I started a two-year fixed deposit (FD) in January at a 9% interest rate. On 31 March, the bank calculated the interest earned/accrued at 9% for three months and charged tax deducted at source (TDS). The annual information statement (26AS) shows the interest income of 9% over three months and demands tax on it. However, I broke this FD in May and the bank recalculated the interest income for the period January to May at 5% on account of premature withdrawal.
Now, in ITR/AIS/26AS, the income reflects the amount earned at 9% against the actual 5%. What will happen in this case? Should I pay tax on the amount calculated at 9% or the actual 5%? And if 5%, how should I get the TDS certificate rectified? What happens to TDS as the interest income will be higher than real earnings?
—Name withheld on request
While the interest actually received by you is at the rate of 5%, the interest accrued during financial year 2024-25 (FY25) is at the rate of 9% and the revision of the rate to 5% is a penalty for premature withdrawal, which has occurred only after 31 March 2025. Therefore, for FY25, whether the interest accrued can be offered at 5% is doubtful and highly debatable.
It would not be possible for the bank to revise its TDS and SFT (statement of financial transaction) returns to show the lower amount of interest for FY25, as the revision in the rate of interest has occurred after 31 March, and the bank has deducted the TDS on an accrual basis, in accordance with the law.
However, in respect of interest income and other income chargeable under the head ‘income from other sources’ or ‘income from business or profession’, you have an option to offer the income to tax either on an accrual basis or on a cash basis. Therefore, while the bank would need to deduct TDS under the accrual basis for the interest, you could offer the entire interest to tax only on receipt of the interest on maturity/withdrawal.
This cash method of accounting for bank FD interest would need to be consistently followed in the case of interest received on all your bank FDs, and cannot be done only for this FD in isolation. A change in the method of accounting is permissible in law, but only if it is consistently followed in future as well.
In your case, you may choose not to offer the interest accrued to tax in FY25, as you had not received the interest during that year, but it was merely accrued by the bank for accounting purposes and for withholding the TDS. If you choose to follow this cash method, you can carry forward any TDS appearing in Form 26AS to the subsequent year in your return for FY25 in Schedule TDS, as the TDS is to be claimed in the year in which the income is offered to tax.
In the subsequent year, you would offer the entire interest of 5% received, along with the credit of the corresponding TDS. There would be a mismatch of the income offered by you and that appearing in Form 26AS/ AIS/ TIS, and could result in issues at the time of processing of the income tax return, which would need to be explained to the authorities.
If you continue to offer the interest to tax on accrual basis in your return for FY25, and offer only the 5% interest and corresponding TDS credit, this may not be accepted by the tax authorities, as rate was revised after 31 March 2025. Therefore, up to 31 March, the interest has accrued at the rate of 9%. This could result in litigation.
Mahesh Nayak is a chartered accountant at CNK & Associates.
