INCOME TAX ACT, 1961

Section 145

Accounting method - Revenue recognition - Interest income on discounting of bills against letter of credit -

Assessee-bank received in advance income in the nature of interest income on discounting of bills against letter of credit. Assessee excluded the income received in advance from taxable income claiming that same was interest received in advance, which need not be assessed in the relevant year on account of the fact that it was following mercantile system of accounting. AO, though accepted that amount represented interest pertaining to a subsequent year, however, held that same was received during the year under consideration. Therefore, AO referred to section 5(1)(a) and held that assessee received income during the year under consideration and same was to be included in total income of the year under consideration. Tribunal proceeded solely on the basis that receipt of income/interest on purchase and discount of bills might not be required to be repaid by assessee at any point of time and that, in other words, there was no liability for assessee for payment in subsequent year or at any point of time. Further, assessee physically received the amount towards income in advance and there was no liability for repayment. Same was to be treated as income of assessee and that the matter would stand differently in case there was liability for repayment of money received in advance. Held: On going through the orders passed by AO, CIT(A) and the Tribunal, what was conspicuously absent was the matter pertaining to accounting system followed by assessee bank. This would be very relevant because assessee was following mercantile system of acounting. In terms of section 145, which deals with 'method of accounting', sub-section (1) states that income chargeable under the head 'Profits and gains of business or profession' or 'Income from other sources' shall, subject to the provisions of sub-section (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee. Therefore, to bring receipt of interest by assessee to be profit as mentioned in sub-section 2(24), it is necessary that it should be computed in accordance with the method of accounting regularly employed by the assessee and in the instant case, it is mercantile system of accounting. Observation made by Tribunal that interest received on purchase and discount might not be required to be repaid by assessee at any point of time was a finding, which was not borne out by facts. As argued by assessee, if bills were discounted, normally period of repayment was 90 days and in the event the bill gets honoured within a period of 90 days, it goes without saying that for differential period, proportionate interest has to be refunded. Thus, Tribunal was not justified in coming to conclusion that interest on purchase and discount of bills might not be required to be repaid by assessee at any point of time. It could not be disputed that discounting of bills was being done in one of the modes of finance and AO accepted that assessee received the amount of interest, which represented interest pertaining to a subsequent year. In such cases, if assessee was not permitted to debit interest related to the period beyond closing date from the interest received account and credited in the advance account, then it would fall foul of the mercantile system of accounting. Therefore, income received in advance in the nature of interest income on discounting of bills against letter of credit was to be subjected to taxation on accrual basis.

REFERRED :

FAVOUR : In assessee's favour.

A.Y. : 2003-04

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