BANK OF RAJASTHAN LTD. vs. COMMISSIONER OF INCOME TAX

CIVIL APPEAL No. 3291/2009Supreme Court[2024] 10 S.C.R. 86016 October 2024Bench: 2 JudgesAuthor: ABHAY S. OKA, PANKAJ MITHAL33 pages
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What did the Supreme Court hold?

The Supreme Court held that if government securities are treated as stock-in-trade by the bank, the broken period interest paid on their acquisition cannot be considered capital expenditure and must be treated as revenue expenditure, allowable as a deduction. The Court clarified that whether a Held to Maturity (HTM) security is held as an investment or stock-in-trade depends on the facts of each case. If held as an investment, the benefit of broken period interest will not be available. However, if held as a trading asset (stock-in-trade), a deduction for broken period interest can be claimed. The Court noted that if deduction is not allowed, the broken period interest would have to be added to the acquisition cost of the securities, reducing the profit earned from their sale in subsequent years. The Court restored the ITAT's decisions in the lead cases (Civil Appeal Nos. 3291-3294 of 2009) and dismissed the Revenue's appeals, subject to the clarification regarding HTM securities.

What were the facts?

The appeals concern the tax treatment of "broken period interest" paid by banks when purchasing government securities. Banks are required by RBI guidelines to maintain a Statutory Liquidity Ratio (SLR) by purchasing government securities, categorized as Held to Maturity (HTM), Available for Sale (AFS), or Held for Trading (HFT). When a bank buys a security between coupon payment dates, it pays the accrued interest for that broken period in addition to the security's price. This broken period interest is then reimbursed to the bank when the full coupon interest is paid. The assessee banks treated these securities as stock-in-trade and sought to deduct the broken period interest paid. The Assessing Officers initially allowed this practice, but the Commissioner of Income Tax (CIT) invoked Section 263, holding the deduction inadmissible, often relying on the Supreme Court's decision in Vijaya Bank Ltd. The Income Tax Appellate Tribunal (ITAT) and various High Courts have taken differing views, leading to these appeals.

What were the issues?

1. Whether, for assessment years post the repeal of Sections 18 to 21 of the Income Tax Act, 1961, broken period interest paid by a bank on the purchase of government securities, treated as stock-in-trade, is an allowable revenue expenditure under Section 28 of the Act? The assessee contends that since the securities are held as stock-in-trade, the broken period interest is an integral part of the cost of acquisition and thus a revenue expenditure deductible under Section 28. They argue that netting this against interest received on sale is a consistent accounting practice. The Revenue contends, citing Vijaya Bank Ltd., that broken period interest is not an allowable deduction under the head 'interest on securities' and, if not capitalized, would lead to a distortion of income. The Revenue also argued in some cases that the outlay on securities was a capital outlay, making the interest capital expenditure.

Which sections of the Income-tax Act were involved?

Section 28,Section 263

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[2024] 10 S.C.R. 860 : 2024 INSC 781 Bank of Rajasthan Ltd. v.

Commissioner of Income Tax (Civil Appeal Nos. 3291-3294 of 2009) 16 October 2024 [Abhay S. Oka* and Pankaj Mithal, JJ.] Issue for Consideration Issue arose as regards the treatment to be given to broken period interest, whether a deduction of the broken period interest can be claimed by the Bank, purchaser of the government Securities.

Headnotes† Income Tax Act, 1961 – s.28 – Interest on securities – Interest on Held to Maturity (HTM) government securities – Interest for the broken period, if allowed as a deduction: Held: As the securities were treated as stock-in-trade, the interest on the broken period cannot be considered as capital expenditure and will have to be treated as revenue expenditure, which can be allowed as a deduction – Whether the Bank holds the HTM security as investment or stock-in-trade will depend on the facts of each case – If it is found that HTM Security is held as an investment, the benefit of broken period interest will not be available and if it is held as a trading asset, deduction for broken period interest can be claimed – If deduction on account of broken period interest i

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