Allowability of provision made by banks for Investment Depreciation Reserve due to MTM for AFS & HFT and amortization of premium on HTM.

Many banks are disallowed for the certain deductions which are to be made as per RBI statutory regulations to run business smoothly. There are differences of opinion regarding allowability of these items. In this article I have touched only one provision regarding Provision for Investment Depreciation Reserve [ IDR ] to be done AT YEAR END and/or at the time of shifting the investment from/to HTM/AFS/HFT and amortization of premium paid on HTM investments.

Many assessing officers argue that this provision is made due to Marked to market rule of RBI regulation, which cannot override Income tax clauses. RBI regulations are not binding in the computation of Income under the Income Tax Act. . Income is to be assessed as per the provision of the Income-tax Act. Further they argue that this is a notional provision and the loss is not booked actually. Therefore this provision cannot be deducted from Income.

Now, we should check the latest guideline from RBI given to banks in the master circular RBI/2012-13/ 51 UBD. BPD (PCB).MC.No.12/16.20.000/2012-13 dated July 2, 2012 in the point no.16 for valuation of investment and valuation standards “ Investments classified under HTM category need not be marked to market and will be carried at acquisition cost unless it is more than the face value, in which case the premium should be amortised over the period remaining to maturity. The individual scrip in the AFS category will be marked to market at the year-end or at more frequent intervals. The book value of the individual securities would not undergo any change after the revaluation. The individual scrip in the HFT category will be marked to market at monthly or at more frequent intervals. The book value of individual securities in this category would not undergo any change after marking to market. Note : Securities under AFS and HFT categories shall be valued scrip-wise and depreciation/appreciation shall be aggregated for each classification as indicated at paragraph 15.6 above separately for AFS and HFT. Net depreciation, if any, shall be provided for. Net appreciation, if any, should be ignored. Net depreciation required to be provided for in any one classification should not be reduced on account of net appreciation in any other classification. Similarly net depreciation for any classification in one category should not be reduced from appreciation in similar classification in another category. It is clarified that while the individual scrips in the HFT category will continue to be marked at monthly or at more frequent intervals, the book value of the individual securities in this category would not undergo any change after marking to market. While the net depreciation in the value of investments, if any, shall be provided for; the net appreciation, if any, should be ignored. Net depreciation required to be provided for in any one category should not be netted with net appreciation in any other category. ”

In this connection it will be useful to check the CBDT “ Instruction no 17 ” dated 26-11-2008 Regarding Assessment of Banks – Checklist for Deductions

[ F. No. 228/3/2008-ITA-II ] “ (vii) As per RBI guidelines dated 16th October 2000, the investment portfolio of the banks is required to be classified under three categories viz. Held to Maturity (HTM), Held for Trading (HFT) and Available for Sale (AFS). Investments classified under HTM category need not be marked to market and are carried at acquisition cost unless these are more than the face value, in which case the premium should be amortised over the period remaining to maturity. In the case of HFT and AFS securities forming stock in trade of the bank, the depreciation / appreciation is to be aggregated scrip wise and only net depreciation, if any, is required to be provided for in the accounts. The latest guidelines of the RBI may be referred to for allowing any such claims. “

In the instruction no 17 from CBDT, para no (vii) the assessing officers are clearly guided that they should follow latest RBI guidelines for allowing :

            à Amortisation of premium paid on Investments under HTM category.

            à Provision for Depreciation in Investments under AFS / HFT category.

Further, CBDT had also clarified, vide Circular No.665, dated 05.10.1993, that the Assessing Officer should determine on the facts and circumstances of each case as to whether any particular securities constituted stock-in-trade or investment, taking into account the guidelines issued by RBI in this regard from time to time. In view of this circular, the bank has to adopt the guidelines issued by RBI with respect to valuation of investment portfolio and also accounting standards on investments. RBI has already guided the banks to categorize their Investments into three parts Held to Maturity, Available for Sale and Held for trading. i.e. HTM,AFS,HFT. The HTM is permanent like investment and such it is not stock in trade. So, loss on these category cannot be business loss. But AFS and HFT are stock in trade and therefore loss on these category is business loss and is entitled to be allowed for deduction. The banks are valuing the stock-in-trade at cost for the purpose of statutory balance-sheet, and for the income tax return, valuation are done at cost or market value, whichever is lower. Preparation of the balance-sheet in accordance with the statutory provision would not disentitle the bank in submitting the income tax return on the real taxable income. That cannot be discarded by the departmental authorities on the ground that the bank is maintaining the balance-sheet in the statutory form on the basis of the cost of the investments. The banks are required to prepare the balance-sheet in the prescribed form and there is no option to change it. For the purpose of income tax as stated earlier, what is to be taxed is the real income and for which RBI has guided to MTM for AFS & HFT. RBI has clearly guided that in the balance sheet the bank has to furnish the investment at book value and not at market value. The bank has to provide for decrease in market value by charging to Profit & Loss A/C and the book value of investment in AFS and HFT would not undergo any change after marking to market.

Further, this can’t be disallowed on the ground that it is notional loss due to marked to market and real loss will be booked at the time of sale or redemption. If we think over the clause 36(1)(viia) also consist of notional loss deduction as it is based on 7.5% of income and 10% of average rural advances and not on real written off bad debts. It is a statutory claim allowable on the analogy of 30% deduction allowed in respect of income under the head house property, without making it necessary to show the evidence of such expense having been actually incurred.

For HTM category if the scrip is purchased at premium (purchase price is more than face value) this premium has to be amortised during the remaining period of residual maturity. Amortization of premium is to be done by charging proportional amount of premium to P/L A/C. And for AFS & HFT investment MTM is applicable. Considering CBDT circulars and RBI guidelines it is very clear that banks should be allowed for deduction of amortization on HTM which is permanent category investment and contigent provision for Depreciation on AFS & HFT Investment which are stock in trade category investment.

DIPESH SHANTILAL SHAH

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