Banks need to deposit TDS with the tax department. Typically, banks deduct 10% tax on the interest earned by a depositor, which is reflected in Form 26AS. The depositor needs to calculate the applicable tax based on the income slab rate and pay it when filing income tax return (ITR). For example, a depositor in the 30% slab would have to pay another 20% of the interest as tax.
What PMC Bank depositors are facing is not unique. Depositors of cooperative banks and even deposit-taking non-banking financial companies (NBFCs), under RBI restrictions, have faced similar issues in the past.
Restriction rationale
Whenever banks or deposit-taking NBFCs are seen by RBI as mismanaging operations, it may bar depositors from withdrawing money from their accounts or making any payments. The Banking Regulation Act gives the regulator powers to take action if it feels that the lending institution is not acting in the interest of the depositors.
In many cases, RBI has imposed such restrictions on banks for years as it has tried to find a resolution in the interim. Until such institutions are merged with another or are liquidated, depositors remain unsure about how much money they will get back. The resolution can take a few months or even decades.
IMPACT ON DEPOSITORS
Mumbai-based Dinesh Gupta, 52, discovered that he has to pay tax on his PMC Bank deposit when his chartered accountant (CA) told him while filing his ITR that his Form 26AS was reflecting TDS which PMC Bank has deposited with the income tax department. “Over the past 12-15 years, I saved ₹20 lakh for my son’s education. I don’t know how much money I will get back, but I still need to pay tax on ‘notional’ interest," said Gupta, who works with a finance company.
Some tax experts feel that TDS is a procedural requirement that needs to be carried out and is beneficial for some depositors.
“Banks are right in deducting tax on the interest accruing on fixed deposits. A bank is liable to pay interest on deposits even though it is restricted from making payments at present," said Sonu Iyer, tax partner and people advisory services leader, EY India, a tax audit and consultancy firm.
If a bank is crediting interest in its books in favour of depositors, it is legally liable to deduct tax on such interest. This way, the depositor also gets to know that the interest is credited.
This can be beneficial for individuals whose taxable income is nil—up to ₹5 lakh at present—considering the ₹12,500 tax rebate. The amount of tax can be seen in the TDS certificate through Form 16A and Form 26AS. If the interest income is not liable to tax, the depositor may file Form 15G (15H for senior citizens) along with supporting documents and request the bank not to withhold any tax on interest income.
However, there is a flip side too. If the depositor gets back only part of the money, there is no way to claim the TDS paid on the amount lost in deposits. “Tomorrow if a bank is liquidated or the depositor gets only a part of his money, there is no provision to claim back TDS," said Naveen Wadhawa, deputy general manager, Taxmann.com, a platform that provides tax research-related services.
Besides TDS, individuals in the higher tax brackets will also lose out on the additional tax they would have paid, since banks deduct only 10% TDS.
What’s the solution?
“At the time of processing ITR, the tax department could raise a question or make an adjustment if the ITR does not match with Form 26AS. In that case, an appropriate response explaining the tax position will need to be submitted by the taxpayer," said Shailesh Kumar, partner, Nangia & Co. LLP, a tax audit and consultancy firm. Gupta’s CA Sameer Arora, managing partner at ATMS & Co. LLP, said the firm was reviewing if there are options to not pay such TDS and explain their case to the authorities in case there’s a notice.
One of the ways to save tax outgo is to change the accounting system. There are two methods of accounting—mercantile and cash. Most follow the mercantile method, which requires recording all transactions when they accrue or when they are due.
If an individual or business owner shifts to the cash method, they will need to pay tax when they receive the money. For example, say, the interest has accrued in the financial year (FY) 2019-20 (like in case of PMC Bank). But if they actually receive it in FY22, the interest income can be offered to tax when filing returns then and credit of tax deducted in FY20 can also be claimed in FY22.
“In the ITR of the current financial year, the bank depositors will need to report the withholding tax deducted by the bank during the current financial year which is being carried forward (in the Schedule TDS of ITR-2 or ITR-3). Such TDS can be brought forward and claimed in the ITR of the FY in which interest is received and offered to tax," said Iyer.
According to tax experts, you cannot keep changing the accounting method as and when you wish. If you decide to change it, you will need to stick to it.
If Form 26AS reflects TDS, you will need to pay tax on the deposit that you may or may not get in the future. If your distressed financial institution is not deducting tax, check with your CA if you need to pay any tax.