Context:
The Indian government is reviewing a proposal from banks to amend the Income Tax Act and align the definition and treatment of Non-Performing Assets (NPAs) with the Reserve Bank of India’s (RBI) regulatory norms. This move aims to provide relief from taxation on unrealised interest income.
Key Regulatory Divergence
- RBI Definition of NPA:
- Loan becomes NPA if interest or principal is overdue for more than 90 days.
- Income Tax Act Definition:
- Loan is considered NPA only if overdue for more than 6 months.
Proposed Changes Under Consideration
- Exemption of Interest on NPAs:
- Amendment of Section 43D to prevent taxation of notional interest on NPAs unless realised or credited.
- Would align tax treatment with RBI’s prudential norms.
- Enhanced Provisioning Deduction:
- Lenders have proposed raising tax-deductible provisioning for NPAs from 8.5% to 15% of gross income.
- Relevant under Section 36(1)(viia) of the Income Tax Act.
- Applicable to banks, NBFCs, and housing finance companies.
Government Review Process:
- Inter-ministerial Consultations:
- Suggestions submitted to the Department of Financial Services (DFS) in May 2025.
- DFS has flagged the issue to the Department of Revenue, Ministry of Finance.
- Stakeholder Committee:
- Includes tax officials, industry representatives, and the Institute of Chartered Accountants of India (ICAI).
- Reviewing changes to the draft Income Tax law, including NPA taxation norms.
Current Status of NPAs:
- Gross NPAs (GNPAs) of Scheduled Commercial Banks (SCBs) stood at ₹4.16 lakh crore as of Q4 FY25.
Implications if Accepted:
- Boost to Bank Profits:
- Prevents tax outgo on unrealised income.
- Encourages more realistic income reporting aligned with prudential norms.
- Reduced Litigation:
- May lower tax-related disputes in courts over NPA-related interest income.
BS
