Civil Application No. 99 of 2000
In 2015, the Tanzania Revenue Authority (TRA) conducted a tax audit of Diamond Trust Bank Tanzania Limited (DTB) covering the years of income 2012, 2013 and 2014. The audit involved several tax liabilities, including corporate income tax, VAT, withholding tax, employment taxes, excise duty and stamp duty.
Following the audit, TRA issued additional tax assessments in 2017, disallowing two principal items claimed by the Bank:
1. Interest in suspense: The Bank had placed accrued but uncollected interest from non-performing loans in suspense accounts in accordance with the Bank of Tanzania (BOT) Banking and Financial Institutions (Management of Risk Assets) Regulations, 2008. It argued that such interest should not be taxed until actually received, since the BOT Regulations required interest on non-performing loans to be accounted for on a non-accrual basis.
2. Written-off loans: The Bank had claimed deductions for loans written off as bad debts. TRA rejected these deductions on the ground that the Bank had not sufficiently demonstrated that the loans were absolutely uncollectable or that reasonable recovery measures had been exhausted.
DTB challenged the assessments before the Tax Revenue Appeals Board, but its appeal was dismissed. It subsequently appealed to the Tax Revenue Appeals Tribunal, which equally upheld TRA's position.
Dissatisfied, the Bank appealed to the Court of Appeal, challenging the interpretation of the Income Tax Act, 2004, particularly concerning the tax treatment of interest in suspense and the requirements for deducting bad debts.
The Court consolidated the grounds of appeal into two principal issues:
Issue 1: Whether interest in suspense arising from non-performing loans was taxable or deductible for income tax purposes.
The Court had to determine whether the Bank could rely on BOT Regulations 30 and 30(2), which require accrued but uncollected interest on non-performing loans to be reversed and placed in suspense, to avoid taxation on an accrual basis under the Income Tax Act, 2004.
Issue 2: Whether the Bank was required to prove that the loans written off as bad debts were genuinely uncollectable before claiming tax deductions.
This involved determining whether the Bank had taken all reasonable recovery measures and established that the debts were absolutely uncollectable, as required under section 39(d) of the Income Tax Act, 2004.
Held against the Bank
The Court held that interest in suspense remained taxable where the Bank had recognised the interest as an entitlement in its books of accounts.
The Court relied on sections 23(1) and 23(2) of the Income Tax Act, 2004, which establish the accrual basis of accounting for income tax purposes.
Under section 23(2), an amount is receivable when a person becomes entitled to receive it, even where payment is postponed or payable by instalments.
The Court therefore reasoned that once the Bank had recognised the interest as an entitlement, it became taxable notwithstanding that the actual payment had not been received.
Importantly, the Court clarified that BOT Regulations 30 and 30(2), although applicable to the Bank's financial reporting and prudential management, could not override the Income Tax Act in matters of taxation.
The Court emphasised that the Income Tax Act governs the determination and collection of income tax.
It consequently concluded that interest in suspense is taxable if the underlying loan has not been established as a bad debt.
Held against the Bank
The Court held that a financial institution seeking to deduct bad debts must satisfy the requirements of section 39(d) of the Income Tax Act, 2004.
The provision establishes two essential conditions:
The financial institution must have taken all reasonable steps to pursue payment of the debt.
The institution must reasonably believe that the debt claim will not be satisfied.
The Court further considered Regulation 19(c) of the BOT Regulations, which classifies credit accommodation as a loss where it is absolutely uncollectable.
The Court found that the Bank had failed to provide sufficient evidence demonstrating that the loans were genuinely uncollectable and that reasonable recovery measures had been undertaken.
It observed that merely writing off a loan in the accounting records does not automatically make it a deductible bad debt for income tax purposes.
The Court also emphasised the importance of documentary evidence, including:
Records demonstrating recovery measures undertaken against borrowers.
Correspondence and communications concerning the debts.
Documentation showing that the debts had been written off in the relevant client accounts.
Board of Directors' resolutions authorising the write-offs.
The Court reaffirmed that under section 18(2) of the Tax Revenue Appeals Tribunal Act, the burden of proving that a tax assessment is incorrect rests upon the taxpayer.
The Bank invited the Court to depart from its earlier decisions, including National Bank of Commerce v Commissioner General, TRA and Access Bank Tanzania Limited v Commissioner General, TRA.
The Court declined the invitation, explaining that it could not depart from its previous decisions without following the prescribed procedure under Rule 106(4) of the Tanzania Court of Appeal Rules, 2009.
The Court found no reasonable grounds to interfere with the decisions of the Tax Revenue Appeals Tribunal.
Accordingly, it:
Dismissed the appeal for lack of merit.
Uphold the tax assessments and the Tribunal's determination.
Awarded costs against Diamond Trust Bank Tanzania Limited.
This decision is particularly important in Tanzania's banking and taxation jurisprudence for the following reasons.
1. Supremacy of the Income Tax Act over prudential banking regulations in tax matters
The decision reinforces the principle that BOT prudential regulations cannot override the Income Tax Act when determining the taxability of income.
Banks may be required by BOT regulations to recognise non-performing loans and reverse accrued interest for financial reporting purposes. However, that treatment does not automatically determine the tax treatment of such income.
The decision therefore establishes an important distinction between prudential accounting and taxation.
2. Recognition of income on an accrual basis
The Court reinforces the application of section 23 of the Income Tax Act, 2004.
The critical consideration is not necessarily whether the taxpayer has received the money, but whether the taxpayer has acquired an entitlement to receive it.
This has significant implications for financial institutions dealing with non-performing loans and interest in suspense.
3. Writing off a loan does not automatically qualify it as a tax-deductible bad debt
One of the most important contributions of this judgment is its clarification that accounting write-offs and tax-deductible bad debts are not necessarily the same thing.
A bank cannot simply remove a loan from its books and automatically claim a tax deduction. It must demonstrate that reasonable recovery measures were undertaken and that the debt is genuinely uncollectable.
4. Evidential burden rests on the taxpayer
The judgment reinforces section 18(2) of the Tax Revenue Appeals Tribunal Act, placing the burden on the taxpayer to demonstrate that an assessment issued by TRA is incorrect.
For financial institutions, this makes proper record-keeping, documentation of recovery efforts and internal authorisation of write-offs particularly important.
5. Clarification of the relationship between section 39(d) and BOT Regulations
The Court harmonised the requirements of section 39(d) of the Income Tax Act with Regulation 19(c) of the BOT Regulations.
Both require evidence that the debt is absolutely uncollectable, while the Income Tax Act additionally requires proof that reasonable recovery measures have been taken.
6. Judicial precedent and the doctrine of stare decisis
The Court reaffirmed that the Court of Appeal cannot simply depart from its previous decisions because a party considers them erroneous. The prescribed judicial procedure must first be followed.
This reinforces certainty, consistency and predictability in Tanzania's tax jurisprudence.
The central legal principle
A bank cannot escape income tax on accrued interest merely by transferring it into an interest-in-suspense account under BOT prudential regulations. Equally, it cannot obtain a tax deduction merely by writing off a loan in its books without demonstrating that reasonable recovery measures were taken and that the debt is genuinely uncollectable.
The principle drawn from the Court's interpretation of sections 23 and 39(d) of the Income Tax Act, 2004.
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