01 April 2009
Q 1. Whether Income can be recognised on provisional basis...? Case: ABC Pvt. Ltd. is a mfg concern...& has giving loan to it's sister concern (a pvt. ltd. co.) during the FY.
ABC Pvt. Ltd. booked the Interest on such loan on provisional basis during the same FY......
Whether this Interest Income can be recognised on provisional basis...???
Q 2. In next Fin Year..due to financial crises, sister concern is not able to pay interest on such loan.....
ABC Ltd. want to written off that Interest which has been recognised in previous Fin Year.
Pls solve the above two queries with ref to section & case law....if any...
10 April 2009
As per your suggestion, if co. has no provision for interest.....Auditor can object to provide interest free loan by the company to others or to it's sister concern.?????? then wt the remedies will be available...plz let me know...
31 July 2024
### Query 1: Recognition of Interest Income on Provisional Basis
#### Recognition of Interest Income
In accounting, revenue, including interest income, should be recognized when it is earned and realizable, regardless of when it is received. However, there are some considerations for recognizing interest income on a provisional basis:
1. **Accounting Standards**: - As per **Accounting Standard 9 (AS 9)** on Revenue Recognition issued by ICAI, revenue should be recognized when it is certain that the economic benefits associated with the transaction will flow to the entity and the amount of revenue can be measured reliably. - If there is uncertainty regarding the collection of interest income, it may be prudent to defer recognition until there is reasonable certainty of receipt.
2. **Income Tax Act**: - As per **Section 145 of the Income Tax Act, 1961**, income is to be computed under either cash or mercantile system of accounting regularly employed by the assessee. If ABC Pvt. Ltd. follows the mercantile system, it would recognize interest income as it accrues. - **Section 43D** provides special provisions for the income recognition of certain categories of assessees like banks and NBFCs, but generally, interest income is recognized on accrual basis.
Given the above, if ABC Pvt. Ltd. recognizes interest income on a provisional basis, it must ensure that such recognition aligns with both accounting standards and the Income Tax Act.
### Query 2: Writing off Interest Income Due to Non-Payment
#### Writing Off Interest Income
If in the subsequent financial year, the sister concern is unable to pay the interest due to financial crisis, the following provisions apply:
1. **Provision for Doubtful Debts**: - As per **Accounting Standard 4 (AS 4)** on Contingencies and Events Occurring After the Balance Sheet Date, adjustments to assets and liabilities are necessary if they relate to conditions existing at the balance sheet date. If the financial crisis existed at the balance sheet date, a provision for doubtful interest could be created. - As per **Section 36(1)(vii) of the Income Tax Act, 1961**, a deduction is allowed for bad debts written off as irrecoverable in the accounts of the assessee.
2. **Write-off Process**: - To write off the interest income, ABC Pvt. Ltd. would need to reverse the previously recognized interest income in its books. This reversal will impact the profit and loss account in the year of write-off.
3. **Case Law**: - **UTI Bank Ltd. v. CIT** (2009) 178 Taxman 367 (SC) held that provisions for doubtful debts created as per RBI guidelines are allowable as deductions. - **CIT v. Vasisth Chay Vyapar Ltd.** (2010) 238 CTR 383 (Delhi HC) recognized that interest income recognized on accrual basis could be reversed if there is uncertainty in its realization.
### Auditor’s Objection to Interest-Free Loan
If ABC Pvt. Ltd. does not recognize interest on the loan:
1. **Related Party Transactions**: - As per **Accounting Standard 18 (AS 18)** on Related Party Disclosures, the company must disclose all related party transactions, including interest-free loans. - **Companies Act, 2013** also requires disclosures of related party transactions under Section 188.
2. **Section 185 of the Companies Act, 2013**: - This section restricts companies from advancing loans to directors or to any other person in whom the director is interested. However, loans to sister concerns (another private limited company) may be permissible subject to compliance with disclosure and approval requirements under the Act.
### Remedies Available
1. **Documentation and Approval**: - Ensure proper documentation and board approval for interest-free loans to related parties. - Disclose the terms of such loans in the financial statements as required under AS 18 and Companies Act, 2013.
2. **Provisioning and Disclosures**: - Create provisions for doubtful interest if there are indications of non-recovery. - Make appropriate disclosures in the financial statements regarding the nature and terms of the loan.
### Summary
- **Provisional Recognition**: Interest income can be recognized on a provisional basis if it aligns with AS 9 and Section 145 of the Income Tax Act. - **Writing Off**: Interest income can be written off if the sister concern is unable to pay, by reversing the income previously recognized. - **Auditor’s Objection**: Proper documentation, board approvals, and disclosures are necessary for interest-free loans to related parties to avoid objections.
These measures ensure compliance with accounting standards, tax laws, and company law regulations.
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