[Opinion] Allowability of Provisions for Expenses Under the Income Tax Act, 1961

Shubham Jain – [2025] 173 taxmann.com 778 (Article)

1. Introduction

In the realm of accounting, the term “provision” refers to an amount set aside out of profits or other surpluses to provide for any known liability of which the amount cannot be determined with substantial accuracy. Provisions are often made for expenses that are expected to arise in the future, based on the accrual concept of accounting.

However, while accounting principles (as governed by the Companies Act, Accounting Standards, and Ind AS) permit such provisions, the treatment under the Income Tax Act, 1961 (hereinafter referred to as “the Act”) may differ significantly. This article aims to delineate the legal acceptability of such provisions under the Act, with reference to judicial pronouncements, statutory provisions, and the Income Computation and Disclosure Standards (ICDS).

2. Accounting v. Income Tax – A Distinction in Approach

Under the accounting framework, provisions for expenses are recognised based on the accrual principle—expenses are accounted for in the period in which they are incurred, regardless of the timing of payment. This includes both ascertained liabilities and certain contingent liabilities, where estimations can be made with reasonable accuracy.

Conversely, under the Income Tax Act, 1961, the computation of taxable income is governed not merely by accounting standards but by specific statutory provisions. While Section 145(1) allows income to be computed under the mercantile system of accounting, the allowability of expenses—including provisions—must be scrutinized under various sections, including Sections 28 to 44, 36, 37, 40, and 43B of the Act.

3. General Disallowance of Provisions

The Act generally disallows certain provisions unless they meet specific criteria. For example –

• Provision for Doubtful Debts is not allowed under Section 36(1)(vii) unless the debts are actually written off.
• Provision for Gratuity is disallowed under Section 40A(7) unless paid to an approved gratuity fund.
• Provision for Taxation is disallowed, as taxes are allowable only on payment basis under Section 43B.

However there is also a provision of ICDS, which talk about the allowability of provision of expenses –

4. ICDS X – Provisions, Contingent Liabilities and Contingent Assets

The Income Computation and Disclosure Standards (ICDS), provide further clarity. ICDS X specifically deals with provisions and states –

“A provision shall be recognised when –

(a) A person has a present obligation as a result of a past event;

(b) It is reasonably certain that an outflow of resources embodying economic benefits will be required to settle the obligation; and

(c) A reliable estimate can be made of the amount of the obligation.”

If these three conditions are not met, no provision shall be recognised for the purposes of income tax computation.

Click Here To Read The Full Article