interest in relation to NPAs is to be shown in the Annual financial statements.

7 ITA No.262/PN/2013 In terms of the Master Circular on Income Recognition, Asset Classification, Provisioning & Other Related Matters issued by the RBI on 4th July, 2004 in chapter 4 of 'Income Recognition' in para 4.5.1 it is advised that the accrued interest in relation to NPAs should be computed and shown separately, though not accounted as income of the bank for the relevant period. Further, in para 4.5.3, with a view to ensuring uniformity in accounting the accrued interest in respect of both the performing and non-performing assets, the RBI guidelines inter-alia, prescribe that interest accrued in respect of NPAs should not be debited to borrowal accounts but shown separately under 'Interest Receivable Account' on the 'Property and Assets' side of the Balance-Sheet and corresponding amount shown under the 'Overdue Interest Reserve Account' on the 'Capital and Liabilities' side of the Balance-Sheet. In-fact, as a preface in para 4.5.3 the RBI has laid down that the aforesaid guideline be adopted notwithstanding the existing provisions in the respective State Co- operative Societies Act. Notably, the Balance-Sheet format prescribed under the Third Schedule to the Banking Regulation Act, 1949 (as applicable to Co- operative Societies) specifically requires the banks to show 'Overdue Interest Reserve' as a distinct item on the 'Capital and Liabilities' side of the Balance- Sheet. Thus, it is evident that 'Overdue Interest Reserve Account' cannot be regarded as a 'reserve' or a part of the owned funds of the bank, as it is not created out of the real income received by the bank.

13. As a compliance to the aforesaid RBI guidelines, we find that the assessee has not debited the interest on NPAs to the accounts of the respective borrowals but it has been shown separately under 'Interest Receivable Account' on the 'Property and Assets' side of the Balance-Sheet. and corresponding amount has been shown under 'Overdue Interest Reserve Account' on the 'Capital and Liabilities' side of the Balance-Sheet. Thus, the depiction in the Balance-Sheet is in adherence to the prescription contained in the Banking Regulation Act, 1949 (as applicable to Co-operative Societies), a statute under which assessee is bound to carry out its banking business.

14. Now, we may come to the plea of the Revenue with reference to the depiction of impugned interest on NPAs in the Profit & Loss Account prepared by the assessee. As has been succinctly noted by us in the earlier paras, assessee has credited its Profit & Loss Account with gross interest which, inter-alia, includes the impugned interest on NPAs. On the debit side, assessee has shown the impugned interest on NPAs under the heading 'Interest paid' and sub-headings 'Overdue Interest from Society Loans' and 'Overdue Interest from Individual Loans'. The assessee is a society registered under the Maharashtra Co-operative Societies Act, 1960 and it is also governed by the Maharashtra Co-operative Societies Rules, 1961. Section 65 of the Maharashtra Societies Act, 1960 deals with Ascertainment and appropriation of profits by a society. Sub-section (1) of section 65 of the Maharashtra Co-operate Societies Act, 1960 lays down that a society shall construct its relevant annual financial statements to arrive at its consequent net profit or loss in the manner prescribed. Such manner in relation to the calculation of net profits has been prescribed in Rule 49-A of the Maharashtra Co-operative Societies Rules, 1961. Rule 49-A prescribes that a society shall calculate "the net profits by deducting" from the gross profits for the year the Items (i) to (xvi) prescribed therein. For our purpose, it would suffice to examine Item (i) of the amounts deductible, which reads as under :-

"(i) all interest accrued and accruing on amounts of overdue loans (except in overdue amounts of loans against fixed deposit, gold, etc."

8 ITA No.262/PN/2013 15. The aforesaid would show that while constructing its Profit & Loss Account to arrive at its net Profit or Loss, a Co-operative Society is required to show interest accrued/accruing on amounts of Overdue Loans separately. This is precisely what has been done by the assessee in the present case. The aforesaid requirement of the manner of construction of Profit & Loss Account, prescribed under the Rules of the Maharashtra Co-operative Societies Act, 1960, has prompted the assessee to draw up its Profit & Loss Account in the manner we have noted above qua the interest on NPAs. Therefore, it cannot be accepted that the manner or presentation of account which ostensibly is in compliance with the statutory provisions governing the assessee, can be a factor to evaluate assessability or otherwise of an income. In our considered opinion, it would inappropriate to be merely guided by a presentation in the annual financial statements to infer assessee's perception that an income had accrued, without considering the entries made in the financial statements in toto. In the present case, it is quite clear that assessee has drawn up its annual financial statement in compliance with the requirements of the statutes under which it functions and/or is incorporated.

Therefore, the issue with regard to non-recognition of income on NPAs is required to be adjudicated having regard to the relevant legal position and not on the basis of the presentation in the annual financial statements. At this stage, we may also refer to the judgement of the Hon'ble Supreme Court in the case of CIT vs. Shoorji Vallabhdas & Co., (1962) 46 ITR 144 (SC) for the proposition that a mere book keeping entry cannot be assessed as income unless it can be shown that income has actually resulted. In the present case, the crediting of gross interest in the Profit & Loss Account, which includes interest on NPAs cannot be taken as a proof that such income has accrued to the assessee unless the statutory guidelines applicable on the said subject are ignored. Obviously, when the banking institutions following mercantile system accounting are permitted to treat the income on NPAs as assessable on receipt basis, such a position cannot be ignored in the case of present assessee merely because of a presentation in the annual financial statements. Even otherwise, we notice that the RBI guidelines permit that interest income on NPAs be parked in a suspense account and it is not necessary that it has to be brought to the Profit & Loss Account by the assessee.

However, in the present case, as seen earlier, assessee has credited the gross amount of interest on credit side of the Profit & Loss Account and simultaneously shown on the debit side of the Profit & Loss Account, the amount of interest on NPAs. In other words, instead of netting of the interest the two amounts have been shown separately one on the credit side and other on the debit side. The net effect of the said presentation is the same. Therefore, in our view, the lower authorities have misguided themselves in rejecting the claim of the assessee for non-recognition of interest income on NPAs.

16. In view of the aforesaid, we set-aside the order of the CIT(A) and direct the Assessing Officer to delete the addition of Rs.47,01,85,366/-. Thus, on Grounds of Appeal No.1 and 2 assessee succeeds. The Ground of Appeal No.3 is only an alternative Ground raised, in case assessee does not succeed on Grounds of Appeal No.1 and 2. Since assessee has succeeded on Grounds of Appeal No.1 and 2, Ground of Appeal No.3 is dismissed as infructuous."

13. The Ld. Representative for the assessee has relied upon the aforesaid

precedent to say that a sum of Rs.22,00,000/- is not assessable as income of 9 ITA No.262/PN/2013

the assessee for the year under consideration as it is relatable to interest on

NPAs classified as per RBI norms. In-principle, we find no reason to repudiate

the plea raised by the assessee which is supported by the aforesaid

precedent. So however, we find that the said plea was not raised before the

lower authorities at any stage and therefore there was no occasion for the

income-tax authorities to verify such a claim. Therefore, we deem it fit and

proper to restore the matter back to the file of the Assessing Officer who shall

verify the claim of the assessee in the light of the decision of the Tribunal in

the case of The Solapur District Central Co-op. Bank Ltd. (supra). Needless

to say, the Assessing Officer shall allow the assessee a reasonable

opportunity of being heard and thereafter pass an order in line with the

decision of the Tribunal in the case of The Solapur District Central Co-op.

Bank Ltd. (supra). Thus, on this aspect, assessee succeeds for statistical

purposes.

14. In the result, the appeal of the assessee is partly allowed.

Order pronounced on 31 st March, 2015.

Sd/- Sd/- (SUSHMA CHOWLA) (G.S. PANNU) JUDICIAL MEMBER ACCOUNTANT MEMBER

Pune, Dated: 31 st March, 2015. Sujeet

Copy of the order is forwarded to: - 1) The Assessee; 2) The Department; 3) The CIT(A)-III, Pune; 4) The CIT-III, Pune; 5) The DR "B" Bench, I.T.A.T., Pune; 6) Guard File. By Order //True Copy// Assistant Registrar I.T.A.T., Pune