Circular No. 491

892. Method of accounting in the case of interest on sticky advances - Change from mercantile to cash - Change by some State financial corporations - Whether to be allowed

What this is

Circular No. 491 was issued by the Central Board of Direct Taxes on 30 June 1987. Its subject is 892. Method of accounting in the case of interest on sticky advances - Change from mercantile to cash - Change by some State financial corporations - Whether to be allowed.

What it does

Allows State Financial Corporations to move from mercantile to cash accounting for interest on sticky advances, on a condition. The Supreme Court in State Bank of Travancore v. CIT [1986] 158 ITR 102 had held that interest accruing on sticky loans is taxable on accrual where the assessee follows the mercantile system. Some State Financial Corporations then changed to accounting interest on a cash basis. As these corporations are governed by the directives of the Reserve Bank of India and the Industrial Development Bank of India, the Board says that if those authorities are satisfied that the change is legal, valid and bona fide, the Income-tax Department may accept the cash system for interest.

Why it was issued

The change of method by some State Financial Corporations, following the Supreme Court judgment on sticky interest, needed a departmental position.

Who it reaches

State Financial Corporations that switched to cash accounting for interest
Assessing Officers examining a change of method of accounting
Lenders carrying interest on doubtful advances

The instrument, as the Board published it

The words below are the department’s own, reproduced from its published text. Where the department’s copy carried a publisher’s notes after the instrument, those are not reproduced.

892. Method of accounting in the case of interest on sticky advances - Change from mercantile to cash - Change by some State financial corporations - Whether to be allowed
1. The Supreme Court has in its judgment in the case of State Bank of Travancore v. CIT [1986] 158 ITR 102 held that the interest accruing on sticky loans is taxable to income-tax on accrual basis where the assessee follows the mercantile system of accounting.
2. Some State Financial Corporations have changed the method of accounting interest from mercantile to cash basis.
3. State Financial Corporations are governed by the directives of the Reserve Bank of India and IDBI. If these authorities are satisfied that the change in the system of accounting of interest from mercantile to cash basis by the concerned State Financial Corporation is legal, valid and bona fide, the Income-tax Department may accept the cash system of accounting of interest.
Circular : No. 491 [F.No. 201/60/867-IT(A-II)], dated 30-6-1987.

What to watch

The concession is confined to State Financial Corporations and to interest; it is not a general licence to change the method of accounting.
It rests on satisfaction of the Reserve Bank of India and the Industrial Development Bank of India that the change is legal, valid and bona fide, so that satisfaction has to be shown.
The Supreme Court's rule on accrual, which the circular itself recites, continues to govern an assessee on the mercantile system.
The law on when interest income is recognised has since moved on in terms this text does not carry.

Where you meet it

In an assessment where the officer brings unrealised interest on doubtful advances to tax on accrual despite a change to cash accounting.

← Circular No. 492 · Circular No. 489 →

A circular binds the department, not you and not a court. The Board issues a circular to its own officers. An assessee may hold the department to a circular that helps him; the department cannot hold an assessee to one that hurts him, and the Tribunal and the courts decide the law for themselves.

Source: the Income Tax Department’s own published text — its page for this instrument.