A funded interest balance is not proof of payment
For FY 2025–26 and AY 2026–27, apply the Income-tax Act, 1961. Interest otherwise deductible under section 43B(e) on a covered scheduled-bank loan or advance is subject to actual payment. Explanation 3D says conversion into a loan, advance, debenture or other instrument that defers the liability does not count as actual payment. This guide uses scheduled-bank examples; other covered lenders must be classified under their own provisions.
Read the applicable text: Income Tax Department, section 43B and Explanation 3D CBDT Circular 23/2022, explanation of funded interest amendments Income Tax Department, Form 3CD utility CBDT Notification 49/2026, notified AY 2026–27 ITR-6 Income Tax Department, transition guidance.
Follow the cash and the lender allocation
Obtain the original loan and restructuring agreements, lender statement and transaction evidence. Distinguish repayment of original loan principal, current interest, historical funded interest and other charges. A renewed liability or interest capitalisation entry can increase loan principal for the lender's records without extinguishing the interest by actual payment for section 43B. Where a payment includes both funded interest and original principal, trace the lender's allocation rather than deduct the entire remittance.
Distinguish two timing rules
For current-year interest otherwise allowable, check the first proviso to section 43B and actual payment by the company's applicable section 139(1) due date, with the required evidence. A conversion before that date does not meet actual payment. For a preceding-year amount already disallowed, trace actual payment in the relevant later previous year and confirm it was not already allowed. Do not use a payment made after year-end to release a prior-year add-back in the year just closed. This timing screen does not turn a capital or otherwise inadmissible cost into a deductible item.
Reconcile the audit and return fields
Where audit applies, Form 3CD clause 26 distinguishes prior-year disallowed liabilities in part A and liabilities incurred in the current previous year in part B. For scheduled-bank interest within the scope described, the notified AY 2026–27 ITR-6 shows Part A-OI 11e for the disallowable current P&L debit and 10e for a prior disallowance now allowable. The 11i and 10i totals feed Schedule BP items 18 and 31 respectively. Keep amounts outside those definitions, including amounts not charged to the current statement of profit and loss, in separate workings; validate that the same movement affects business income once.
Keep the history until final repayment
Use loan-by-loan records to connect the original interest debit, prior add-back, converted balance, actual repayment and closing tax balance. Keep NBFC and public-financial-institution categories separate rather than placing them in the scheduled-bank row by default.
Six worked illustrations
All facts and amounts are fictional. Calculations illustrate the stated assumptions, not a predetermined legal outcome.
Illustrative example 1: Conversion of the entire interest
A company debits ₹9 lakh covered interest and the bank converts all of it into a funded loan. No amount is actually paid by the applicable deadline. Current add-back is ₹9 lakh.
Illustrative example 2: Separate actual payment and deferred amount
Of ₹12 lakh accrued bank interest, ₹5 lakh is actually paid during the year and ₹7 lakh is converted without qualifying payment by the applicable deadline. The supported current deduction is ₹5 lakh and add-back ₹7 lakh.
Illustrative example 3: Current interest paid by the applicable due date
₹6 lakh is charged in the year; ₹4 lakh is actually paid before year-end and ₹2 lakh after year-end but within the applicable section 139(1) due date, with the required evidence. Subject to the first proviso and other conditions, the ₹6 lakh is allowable; the unpaid portion for the add-back is nil.
Illustrative example 4: Later payment covers two different balances
An ₹8 lakh repayment is allocated by the bank as ₹5 lakh to original principal and ₹3 lakh to funded interest previously disallowed. With no other restriction, the later deduction candidate is ₹3 lakh, not ₹8 lakh.
Illustrative example 5: Reconcile the closing funded-interest balance
A ₹10 lakh previously disallowed funded-interest balance is reduced by ₹4 lakh qualifying actual payment and increased by ₹2 lakh new converted interest disallowed this year. The closing tax tracking balance is ₹8 lakh.
Illustrative example 6: Do not net away two return movements
Current interest of ₹7 lakh remains disallowable and ₹3 lakh of previously disallowed interest qualifies now. Report separate gross movements; the resulting net increase in business income is ₹4 lakh, assuming no other adjustment.
Ten-step verification table
| Step | Action | Evidence |
|---|---|---|
| 1 | Identify the lender and facility | Loan agreement and legal classification |
| 2 | Confirm the original interest basis | Interest ledger and computation |
| 3 | Separate charged, converted and paid amounts | Restructuring and bank statements |
| 4 | Verify the due date and current payment evidence | Applicable section 139(1) calendar and proof |
| 5 | Trace earlier disallowance | Prior tax computation and return |
| 6 | Verify actual later allocation | Lender statement by principal and funded interest |
| 7 | Reconcile Form 3CD clause 26 | Prior and current liability working |
| 8 | Check Part A-OI fields | Rows 10e and 11e with category support |
| 9 | Verify Schedule BP movements | Items 18 and 31 and net computation |
| 10 | Carry the remaining amount forward | Tax history by facility and original debit |
Sixteen practitioner FAQs
1. Is a funded interest term loan actual payment?
No. Explanation 3D addresses conversion that defers payment.
2. What if the instrument is a debenture?
A conversion into a debenture that defers payment is within the Explanation.
3. Does bank accounting settle tax treatment?
No. Verify actual payment and its allocation.
4. Can covered current interest be paid after year-end?
The first proviso may allow payment by the applicable return due date with evidence.
5. Does that deadline make conversion payment?
No. Conversion remains distinct from actual payment.
6. What if only part is paid?
Separate supported payment from deferred or unpaid amounts.
7. Can original principal repayment be deducted as interest?
No. Trace the allocation.
8. Which assessment year does the article cover?
AY 2026–27 for FY 2025–26 under the 1961 Act.
9. Does section 43B grant deduction for a capital expense?
No. Start with an otherwise allowable deduction.
10. Which audit clause is relevant?
Clause 26 of Form 3CD where applicable.
11. Which ITR field is for current disallowable scheduled-bank interest?
Part A-OI 11e on the stated facts.
12. Which field is for qualifying prior disallowance now allowed?
Part A-OI 10e on the stated facts.
13. Are current and prior amounts entered net?
No. Reconcile both gross flows and confirm the net business result.
14. Can a prior deduction be claimed twice?
No. Confirm the earlier amount was actually disallowed and has not been released already.
15. Do all lenders use the same row?
No. Classify the lender and applicable subsection first.
16. What evidence is most useful on repayment?
Lender allocation linked to actual payment and the original disallowance.
Official sources
Income Tax Department, section 43B and Explanation 3D CBDT Circular 23/2022, explanation of funded interest amendments Income Tax Department, Form 3CD utility CBDT Notification 49/2026, notified AY 2026–27 ITR-6 Income Tax Department, transition guidance CBDT cross-references for Form 3CD clause 26