ITAT Special Bench allows deduction for provisioning made by banks on standard assets

 This Tax Alert summarizes a Special Bench ruling of the Chandigarh Income-tax Appellate Tribunal (ITAT) in the case of Malwa Gramin Bank^[1] on the allowability of deduction under Section 36(1)(viia) of the Income-tax Act, 1961 (Act) in respect of provisions created on “standard assets”. The ruling assumes significance in light of divergent judicial precedents on the issue.

The Special Bench has ruled in favor of the assessee, holding that provision on standard assets, made in accordance with RBI norms qualifies for deduction under Section 36(1)(viia) of the Act, subject to the overall ceiling limit as prescribed therein.

The key observations of the Special Bench are:

• The classification as a standard asset merely indicates that either the advances are regular or the period of default has not yet crossed the regulatory threshold period as prescribed by the RBI. Therefore, all the ‘standard assets’ are not inherently completely free from credit risk and always bear the risk of going bad in the future, which necessitates provisioning against these assets also to safeguard the bank from potential losses.
• The provision has been made as per the mandatory guidelines of RBI, which mandate the creation of general provisions against ‘standard assets’ as well.
• Drawing reference from the legislative history in relation to the provisions of Section 36(1)(viia) of the Act, the ITAT observed that the said provision supports banks in maintaining prudential provisioning norms and provide a tax incentive for provisioning which is essential in managing credit risk. It also helps banks align their financial reporting with RBI regulations without adverse tax consequences.

The expression used is ‘provision for bad and doubtful debts’ and the prudential norms of RBI require the taxpayer to mitigate potential losses though the same may be remote and may arise on ‘standard assets’ as well