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Vithaldas H. Dhanjibhai Bardanwala Vs. Commissioner of Income-tax, Gujarat-v - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtGujarat High Court
Decided On
Case NumberIncome-tax Reference No. 218 of 1975
Judge
Reported in(1981)21CTR(Guj)190; [1981]130ITR95(Guj)
ActsIncome Tax Act, 1961 - Sections 28, 36, 36(1), 36(2), 155 and 155(6)
AppellantVithaldas H. Dhanjibhai Bardanwala
RespondentCommissioner of Income-tax, Gujarat-v
Appellant Advocate J.M. Thakore, Adv.-General
Respondent Advocate N.U. Rawal, Adv.
Excerpt:
direct taxation - debts - sections 28, 36, 36 (1), 36 (2), 155 and 155 (6) of income tax act, 1961 - whether tribunal rightly found that bad debts of rs. 54145 and rs. 10807 for assessment years 1967-68 and 1969-70 were not written off as required by law as per provisions of section 36 - assessee complied with requirements of section 36 (2) (i) (b) - tribunal wrongly held that assessee had not written off as irrecoverable in its accounts debts in question and not entitled to grant of deductions of these debts - held, question answered in negative and in favour of assessee. - - the said question reads thus :whether, on the facts of the case, the tribunal was right in law in holding that the bad debts of rs. for the relevant assessment years 1967-68 and 1969-70, the assessee-firm had.....majmudar, j.1. at the instance of the assessee, the income-tax appellate tribunal, ahmedabad bench 'b', has referred the following question to us for our decision under s. 256(1) of the i. t. act. the said question reads thus : 'whether, on the facts of the case, the tribunal was right in law in holding that the bad debts of rs. 54,145 and rs. 10,807 for the assessment years 1967-68 and 1969-70, were not written off as required by law as per the provisions of section 36 of the income-tax act, 1961 ?' 2. in order to appreciate the nature of the controversy posed for our consideration in the present reference, it is necessary to have a glance at the relevant facts. the assessee-firm is a firm which is engaged in the manufacture of tins, ghamelas and various other items. it is functioning at.....
Judgment:

Majmudar, J.

1. At the instance of the assessee, the Income-tax Appellate Tribunal, Ahmedabad Bench 'B', has referred the following question to us for our decision under s. 256(1) of the I. T. Act. The said question reads thus :

'Whether, on the facts of the case, the Tribunal was right in law in holding that the bad debts of Rs. 54,145 and Rs. 10,807 for the assessment years 1967-68 and 1969-70, were not written off as required by law as per the provisions of section 36 of the Income-tax Act, 1961 ?'

2. In order to appreciate the nature of the controversy posed for our consideration in the present reference, it is necessary to have a glance at the relevant facts. The assessee-firm is a firm which is engaged in the manufacture of tins, ghamelas and various other items. It is functioning at Jamnagar. Tins are manufactured from tin plates while ghamelas from tin sheets. For the relevant assessment years 1967-68 and 1969-70, the assessee-firm had claimed allowance on account of bad debts. An amount of Rs. 54,145 was due to the assessee from one Mansukhlal Nathulal on account of sale of ghamelas to him by the assessee-firm. The said party lost heavily in forward business and became a pauper. The amount of Rs. 54,145 which was due from him was, therefore, written off by the assessee-firm by debiting the said amount to the profit and loss account and crediting to bad reserve account without any entry in the debtor's account in the books of the assessee-firm.

3. So far as the amount of Rs. 54,145 which was claimed by the assessee firm for the bad debt allowance for the year 1967-68 was concerned, the ITO disallowed the claim on the ground that the assessee-firm had dealings with the said party up to July 30, 1965, and that no efforts to recover the amount by filing a suit were made. On the other hand, the AAC on appreciating the evidence and the material produced before him, came to the conclusion that the said party was absolutely ruined and the debt had really become bad. The AAC also considered the fact that the conduct of the assessee-firm showed that it had reasonable evidence before it to come to the conclusion that the party was not in a position to make any payment of the dues and it was for the assessee to decide whether there was any point in initiating legal proceedings against the party for the recovery of the dues. In addition, the AAC upheld the condition of the assessee and held that the assessee was entitled to the bad debt allowance as claimed by him for the amount of Rs. 54,145. The AAC repelled the contention on behalf of the revenue that the requirements of s. 36(2) of the I. T. Act, 1961, were not complied with by the assessee. According to the AAC, the fact that the debt was credited to the bad debt reserved account did not in any way mean that the assessee hoped to recover anything and that it was a particular method of accounting adopted by the assessee.

4. Similarly, in the return of income for the assessment year 1969-70, the assessee-firm had claimed deduction of Rs. 10,807 by way of bad debt. The case of the assessee was that in the jaggery account, the aforesaid amount was due from one Tapu Karsan and the dues from Tapu Karsan had become bad and irrecoverable and, therefore, it was written off by debiting to the jaggery account of the said business, the balance of which account was ultimately transferred to profit and loss account with a corresponding credit to the bad debt reserve account. The ITO disallowed this claim of the aforesaid bad debt of Rs. 10,807 on the ground that the amount was not written off by writing off the accounts of the former Tapu Karsan and instead it was written off by debiting to the jaggery account and making a corresponding credit entry in the bad reserve account which, according to the ITO, was not a proper mode of writing off of the bad debts in the books. The AAC, on the other hand, took a contrary view and, following one decision of the Bombay High Court in the case of CIT v. Jwala Prasad Tiwari : [1953]24ITR537(Bom) , held that the requirements of s. 36(2)(i)(b) were fully complied with by the assessee and, hence, allowance for the said bad debt was permissible to the assessee.

5. The ITO carried the two matters in appeal before the Income-tax Appellate Tribunal, Ahmedabad Bench 'B'. The relevant appeals were Income-tax Appeals Nos. 782 and 783 (Ahd)/1973-74. The said appeals along with other companion appeals were heard by the Income-tax Appellate Tribunal. By a common order, five revenue appeals were disposed of. So far as the present controversy between the parties is concerned, the Tribunal took the view that four conditions were required to be fulfilled before allowance for bad debt can be granted under s. 36 and those four conditions according to the Tribunal were as under :

(1) The debt or loan should be in respect of a business which is carried on by the assessee in the relevant accounting year.

(2) The debt should have been taken into account in computing the income of the assessee of the accounting year or of an earlier accounting year or should represent money lent in the ordinary course of the business of banking or money-lending.

(3) The amount of the debt or loss, or part, thereof, which is claimed as a deduction, should be established to have become bad in the accounting year.

(4) The amount should be written off as irrecoverable in the accounts of the assessee for that accounting year in which the claim for a deduction is made for the first time.

6. The Tribunal found that so far as the first two conditions were concerned, there was no dispute between the parties that such conditions were fulfilled. So far as the third condition was concerned, the Tribunal, on the evidence on record, held that the assessee had established that the debts had become bad. The Tribunal, however, held against the assessee on the fourth condition by taking the view that the concerned debts were not written off as irrecoverable by the assessee and, consequently, the assessee's case was completely damaged only on that ground. According to the Tribunal, merely transferring the amount to the bad debt reserve account was not sufficient to entitle the assessee-firm to claim the amount as bad debt. The Tribunal held that under the Indian I. T. Act, 1922, bad debts could be allowed even if it was not written off in the assessee's books but under s. 36 of the I. T. Act, 1961, the assessee's writing off of the bad debt as irrecoverable in his accounts was a condition precedent to the grant of allowance and as the said condition for the grant of the allowance was not fulfilled, the claim of the assessee for the allowance of the concerned bad debts was not maintainable. For the aforesaid reasons, the Tribunal reversed the order of the AAC, in respect of the bad debt claim of Rs. 54,145 in respect of the year 1967-68, and also his order in respect of the amount of Rs. 10,807 for the assessment year 1969-70.

7. The assessee requested the Tribunal to refer the question of law under s. 256(1) of the I. T. Act, 1961, to this court for its resolution. The Tribunal, therefore, framed a common question of law and referred the same to us, as we have already stated above.

8. The learned Advocate-General appearing for the assessee contended that the Tribunal was apparently in error when it held that the assessee had not complied with the statutory requirement of s. 36(2)(i)(b) of the I. T. Act, 1961, and that the assessee had posted all the required entries in its account books for showing that it had written off the concerned bad debts as irrecoverable.

9. Mr. Raval, the learned advocate appearing for the revenue, on the other hand, contended that the Tribunal had rightly taken the view that as the assessee had not squared off the ledger accounts of the concerned parties in its account books, it cannot be held that the assessee had written off, as irrecoverable, the concerned bad debts in its account books for the relevant preceding years and, consequently, the Tribunal was justified in taking the view, which it did, against the assessee.

10. Now, in order to appreciate the short controversy between the parties, it is necessary to keep in view certain proved facts on the record of the case. It has been held by the Tribunal itself that the debts in question had become bad debts during the relevant accounting years. The narrow question which has remained for consideration is as to whether the condition of s. 36(2)(i)(b) has been satisfied or not by the assessee when it posted certain entries in its account books regarding these bad debts. In order to appreciate the said controversy in its correct perspective, it is necessary to have a look at the relevant statutory provisions. Section 36(1) of the I. T. Act, 1961, provides that 'the deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein in computing the income referred to in section 28'. Clause (vii) of s. 36(1) states that subject to the provisions of sub-s. (2), the amount of any debt or part thereof, which is established to have become a bad debt in the previous year, can be allowed as established to have become a bad debt in the previous year, can be allowed as permissible deduction. Sub-s. (2) of s. 36, so far as it is relevant for our present purpose, reads as under :

'36. (2) In making any deduction for a bad debt or part thereof, the following provisions shall apply :-

(i) no such deduction shall be allowed unless such debt or part thereof -

(a) has been taken into account in computing the income of the assessee of that previous year or of an earlier previous year, or represents money lent in the ordinary course of the business of banking or money-lending which is carried on by the assessee, and

(b) has been written off as irrecoverable in the accounts of the assessee for that previous year.....'

11. There is no dispute between the parties at this stage that the main requirements of s. 36(1)(vii) have been fulfilled by the assessee inasmuch as it has been able to prove to the satisfaction of the departmental authorities, as finally held by the Tribunal, that the concerned debts had become bad in the relevant previous years. It is also a fact, well established on record, that so far as the conditions mentioned in s. 36(2) are concerned, the condition in s. 36(2)(i)(a) has also been satisfied in the present case. But the short controversy which remains to be decided is as to whether the condition prescribed by s. 36(2)(i)(b) is complied with by the assessee or not. In other words, whether the assessee has written off as irrecoverable the concerned debts in its accounts for the previous years in its books to show that the debts in question had been written off as irrecoverable. The assessee had debited the profit and loss account of the relevant years specifically mentioning the concerned debts which could not be recovered from the debtors in question and had credited the same to bad debt reserve account by these corresponding entries about the bad debts. The only grievance of the revenue is that the assessee had forfeited its right to claim deduction under s. 36(1) on the ground that by not squaring off the accounts of the concerned parties in its books, the assessee had not written off these debts as irrecoverable. On the contrary, the assessee was clinging on to these debts and, therefore, the requirements of s. 36(2)(i)(b) were not fully met by the assessee and, hence, the Tribunal was justified in turning down the claim of the assessee for this deduction. It is also necessary at this stage to have a look at the corresponding provision of the Indian I. T. Act, 1922. In s. 10 (1) of the said Act, it was provided that 'the tax shall be payable by an assessee under the head 'Profits and gains of business, profession or vocation' in respect of the profits or gains of any business, profession or vocation carried on by him'. Certain allowances were contemplated to be given while computing the profits and gains for the concerned years and for that purpose, s. 10(2) provided that 'such profits or gains shall be computed after making the following allowances, namely...' Clause (xi) of s. 10 (2) reads as under :

'(xi) When the assessee's accounts in respect of any part of his business, profession or vocation are not kept on the cash basis, such sum in respect of bad and doubtful debts, due to the assessee in respect of that part of his business, profession or vocation, and in the case of an assessee carrying on a banking or money-lending business, such in respect of loans made in the ordinary course of such business as the Income-tax Officer may estimate to be irrecoverable but not exceeding the amount actually written off as irrecoverable in the books of the assessee :

Provided that if the amount ultimately recovered on any such debt or loan is greater than the difference between the whole debt or loan and the amount so allowed, the excess shall be deemed to be a profit of the year in which it is recovered, and if less, the deficiency shall be deemed to be a business expenses of that year.'

12. The aforesaid provisions of s. 10 (2) (xi) of the Indian I. T. Act, 1922, when read in juxtaposition with the provisions of s. 36(1)(vii) and s. 36(2)(i) (a) and (b), it appears clear that though the scheme of both the aforesaid provisions under the earlier Act of 1922 and the later Act of 1961 are different, so far as the question of writing off of the concerned debt as irrecoverable in the books of the assessee is concerned, the language used in the corresponding provisions of both these Acts is practically in pari materia. It appears clear that under the previous Act, the ITO had full authority to grant deduction of bad debts which an assessee could prove before him. There was a ceiling placed on the aforesaid power of the ITO to assess a given debt as irrecoverable to the extent of the amount which was actually written off by the concerned assessee in his books. If the concerned assessee had actually written off as bad debt a given amount in his books, the ITO could not assess the bad debt to any extent beyond that ceiling. But, in a given case, if the assessee had not actually written off any amount as bad debt in his books of account, it was fully open to the ITO to assess any part of the bad debt as irrecoverable, if the assessee could establish it before him by leading cogent evidence. In short, under the previous Act, before claiming any allowance of bad debt, it was not absolutely necessary for the concerned assessee to post relevant entries regarding the irrecoverability of the bad debt in his books. If, however, the assessee so posted, his claim for the allowance of such a debt was pinned down to that upper limit reflected by the posted entries. But, on the other hand, there was a full play available for the assessee to establish his claim for the bad debt allowance, if no entries were posted to that effect. The ITO also had full jurisdiction to go into the question and decide on evidence as to what amount of bad debt was proved before him by the assessee as bad debt or doubtful debt which was not recoverable from his concerned debtors. So far as the present provisions of s. 36 under the 1961 Act are concerned, it is clear that before any claim for allowance as bad debt is held established by the ITO it must appear that the concerned bad debt was written off as irrecoverable in the account books of the assessee for the grant of a claim for bad debt allowance. To that extent, there is a clear departure from the scheme in the earlier Act. Still, so far as the exact requirement of the writing off of the concerned debt as irrecoverable in the account books of the assessee is concerned, as we have noted above, the language used in both the Acts, viz., the Act of 1922 and the Act of 1961, is almost identical.

13. Now, we may note a salient feature which has been well established on the record of this case. The AAC had found on evidence that the assessee was following a particular method of account-keeping and whenever he found that the debt had become bad, the profit and loss account was debited to that extent and a corresponding credit entry was made in the bad debt reserve account. Of course, the assessee did not carry out the entries further by posting a corresponding credit entry in the account of the concerned debtor in the assessee's books has given rise to the present controversy between the parties. According to the revenue, unless the assessee carries out the posting of the entries regarding the concerned debt to their logical end by closing the account of the concerned debtor in its books, it cannot be said that it has written off the concerned debt as irrecoverable. It appears to us that the mercantile system of accounting to which the assessee had resorted over the years, a debiting of the profit and loss account by the amount of the concerned bad debt reserve account, would clearly reflect the fact that he had written off, as irrecoverable, the concerned debt in his books of account for the previous year. Once the profit and loss account is debited to the extent of the concerned bad debt amount, the assessee exhibits a clear intention of having washed his hands off the concerned debt. Corresponding credit entry in the bad debt reserve account goes to swell the liability of the assessee to that extent. Thus, the former asset, which was reflected by the debt and which the assessee was trying to recover from his debtor, gets completely wiped off by these entries. It is true that if the said entries were carried further and if the account of the concerned debtor in the books of account of the assessee was closed by the corresponding credit entry, it would have been shown by the assessee that he never expected the said amount of bad debt to be ever recoverable by him in future at any remote time. But simply because he has not posted such credit entry squaring off the debtor's account in his books, it cannot be said that the assessee has not written of as irrecoverable, the concerned bad debts in his own books. In this connection, we may have a look at certain meanings of the word 'written off' as found in the dictionaries. In Dictionary for Accountants by Eric L. Kohler, 5th edn., at p. 497, the word 'write-off' is defined as under :

'To transfer the balance of an account previously regarded as an asset to an expense account or to profit and loss account.'

14. Mr. Raval, appearing for the revenue, contended in this connection that the aforesaid definition of the word 'write-off' shows that the balance under an account previously regarded as an asset must be transferred to another account before it can be said that the said account is written off. It is not possible to agree with the said submission of Mr. Raval. All that the definition mentioned by Kohler shows, is that an account which was previously shown as an asset must be transferred to an expense account or the profit and loss account. In the present case, it is not in dispute that the assessee did post the relevant entries debiting the profit and loss account for the concerned previous year, clearly indicating the amounts which were due from the concerned debtors and which had become irrecoverable and these amounts had been then credited to the bad debt reserve account. Thus, the relevant debts effected in the profit and loss account can clearly amount to a national transfer of the balance under the concerned bad debt account. In the Dictionary of Business and Management by K. C. Parikh, 1972 Edn., at p. 348, is mentioned the meaning of the word 'write-off' as under :

'In book-keeping, to transfer a bad debt to the debit side of profit and loss account.'

15. It is thus clear that the assessee had written off the concerned bad debts in its books of account and the moment it was decided to write off these debts, it debited to the profit and loss account and credited the concerned amount in the bad debt reserve account. It was clear that the assessee was normally meaning thereby to proclaim its intention to treat this as irrecoverable. By these entries, the assessee clearly showed that he never treated them any longer as his assets. Mr. Raval's contention is that by not squaring off the accounts of the concerned debtors in the assessee's books, the assessee was still lingering with a feeling that the debts may be recovered by the assessee in future and the assessee was clinging on to these debts. It is difficult to accept the said submission of Mr. Raval. Merely because the account of the concerned debtors was not squared off, it cannot be said that the amounts of the concerned debts were not written off as irrecoverable in the account of the assessee. The requirement of s. 36(2)(i) (b) does not go so far as to demand from the concerned assessee a squaring off of the account of the concerned debtors in his books. The aforesaid dictionary meanings to which we have adverted clearly show that in accounting practice, what is termed as 'writing off a debt' has been fully carried out by the assessee in the present cases. Mr. Raval for the revenue in order to countenance the contention of the assessee drew out attention to certain text books on accountancy and made an effort to show that in double entry book-keeping the full connotation of the expression 'writing off a bad debt' had implied an additional requirement of closing the accounts of the concerned debtors in the books of account of the assessee. In this connection, Mr. Raval has drawn our attention to Advanced Accounts by M. C. Shukla and T. S. Grewal, 1974 Edn. At p. 57 of the said book, the learned authors have referred to the provisions for bad debt. So far as bad debts are concerned, the authors have observed :

'Some people fail to pay their dues. The are known as bad debts and the amount which is irrecoverable is a loss. If a person files a petition in bankruptcy, his creditors will generally write it off as a bad debt. The entry in the books of the creditor is :

Bad debts account Dr. To the debtor's (by name) account.

The debtor's account is then closed and the bad debts account is transferred at the end of the year, to the profit and loss account (debit side)'.

16. Mr. Raval then drew our attention to Book Keeping and Accounts by Spicer and Pegler, 16th Edn., at p. 39. In the said book, it has been mentioned :

'When a debt is found to be irrecoverable, it should be written off as a loss by means of a journal entry debiting Bad Debts Account and crediting the account of the defaulting debtor. At the end of the accounting period, the Bad Debts Account is closed by transfer to the Profit and Loss Account. Should a debt which has been written off as bad be subsequently recovered, in whole or in part, the debtor's personal account should be debited and Bad Debts Account credited, the cash received then being credited to the debtor's account. This is preferable to posting the amount recovered direct from the Cash Book to the credit of the Bad Debts Account without making any entry in the debtor's personal account, since it is desirable, for future reference, that this account should contain a full history of the occurrence.'

17. Mr. Raval also drew our attention to certain observations made by Hrishikesh Chakravarti in Advanced Accountancy, 1978 Edn., p. 47, para. 37. Referring to the question of bad debts and provisions for bad and doubtful debts and bad debt dividend, the learned author has mentioned :

'37. In business sometimes debts become irrecoverable due to various reasons, i.e., insolvency, wilful non-payment, etc. Although a debt may be good, as this debt is only unenforceable in law. On the other hand, many debts within limitation period may be bad. A debt is written off as bad only when it is certain that it will not be realised or when there is information of insolvency. The entry will be :

Bad debts Dr. To debtors control/sundry debtors (Party's account)'

18. It is further provided in para. 38 :

'If a debt which was written off is recovered or if a dividend is received from the estate of the insolvent debtor whose debt was written off, it is very likely that it was initially credited to the party's account. An adjustment entry will be necessary in such a case :-

Sundry debtors or debtors' control Dr. (Party's account) To bad debts or Bad Debts Recovery Accounts or Bad Debts Dividend (Account).'

19. Mr. Raval also invited our attention to Fitzgerald's Accounting, 4th Edn., at p. 102, wherein certain entries have been mentioned by the learned author to show how bad debts can be written off in the books of accounts. It is observed by the learned author in that book as under :

'The first point to note is that the debts which are regarded as definitely bad are written off, the entry being : 19 Bad Debts Pound 240June 30 To Debtor's Control Pound 240For writing off debts considered to be uncollectable.In addition, the individual amounts are credited in thedebtors' ledger.

20. The effect of this entry is to reduce the balance of debtor's accounts from a total of Pound 22,240 to Pound 22,000.

21. The next step is to make the entry for the creation of the provision for doubtful debts. The amount is 2 per cent. of Pound 22,000, that is Pound 440, and the entry is :

19 Doubtful debts Pound 440June 30 To provision for doubtful debts Pound 440For amount of provision for doubtful debtsraised on debtors at balancedate on the basis of 2% of outstandingdebtors' balances.Note that this amount is not credited to Debtor's Control Account or to any individual debtor's accounts in the subsidiary ledger, because, in contrast with the previous entry, no debts are actually written off.'

22. Thus, Mr. Raval wanted to pinpoint the difference between the writing off of an actual debt and making a provision for the same. Mr. Raval also invited, in this connection, our attention to the observations made by the learned author at p. 103 of the said book to the effect :

'If the debt is bad it should be written off; if it is not bad, but collection in full is not regarded as certain, the provision created is against a doubtful debt.'

23. Mr. Raval also invited our attention to Principles and Practice of Book Keeping and Accounts by B. G. Vickery, 16th Edn., at pp. 96 and 97, of the said book, in which observations regarding Personal Accounts Bad Debts are found. It has been observed therein :

'When it becomes known that a debtor's balance is irrecoverable, and that it no longer represents an asset, the personal account must be closed by transferring the loss to the debit of a Bad Debts Account, in which all the bad debts are collected pending their transfer to the debit of the Profit and Loss Account at the end of the financial year.'

24. On p. 97, it is further observed :

'A debt is written off in this way when the debtor is regarded as being quite unable to pay the amount owing, but it sometimes happens that a turn of fortune or an unexpected distribution from the debtor's trustee in bankruptcy results later on in the discharge either of the whole or of a part of the debt due from him. In such a case, the creditor may adopt one of two methods of recording the transaction in his books :

(a) He may adopt the method shown in the following example, and simply post the amount received from the cash book to the credit of the Bad Debts Account, thereby reducing the total amount to be written off for the period; or

(b) He may post the amount from the Cash Book to the credit of the personal account, and then by means of a journal entry transfer it to the credit of the Bad Debts Account.'

25. Thereafter, Mr. Raval also took us through the Advanced Accounting by J. R. Batliboi, 22nd edn., at p. 66, wherein under the topic of final adjustments, a reference is made to bad debts by the learned author. It has been mentioned therein :

'Debts that are definitely irrecoverable are called Bad Debts, and being losses, must be written off as such. The entry to write of Bad Debts is to debit Bad Debts Account and to credit the Personal Accounts of the debtors who are unable to pay. Bad debts Account will be transferred to Profit and Loss Account.'

26. A reference was also invited by Mr. Raval to Carter's Advanced Accounts, 4th edn., published by Sir Isaac Pitman and Sons Ltd., London At p. 81, in the said Manual, under the Caption 'Bad Debts Not Written Off', it is mentioned :

'In some exercises the bad debts have not been written off, and the student is told to do this. This student thinks it quite, and promptly puts them in the Profit and Loss Account. More often than not, however, one fails to complete the double entry, with of course, disastrous effects on the accuracy of his work. For example, taken the following trial balance (purposely condensed) Dr. Cr.Pound PoundTrial balanceSundry Debit balance 5,042Sundry debtors 2,560------- --------Sundry Credit balances 7,602 7,602Suppose the bad debts written off are Pound 60, and that a Bad Debts provision of 5 per cent. is required to be made. The Bad Debts provision would be 5 per cent. of Pound 2,500, and not 5 per cent. of Pound 2,560. In the balance sheet, therefore, we should have - Pound PoundSundry Debtors 2,500Less Bad Debts provision 125 2,375------Instead ofSundry Debtors 2,560Less Bad Debts provision 128 2,432

When the Bad Debts are written off, the Sundry Debtors will be reduced to Pound 2,500 and this point seems to be quite unnoticed by the majority of students, who are greatly surprised when the Balance Sheet totals do not agree.'

27. Mr. Raval also invited our attention to p. 609 of A Desk Book of Business Management Terms by Leon A. Wortman, 1979 Ed., wherein the term 'write off' is defined to mean 'the transfer of the remainder of the value of an asset to an expense account; the act of reducing book value.'

28. The aforesaid text books to which our attention was drawn by Mr. Raval for the revenue show that in the double entry book-keeping as and when debtor's account is squared off, it can be demonstrated that the debt is irrecoverably written off. But the short question which has been posed for our consideration in the present proceeding is this : In the absence of such detailed entries, in the ordinary mercantile system of book-keeping, where the assessee follows a single entry system of book-keeping, if he has posted relevant entries in his books of account to indicate in no uncertain terms that the concerned bad debt is written off by him as irrecoverable, can it be said that he has not complied with the statutory requirement of s. 36(2)(i)(b) It must be mentioned at this stage that even if the assessee has not followed a more scientific system of accounting, it cannot be said that he cannot show by following a simple system of posting of entries in his books of account that so far as he is concerned, he has written off the bad debt as irrecoverable. References to the aforesaid text books to which our attention is invited by Mr. Raval may show a more scientific way of dealing with the subject. But they necessarily do not rule out the simple system of book-keeping wherein in the general pattern of mercantile accounting, simple debit entries are posted in the profit and loss account by the concerned assessee to show that so far as he is concerned, he has treated the bad debt as completely written off as irrecoverable, by treating the said asset as no longer available to him. Consequently, the aforesaid reference to the text books cannot be of any real assistance to Mr. Raval.

29. Mr. Raval for the revenue further submitted that the provisions of s. 36(2)(i)(b) do lay down a statutory condition which has got to be complied with before an assessee can claim any bad debt allowance. Mr. Raval submitted that, however harsh the statutory condition may be, if it has been provided by the Legislature as a condition precedent to the granting of relief to the concerned assessee, it has got to be complied with strictly. In order to support the aforesaid contention of his, Mr. Raval has invited out attention to a few decisions on the point. In the first instance, he referred to the case of Indian Overseas Bank Ltd. v. CIT : [1970]77ITR512(SC) . The Supreme Court in the aforesaid case was concerned with the question of granting of development rebate to the assessee under s. 17 of the Indian I. T. Act, 1922, read with s. 10 (2) (vib), prov. (b), of the said Act. In that connection, the Supreme Court observed in the aforesaid decision on the facts found in that case as follows (headnote) :

'The assessee was not entitled to the development rebate. The grant of this rebate was a concession subject to the fulfilment of the conditions prescribed under the proviso, and the creation of a reserve fund undersection 17 of the Banking Companies Act was not sufficient compliance with the proviso, even though the amount so carried to the reserve fund might be large enough to cover both requirements.'

30. Thus, it was laid down by the Supreme Court in the aforesaid decision that before an assessee can claim development rebate, he must strictly comply with the condition for the grant of such rebate as prescribed by the relevant statutory provisions of the Act.

31. Mr. Raval also invited out attention to a decision of this court in the case of Addl. CIT v. Shri Subhlaxmi Mills Ltd. [1975] 100 ITR 188. That was also a case pertaining to development rebate. It has been observed in the aforesaid decision of this court (headnote) :

'The debiting of the profit and loss account must be done before the profit and loss account is closed, that is, entries should be made regarding the reserve at the time of making up the profit and loss account. The Legislature has clearly indicated that the assessee must ordinarily be allowed the benefit of development rebate as a deduction in respect of the previous year in which the ship was acquired or the machinery or plant was installed and this can be done only if the profit and los account, before it was finally made up, shows the necessary debit entry for purposes of creation of the reserve and the corresponding credit entry for the reserve account. If this is not done, the condition for getting the benefit of development rebate will not be satisfied and development rebate cannot be allowed.'

32. In order to support his submission that, however harsh the statutory condition may be, it has got to be complied with, Mr. Raval invited our attention to a judgment of the Calcutta High Court in the case of Tarulata Shyam v. CIT : [1971]82ITR485(Cal) . This very case was carried in appeal to the Supreme Court and the Supreme Court's decision in the said case is reported in : [1977]108ITR345(SC) and hence we need not refer to the said Calcutta decision but we go straightway to the Supreme Court decision in that case. In the aforesaid decision, the Supreme Court has observed that once it is shown that the case of the assessee comes within the letter of the law, he must be taxed, however great the hardship may appear to the judicial mind to be. In that case, the assessee had received the amount by way of loan or advance during the calendar year 1956, relevant to the assessment year 1957-58, from a private company of which he was a shareholder. Even though at the end of 1956, no advance or loan was due to the company by the assessee, as a result of credit entries made in his favour in his account in excess of that amount, it was held that because of the clear operation of ss. 2 (6A) (e) and 12 (1B) of the Indian I. T. Act, 1922, the assessee was liable to tax on the basis that he was deemed to have received the concerned amount as any by way of dividend. The aforesaid decision clearly laid down that, however great the hardship may appear to the judicial mind to be, the statute has got to be complied with. There cannot be any dispute about the legal position laid down by the aforesaid decisions. But the question in the present proceeding is as to whether the statutory conditions laid down by s. 36(2)(i)(b) have been complied with or not. If they are complied with, the matter must end there. If they are not complied with, the matter must necessarily end in the reverse way.

33. As we have already stated above, the only requirement of s. 36(2)(i)(b) is that the concerned bad debt must have been written off as irrecoverable in the account of the assessee. Once the debit entries posted by the concerned assessee with the relevant corresponding entries clearly indicated the said fact, the requisite statutory condition has got to be treated as fully complied with.

34. Mr. Raval for the revenue drew our attention in support of his submission to s. 36(2)(iv), which reads as under :

(iv) where any such debt or part of debt is written off as irrecoverable in the accounts of the previous year and the Income-tax Officer is satisfied that such debt or part became a bad debt in any earlier previous year not falling beyond a period of four previous years immediately preceding the previous year in which such debt or part is written off, the provisions of sub-section (6) of section 155 shall apply.'

35. Mr. Raval contended that if in a given year, the debt is written off as irrecoverable by the concerned assessee and if the ITO finds that the debt became bad in any earlier previous year, then he can reopen the assessment of the concerned previous year, up to the limit of four previous years immediately preceding the concerned previous year up to the limit of four previous years immediately preceding the concerned previous year in question. Mr. Raval, therefore, submitted that if in the present case, it is held on facts that the assessee had not complied with the requirements of the statutory provisions of s. 36(2)(i)(b) for the given assessment years and if the assessee thereafter posted the required entries squaring off the account of his concerned debtor in any subsequent year and if, in fact, the debts have really become bad in the present previous year, there is sufficient remedy for the assessee. Whether there is a remedy for the assessee or not is strictly not relevant for deciding the present question as to whether for the relevant assessment years, the assessee has posted necessary entries in his books of account to show that he has written off as irrecoverable the bad debts in question. we may recall at this stage that the Tribunal on the facts has found that the concerned debts have become bad during the relevant previous years. Consequently, the only controversy which remains is, as to whether sufficient entries have been posted by the assessee to reflect this position in its books of account. Hence, for deciding such a controversy, the provisions of s. 36(2)(i)(b) read with s. 155(6) cannot be of any assistance to either side.

36. The learned Advocate-General, in support of his submission for the assessee, pointed out to us the Twelfth Report of the Law Commission of India on the working of the Indian I. T. Act, 1922, and which necessitated the enactment of the present Act of 1961. Our attention was invited to the Notes on Clauses as mentioned in the said report. While referring to the Notes on Clause No. 36, the report states (p. 352) :

'Instead of the words 'bad and doubtful debts' (as mentioned in the opening lines of the existing section 10 (2) (xi), the words 'debts or parts thereof that are established to have become bad debts' have been used. The word 'doubtful' is unnecessary and does not and anything to what is convey by 'bad'.'

37. It was, therefore, submitted that according to the law Commission's report, omission of the word 'doubtful' after the 'bad and' in the then proposed new Act of 1961, was really of no consequence as the term 'bad debt' would include even a doubtful debt. Our attention was also invited to a copy of instruction No. 370 (Circular letter No. F. No. 205/15/71, dated January 13, 1972, issued by the Secretary, Central Board of Direct Taxes, Government of India, New Delhi). The said circular was with reference to the provisions of bad debt allowance in the hands of assessee who had sold goods to stick textile mills. While dealing with aforesaid subject, the said circular referred to the provisions for bad and doubtful debts as made in s. 10 (2) (xi) of the 1922 Act and the similar provision made in s. 36(1)(vii) of the 1961 Act. The circular this aspect observed as under :

'The Law Commission had replaced the words 'bad and doubtful debts' occurring in section 10 (2) (xi) of the I. T. Act, 1922, by the words 'debts or parts thereof that are established to have become bad debts' as the Commission was of the view that the word 'doubtful' was in necessary and did not add anything to what was covered by a word 'bad'. It is, therefore, obvious that there was no intention to reduce the scope of the earlier provisions contained in section 10 (2) (xi) of the I. T. Act, 1922; it is considered that the provision in section 36(1)(vii) also covered doubtful debts.'

38. The learned Advocate-General also placed reliance on the decision of the Calcutta High Court in the case of Hongkong and Shanghai Banking Corporation v. CIT : [1955]28ITR199(Cal) . In the said decision, a Division Bench of the Calcutta High Court was concerned with the interpretation of the words 'bad debt' and 'doubtful debts' as mentioned in s. 10 (2) (xi) of the Indian I. T. Act, 1922. It was argued before the Calcutta High Court by Mr. S. Mitra, on behalf of the assessee, that there was difference between the connotation of the words 'bad' and 'doubtful' as used in s. 10 (2) (xi) of the Indian I. T. Act, 1922, then prevailing. The said contention was rejected by the Division Bench of the Calcutta High Court. Chakravartti C. J., speaking for the Bench in this decision, observed (p. 209) :

'I do not think that the basis upon which Mr. Mitra's argument proceeded is correct. It is to be noticed that the first part of clause (xi) does not speak of 'bad or doubtful debts'. As far as I am aware, the two words 'bad' and 'doubtful' are always applied adjective to the same class of debts, meaning debts of which the chance of recovery is nil or slender. '

39. Placing reliance on the aforesaid decision of the Calcutta High Court as well as the observations in the Law Commission's Report and the Board's Circular, it was argued on behalf of the assessee by the learned Advocate-General that even though under s. 36(1)(vii) of the present Act of 1961, the word 'doubtful debt', as was found in the previous Act was omitted the result was not in any way different as the word 'bad debt' as employed by s. 36(1)(vii) included within its sweep the concept if doubtful debt. So far as the controversy posed for our consideration is concerned the only short issue which is required to be decided is as to whether the concerned assessee by posting debit entries in its profit and loss accounts pertaining to the debts in question by treating them as irrecoverable, has duly complied with the provisions of s. 36(2)(i)(b) or not. As we have indicated above, for the operation of the said provisions, it is strictly not necessary though it may be desirable o r ideal in such cases, to actually square off or close down the account of the concerned debtors in the books of account of the assessee, even if such an ideal mode of book keeping is not adopted and if what the assessee had done reflects a clear intention to treat the concerned debts as irrecoverable and he has written them off as irrecoverable by not treating them as existing assets and if such an intention is clearly reflected by the debit entries in the bad debts reserve account, the strict requirement of s. 36(2)(i)(b) can be said to have been complied with. Not following as ideal mode of book-keeping or not posting all the detailed, exhaustive and scientific entries does not necessarily mean that the requirements of s. 36(2)(i)(b) are not complied with. Absence of an ideal state of maintenance of accounts is not necessarily an absence of compliance with the minimum requirement of s. 36(2)(i)(b).

40. We may now turn to a couple of decisions on the point. The first decision is of the Supreme Court in Associated Banking Corporation of India Ltd. v. CIT : [1965]56ITR1(SC) . The said decision arose out of a case which was covered by the earlier provisions of ss. 10(1), 10 (2) (xi) of the Indian I. T. Act 1922. The question in that case was as to whether absence of entries in the books of account of assessee regarding bad debt would absolve the ITO of his duty to determine and estimate the extent of bad debt suffered by the concerned assessee. In that connection, it was observed by the Supreme Court as under (headnote) :

'It is for the Income-tax Officer to ascertain what debts have become bad or doubtful in the year of account.

If the assessee has posted a composite entry, debts exceeding in value of the amount entered may not be allowed as irrecoverable. If he has posted entries in respect of individual debts, the restriction on the power of the assessing authority must operate in respect of each such debt written off.'

41. Interpreting the provisions of s. 10 (2) (xi) of the 1922 Act, the Supreme Court observed (headnote) :

'The legislature has not made an express provision that an entry in the books of account writing off a debt as irrecoverable is a condition of its admissibility as an allowance under section 10 (2) (xi) of the Indian Income-tax Act, 1922. It is not open to the Income-tax Officer to estimate the debts as irrecoverable. But if for some adequate reason the taxpayer regards posted an entry and there is a reasonable explanation for that default, absence of an entry writing off the amount of debt which has become bad or doubtful, which may be posted at any time in the appropriate place in the books of accounts before the proceedings are concluded before the authority, is by itself not a ground for denying to the Income-tax Officer jurisdiction to estimate the debts as irrecoverable, and to allow it as a proper deduction in the computation of profits.'

42. It is further observed (headnote) :

'But this does not mean that an assessee who chooses not to post an entry in the books of account about bad or doubtful debts places himself in a better position than an assessee who has actually posted entries writing off amounts as irrecoverable in his books of accounts. On the materials placed before him, it is always open to the Income-tax Officer to come to the conclusion that the fact that the assess has not chosen to post an entry consistent with the circumstances that no part of the debt due to him in the year of account has become bad or doubtful and, therefore, irrecoverable, and on that account to disallow the claim which may be made at the hearing that some or all debts had become bad or doubtful.'

43. In the aforesaid decision, the Supreme Court did note the change brought about by the present Act by s. 36(1)(vi). After quoting that section, the Supreme Court observed that the material clause has been wholly regarded and the Legislature has expressed its intention clearly. As we have indicated above, the material change which has been brought about by the present provision of s. 36(1)(vii) read with s. 36(2) is that before any allowance can be granted for any bad debt, the assessee under the Act in his books of account for the previous year. In the earlier Act, no such condition precedent existed. But still the question will remain as to whether the assessee can be said to have written off the bad debt as irrecoverable in his books of account by debiting his profit and loss account and by credited the bad debt account but not the ledger of the concerned debtor in the assessee's books. The aforesaid question which has been posted for our consideration has been squarely answered against the revenue by an earlier decision of the Bombay High Court to which we will not turn. In the case of CIT v. Jwala Prasad Tiwari : [1953]24ITR537(Bom) , the Division Bench consisting of Chagla C. J. and Tendolkar J. had an occassion to consider the very contention which has been raised on behalf of the revenue before us. It is true that the aforesaid decision was concerned with the prevision of s. 10 (2) (xi) of the Indian I. T. Act, 1922. As we have already stated above, the aforesaid provision under the 1922 Act did not required way of a condition precedent to the granting of bad debt allowance, the concerned debt being shown as irrecoverable in assessee's books. But if the assessee had posted these entries, then they acted as a ceiling on the estimation of bad debt on the part of the ITO while he had to assessee to the extent of the bad debt suffered by the assessee during the relevant assessment year. But so far as the mode or manner of posting of these entries in the books of account of the concerned, the requirements of the earlier provisions of s. 10 (2) (xi) and the provisions of s. 36(2)(i)(b) are practically identical and, to that extent, the reasoning of the Bombay High Court in Jwala Prasad's case : [1953]24ITR537(Bom) would squarely apply to the facts of the present case. In the Bombay case, the fats were that the assessee had debited Rs. 57,358 and Rs. 9,125 to the profit and loss account and credited to Sukhabawd Lena account and Shah account (doubtful debts and suspense account) stating that the debts being doubtful of recovery had been written off to the profit and loss account. The individual accounts had, however been carried forward. The question before the Bombay High Court was as to whether the posting of entries in the profit and loss account and the corresponding entries in the suspense account were enough to constitute a write-off of the bad debt, as irrecoverable, in the books of account of the assessee or whether the other requirements of the said provisions necessity c losing of the accounts of the concerned party in the books of account of the assessee. Mr. N. P. Engineer, appearing for the Commissioner before the Bombay High Court argued that before the amount could be said to be actually written off as irrecoverable in the books of account the assessee was required to close the accounts of the concerned debtor in his books and if that was not done, the amount could not be said to have been written off as required by that section and, therefore, it was not permissible. The aforesaid argument of Mr. N. P. Engineer in Jwala Prasad's case : [1953]24ITR537(Bom) was in terms turned down by the Division Bench of the High Court. Chagla C. J., speaking for the Division Bench, observed (p. 539) :

'The whole of the argument of Sir Nusserwanji is that writing-off can only be achieved by the accounts of the respective debts in the books of the assessee being credited with the amount in respect of which they have been indebted to the assessee. Sir Nusserwanji says that the accounts do not show that the amounts have been written off because these amounts were still shown in the account as being due to the assessee.

The Division Bench also noted the other submission of Mr. Nusserwanji for the revenue that it was not enough that the profit and loss account should be debited, but it was essential that the accounts of the debtors should be adjusted by writing off the amounts. The aforesaid contention of Mr. Nusserwanji for the revenue was in terms negatived by the Division Bench in the said decision. It was observed in this connection (p. 540) : 'But in advancing this contention what is that section 10 (2) (xi) does not merely permit an assessee to claim relief in respect of a bad debt but it also gives him right to claim relief in case of a doubtful debt. It is open to a business to take a view that the debt is entirely bad and there is absolutely no possibility to recover it, in which case he may debit the profit and loss account and credit the amount to his case debtor; or it may be that a business may take a view that the debt is not bad but doubtful, in which case he would not take the risk of closing the account of his debtor but he may debit the profit and loss account and he may make corresponding entry in another appropriate account. This is exactly what the assessee has done in this case....'

44. Mr. Raval, appearing for the revenue, submitted that the aforesaid reasoning of the Bombay High Court would not directly be relevant for deciding the present question as the word 'doubtful debt' is omitted in the present s. 36(1)(vii) as read with s. 36(2)(i)(b) and it was very much there is the earlier Act of 1922 in s. 10 (2) (xi). Now, we have already stated above as to how the omission of the word 'doubtful debt' in the present s. 36(1)(vii) is of no consequence. The concept of bad debt would include in its sweep all types of debts for which the assessee has lost all hopes of recovery. Consequently, even doubtful debts would be covered by the concept of bad debt as mentioned in s. 36(1)(vii). Hence, it cannot be said that the reasoning of the Bombay High Court would not apply to the facts of this case. But even apart from that, Chagla C. J. has also rested his decision on another plank when it was observed as follows (p. 540) :

'Sir Nusserwanji further forgets that section 10 (2) (xi) does not require that the amount should be written off in the account of the debtor. What the section requires is that the amount should be written off in the book of the assessee and there could not be the slightest doubt that booking to the books of the assessee the amount has been written off. There is no more striking or significant way of writing off the amount than by debating the amount to the profit and loss account.'

45. The Division Bench in the aforesaid case held against the revenue also on the second ground that ground squarely applies to the facts of the present case. As we have already stated above, provisions of section 10 (2) (xi) of the earlier Act of 1922, in so far as they required actual writing off of the concerned debts as irrecoverable in the booms of accounts of the assessee, are in the pari materia with the present provisions of section 36(2)(i)(b). The only difference is that in the earlier provisions, entries were to be found in the books of the assessee while in s. 36(2)(i)(b), entries are to be found in the accounts of the assessee. Mr. Raval fairly conceded that, in substance, this difference of phraseology makes no real difference. It is, therefore, clear that the Division Bench of Bombay High Court in the aforesaid case clearly took the view that once the assessee has posted entries in the profit and loss account showing a particular debt to have become bad and once corresponding entries are posted in suspense account, that would be enough compliance with the provisions of the statutory requirement for writing off as irrecoverable the concerned debt in the books of the assessee. No further requirement can be spelt out from this express language used by the Legislature and it can be insisted by the revenue that the assessee must also post corresponding entries in the ledger accounts of the concerned parties and should close those accounts before the requirement of s. 36(2)(i)(b) can be said to be fully met by him. It is also interesting to note that in the statement of the case as reproduced in Jwala Prasad's case : [1953]24ITR537(Bom) it has been clearly mentioned that (p. 538) :

'Writing off' is a technical term used by financiers and auditors. There are two methods of dealing with a debt which has been written off in the books of accounts, (1) by giving the corresponding credit to debtor's account, and (2) by giving the corresponding credit to the bad and doubtful debts account. The first method is only employed where it is desired to close the account of the debtor. The second method is employed where there are some chances of recovery, howsoever, remote they may be.

When we talk of 'writing off' we are not concerned with the credit to be given to an account. `Writing off' means the raising of a debit entry. This can only be to the debit of the profit and loss account. This is the only debit which can possibly be raised as a result of writing off a bad debt.'

46. Even apart from what is mentioned in the statement of the case in the aforesaid Bombay case, the decision of the Division Bench of the Bombay High Court clearly clinches the issue and squarely answers the question posed for our consideration against the revenue.

47. It is interesting to note that the Tribunal in the present case omitted to consider the aforesaid Bombay decision even though it was expressly referred to in the statement of case and was relied upon by the AAC. The learned Advocate-General has drawn our attention to a subsequent decision given by the same Appellate Tribunal wherein a different view has been taken taken by the Tribunal as compared to the one which has been taken by it in the present case. The learned Advocate-General referred to the Ahmedabad Chartered Accountant's Journal, Vol. 4, Pt. 4, at p. 110, wherein the Appellate Tribunal in the case of Shri Bansidhar Pvt. Ltd. v. ITO has taken the view following the above Bombay decision in Jwala Prasad's case : [1953]24ITR537(Bom) that the posting of relevant entries in the profit and loss account in the assessee's books by the concerned assessee relating to debts in question was sufficient compliance with the provision of s. 36(2)(i)(b). The learned Advocate-General has adopted the said reasoning of the Tribunal as part of his argument. But even apart from the later decision of the Tribunal as we have already indicated above, on the language of s. 36(2)(i)(b), it appears clear to us that once the assessee, following a particular simple system of accounts, has posted the relevant debit entries in his profit and loss account and the corresponding credit entries in the bad debt reserve account, thereby clearly expressing his intention to treat the concerned debt as irrecoverable bad debt, he is said to have done what is required of him by the aforesaid statutory provision and no further duty can be foisted upon him requiring him to also close the existing ledger accounts of the concerned parties in his books of accounts. The net work of statute as indicated by the Legislature by enacting s. 36(2)(i)(b) does not spread its tentacles that far as Mr. Raval would like to have for the revenue. In that view of the matter, it must be held that the Tribunal in the present case was in error when it took the view that the assessee had not written off as irrecoverable in its accounts, the debts in question and that, therefore, the assessee was not entitle to the grant of deductions of these debts. We hold that the assessee had fully complied with the requirements of s. 36(2)(i)(b).

48. In the result, the question referred for our decision had to be answered in the negative, that is, in favour of the assessee and against the revenue. The Commissioner to pay costs of the assessee.


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