Provision for npa and 36(1)(vii)

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Querist : Anonymous

Querist : Anonymous (Querist)

12 May 2014 Whether the provision for NPA created under RBI guideline is eligible for deduction u/s 36(1)(vii) as bad debt in view of Vijaya Bank vs CIT (323 ITR 166) as the banks discloses Debtors/Advances in Balance Sheet net of provision to comply with the guideline?

Nikhil Kaushik

Nikhil Kaushik (Expert)
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12 May 2014 yes...Vijaya bank judgment applies to NPA provisions for banks.

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Querist : Anonymous

Querist : Anonymous (Querist)

12 May 2014 I disagree on following ground:
Firstly bad debt written off is ‘Nominal a/c’ which is closed at the end of each accounting year by charging to profit/loss a/c where as provision for NPA ‘Real a/c’ which is created by charging to profit/loss a/c and is balanced and carried forward at the end of accounting year.
The banks to follow with the disclosure norms of RBI, discloses receivables/advances in balance sheet net of provision for NPA it does not mean the receivables/advances a/c wiped off to the extent of the provision and the balance in provision for NPA a/c is obliterated.
If we go through the schedules to balance sheet, it can be understood that each year provision required to be created is determined on the basis of opening provision for NPA available and amount of actual write-off/write-back of excess provision and quality of Assets at the end of year. (Please refer Annual Reports available in web-site of any commercial bank.)
Actually in Vijaya Banks case the Assessing Officer wrongly dis-allowed the actual write-off. The figure Rs. 7,10,47,161/- stated in the decision is actual write-off not provision for NPA created during the previous year relevant to AY1994-95. The AO dis-allowed the amount on the ground that there is no debit in the P/L a/c and corresponding credit in Debtor’s a/c.
As per accounting principles when provision for bad debt is created and subsequent year certain amount is written-off journal entries would be as follows:
Bad Debt a/c Dr. xx
To Debtors a/c Cr. xx
(bad debt written off)
Provision for Bad Debt a/c Dr. xx
To Bad Debt a/c Cr. Xx
(bad debt a/c closed by transferring to Prov a/c)
Thus the Debtors as well as Provision a/c stands reduced to the extent of bad debt written-off.
Similarly, the figure Rs. 7,10,47,161/- in Vijaya Bank’s case is actual write-off. Though it was not debited in P/L a/c it was removed not only from Debtors but also from Provision a/c. hence the amount become allowable. The fact is clear from the wordings of final fact finding authority viz. ITAT which is extracted below (from the Apex Court’s decision):
“….. Firstly, according to the Tribunal, the assessee had rightly made a provision for bad and doubtful debt by debiting the amount of bad debt to the profit and loss account so as to reduce the profits of the year. Secondly, the provision account so created was debited and simultaneously the amount of loans and advances or debtors stood reduced and, consequently, the provision account stood obliterated.”…..
Similarly, allowable bad debt figure in case of each bank would be available in its schedules to balance sheet not the entire figure debited in P/L a/c as provision for NPA.
Conclusion:
What allowable as deduction u/s 36(1)(vii) in case of banks is not the entire provision for NPA created by debiting to P/L a/c but the amount written-off and removed from both Debtors and Provision for NPA a/c. In case of rural bad debt, it is allowable to the extent exceeds the opening balance in the provision for bad debt a/c u/s 36(1)(viia) – not provision for NPA a/c

Aashok Kumar Sharma

Aashok Kumar Sharma (Expert)
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10 August 2024 The issue you're addressing involves the treatment of provisions for Non-Performing Assets (NPA) and their eligibility for deduction under Section 36(1)(vii) of the Income Tax Act, with reference to the Vijaya Bank vs. CIT case.

### **Understanding Section 36(1)(vii) and Provisions for NPA**

#### **Section 36(1)(vii):**
This section of the Income Tax Act allows a deduction for bad debts written off in the books of accounts. However, for this deduction, the debt must have been written off as irrecoverable and should not be covered by any provision for bad debts.

#### **Provisions for NPA:**
Under RBI guidelines, banks and financial institutions are required to create provisions for NPAs. These provisions are intended to cover potential losses due to non-recovery of certain loans and advances. Such provisions are usually created based on a percentage of the outstanding NPAs and are recognized as an expense in the financial statements.

### **Key Points from Vijaya Bank vs. CIT (323 ITR 166)**

In the Vijaya Bank case, the Supreme Court addressed the issue of whether the provision for NPAs can be treated as a deduction under Section 36(1)(vii). Here's a summary of the ruling and its implications:

1. **Provisions vs. Actual Write-Off:**
The Court clarified that the provisions for NPAs and actual write-offs are different. Provisions are made to account for anticipated losses, while Section 36(1)(vii) specifically deals with the actual write-off of bad debts.

2. **Deduction Eligibility:**
According to the ruling, while the provision for NPAs created under RBI guidelines is not directly deductible under Section 36(1)(vii), the amount actually written off as bad debts in the books of accounts can be claimed as a deduction under this section.

3. **Net of Provision Disclosure:**
Banks disclose their advances in the balance sheet net of provisions to comply with RBI guidelines. However, this does not affect the treatment of provisions under the Income Tax Act.

### **Implications for Deduction under Section 36(1)(vii)**

- **Provisions for NPAs:**
Provisions for NPAs, as created under RBI guidelines, are not deductible under Section 36(1)(vii) because this section only applies to actual bad debts written off, not to provisions.

- **Actual Write-Off:**
If an amount classified as an NPA is actually written off as irrecoverable, it can be claimed as a deduction under Section 36(1)(vii) provided it meets the conditions specified in the Act.

### **Conclusion:**

In summary, the provision for NPAs created under RBI guidelines is not eligible for deduction under Section 36(1)(vii) of the Income Tax Act. However, actual write-offs of bad debts are deductible under this section, and the treatment of provisions is separate from this provision.

### **References:**

1. **Vijaya Bank vs. CIT (323 ITR 166)**: This case establishes the principle that provisions for NPAs are not deductible under Section 36(1)(vii), which focuses on actual write-offs of bad debts.
2. **Income Tax Act, Section 36(1)(vii)**: Provides the legal framework for deductions related to bad debts.

For a detailed analysis and application to specific cases, consulting with a tax professional or legal expert is advisable.

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