Interest on Mandatory Statutory Deposits of Co-operative Credit Society Eligible for Section 80P(2)(a)(i) Deduction: ITAT Bangalore

1. Background and Core Issue

The Bangalore Bench of the Income Tax Appellate Tribunal, in Nagini Cooperative Credit Society Limited Vs ITO (ITAT Bangalore), examined whether interest earned on funds compulsorily parked with banks in compliance with the Karnataka Co-operative Societies Act, 1959 can be treated as business income eligible for deduction under Section 80P(2)(a)(i), or whether it must be assessed as “Income from other sources” under Section 56.

The dispute arose in relation to Assessment Year 2023–24, where the assessee, a registered credit co-operative society engaged solely in extending credit to its members, claimed deduction on its entire income under Section 80P(2)(a)(i). The Assessing Officer denied the benefit on interest of ₹77,31,599, assessing this amount as taxable income.

The Tribunal ultimately held that the interest generated from statutory and mandatory reserve funds deposited with banks was attributable to the assessee’s business of providing credit facilities and therefore qualified for deduction under Section 80P(2)(a)(i) of the Income Tax Act, 1961.

2. Facts in Brief and Assessment Proceedings

2.1 Return and Selection for Scrutiny

  • The assessee filed its return of income on 19 September 2023, declaring nil taxable income after claiming deduction under Section 80P(2)(a)(i).
  • The case was picked up for scrutiny as it involved an issue that the Department had been contesting on a recurring basis.
  • The assessee is a co-operative society registered under the Karnataka Co-operative Societies Act, 1959, carrying on the business of providing credit facilities exclusively to its members.

2.2 AO’s Enquiry and Findings

During scrutiny under Section 143(3) read with Section 144B, the Assessing Officer:

  • Examined the annual accounts of the assessee.
  • Issued notices under Section 133(6) to Karnataka Gramin Bank and other banks.
  • From Karnataka Gramin Bank’s response, noted:
    • Total credits of ₹2.86 crore, including current year credits of ₹2.65 crore
    • Interest credited of ₹44,771

From the return and financials, the AO observed:

  • The assessee had earned total income of about ₹3.68 crore.
  • A corresponding deduction under Section 80P(2)(a)(i) was claimed, bringing the taxable income to nil.
  • The net profit figure included interest of ₹76,91,291 on investments of ₹12.91 crore, comprising interest on savings accounts and other bank deposits.

The AO took the view that:

  • Deduction under Section 80P(2)(a)(i) is confined to interest from lending to members.
  • Interest received from bank deposits does not fall within that clause and should instead be taxed as “Income from other sources”.

Accordingly, he:

  • Proposed to disallow deduction on bank interest of ₹76,91,299.
  • Proposed a separate disallowance of ₹40,300 being interest from Karnataka Gramin Bank.

2.3 Assessee’s Explanation Before AO

The assessee argued before the AO that:

  • Its only business is providing credit to members.
  • The deposits with banks were made out of members’ funds and statutory reserve funds connected with its credit activity.
  • Under Section 80P(2)(a)(i), the expression “profits and gains of business attributable to” is broader than “derived from”, hence the interest on such deposits formed part of its business income.

The AO rejected these submissions, treated the interest as not eligible under Section 80P, and completed the assessment:

  • Additions made: ₹76,91,299 + ₹40,300
  • Total income determined: ₹77,31,599
  • Assessment order dated 17 February 2025, passed under Section 143(3) read with Section 144B.

3. Appeal Before CIT(A) and Partial Relief

3.1 CIT(A)’s Approach

On appeal, the National Faceless Appeal Centre (CIT(A)) partly accepted the assessee’s contentions. The CIT(A):

  • Accepted that interest directly connected with the assessee’s core activity of lending to members is eligible for deduction under Section 80P.
  • Held that interest from statutory deposits and deposits with other co-operative societies qualifies for deduction under Section 80P.
  • Directed that interest from deposits with commercial banks and other financial institutions be treated as income from other sources, not as business income.

Thus, while recognising the relevance of the source and purpose of the funds, the CIT(A) still maintained a distinction based on the nature of the bank with which the deposits were held.

3.2 Continuation of Dispute

The assessee remained aggrieved regarding the denial of deduction on ₹77,31,599, which, it contended, represented interest from: