The amended Income Tax Bill aims to settle the persistent dispute over the definition and tax treatment of Non-Performing Assets (NPAs). The Select Committee of Parliament has adopted its report on the new Bill, which is expected to be submitted to the Lok Sabha Speaker early next week. The Bill has been listed for discussion and passage during the upcoming Monsoon Session, beginning July 21.
For years, there has been a misalignment between the RBI's prudential norms and income tax provisions concerning NPAs. According to the Reserve Bank of India's (RBI) Master Circular on Prudential Norms, a loan becomes an NPA if the interest or principal remains overdue for more than 90 days. However, under the current Income-Tax Rules (Rule 6EB read with Section 43D), interest income on such NPAs is taxed on a receipt basis only if the default continues for over 180 days, creating a mismatch that has triggered multiple legal disputes.
Banks and NBFCs, following RBI norms and accounting standards (AS-9 and Ind-AS), cease to recognize interest income once a loan is classified as an NPA due to the uncertainty of recovery. But tax authorities often treat this interest as accrued income, taxing it under the mercantile system-unless the 180-day rule is met. This has resulted in taxation of notional income, which goes against the well-established 'real income' principle upheld by various courts.
Legal battles, such as the Southern Technologies case, where the Supreme Court ruled that RBI provisioning guidelines don't override tax laws, further complicated the issue. However, subsequent judgments, notably the Delhi High Court's decision in Vasisth Chay Vyapar, upheld the real income doctrine, providing some relief to NBFCs.
To resolve this anomaly, Section 56 of the new IT Bill proposes that "bad or doubtful debts" be defined in accordance with RBI guidelines. The Bill aims to align taxability of interest income from NPAs with the year in which it is actually received or credited to the profit and loss account, whichever is earlier.
A member of the Select Committee, speaking on condition of anonymity, said, "We suggested bringing more and more clarity, so that there should not be any more litigation on the issue."
Tax experts have welcomed the proposed change. One expert remarked, "This convergence between tax law and prudential regulation will harmonize treatment across financial, regulatory and tax domains, reduce disputes and uphold the principle that only real income, not hypothetical accrual should be subject to tax."
If passed, the amendment will mark a major step forward in simplifying India's tax regime and reducing litigation for banks and financial institutions, which have long sought clarity on this critical issue.
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