DCIT, CIR-1(1)(1),, AHMEDABAD vs. ADANI POWER MAHARASHTRA LTD.,, AHMEDABAD

आदेश/O R D E R PER WASEEM AHMED, ACCOUNTANT MEMBER:

The captioned appeal has been filed at the instance of the Revenue against the order of the Learned Commissioner of Income Tax(Appeals)-1, Ahmedabad, dated 26/03/2018 arising in the matter of assessment order passed under s. 143(3) of the Income Tax Act, 1961 (here-in-after referred to as "the Act") relevant to the Assessment Year 2014-2015.

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4.1 The assessee further has incurred a loss of ₹ 20.68 crores with respect to such interest rate swap contract. Out of such loss, a sum of ₹11.26 crores was realized on account of interest paid in the year under consideration whereas ₹9.41 crores was representing the valuation of interest rate swap contract based on Mark to market as on the balance sheet date.

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4.2 However, the AO treated such loss as notional loss in terms of CBDT circular No. 3/2010 and therefore disallowed the same by adding to the total income of the assessee.

3.6 On careful consideration of entire facts, it is observed that during the course of Assessment Proceedings Appellant has submitted ledger account with summary of interest rate swap loss along with method of accounting followed by it. The undisputed facts of such loss are that they are on account of revenue transaction and not held to be capital account transaction by AO. When Appellant has enters:] into interest rate swap I by converting floating rate of interest into fixed rate of interest to hedge its exposure against ECB interest payment, loss incurred by Appellant is interest expenditure allowable under Section 36(1)(Hi) of the Act. It is observed .that out of the loss of Rs.20.68 crores, Rs. 11.26 crore is realized loss on account of ECB interest paid during the year which cannot be held as notional loss and even Instruction relied upon by AO cannot be made applicable. The AO has made entire disallowance treating such loss as notional loss whereas the fact is that Rs.11.26 crores represent realized loss hence disallowance made by AO to that extent is deleted. , , It is observed that appellant has made Swap transactions as stated herein above and such facts are apparent from Audited Annual accounts. The AO has not disputed the fact that foreign exchange loss arising from such transactions are not in revenue nature but M2m losses have been disallowed treating it as contingent and unascertained losses. However, Hon'ble Supreme court in the case of CIT v/s, Woodward Governor India P. Ltd. (312 ITR 254) has treated such M2m losses as actual loss and not contingent loss. XXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXX Hon’ble Supreme Court has held that appellant should follow same accounting policies for providing for M2M losses/gain and such losses are not notional loss. During the course of assessment proceedings, appellant has claimed that from AY 2015-16, it has M2M gain on similar transactions which are offered to tax. During the course of appellate hearing, ARs of the appellant has submitted tabular chart in its written submission which show that in A.Y. 2015-16 appellant has earned M2M gain for Rs 29.43 crores and such gain has been offered to tax. Further, Appellant has also earned swap realized gain for Rs.37.91 crores in A. Y. 2015-16 which is also offered to tax 3.6. It is observed that Hon'ble Ahmedabad ITAT in the case of Adani Enterprises I Limited 55 Taxmann.com 375(2015), group case of appellant has held that "Where assessee company has entered into currency swap contracts for working capital loans which was pre- requisite for its business of export and imp 311 of commodities, loss incurred in said contract being in respect of circulating/working capital is allowable business loss". It is also observed that on this very issue, Hon'ble Ahmedabad ITAT in the case of Heavy Metal and Tubes Limited in ITA No 1951/Ahd/2011 dated 30/06/2014 decided the issue in favour of assesses XXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXX 3.7 It is observed that Hon’ble Ahmedabad ITAT in the case of DCIT vs Eletecore Technologies Pvt. Ltd. in ITA no.197 and 508/Ahd/2016 dated 31/03/2017 considered Instruction No.3/2010 relied upon by AO and held

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XXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXX The above decision is further confirmed by Hon'ble Gujarat High court in Tax Appeal No 139 of 2018 dated 20/02/2018 in the case of Elitecore Technologies Pvt Limited. The Hon'ble Ahmedabad ITAT has held that instruction cannot over rule Hon'ble Supreme Court decisions. It is held that when appellant is consistently following same method of accounting for recognizing income/loss of M2M, such loss cannot be disallowed treating it as notional loss. As held in preceding paras, appellant has been consistently following same method of accounting and had recognized significant M2M gain in subsequent assessment yeats hence ratio of above referred decisions scuarely applies to present case. The Hon'ble Delhi High court in the case of Munja! Showa Limited Vs DCIT (supra) has also held that "CBDT Instruction No 3 of 2010 caynot possible override the existing decisions of Supreme Court/High court on similar ii'$ue". It is also observed that in following decisions, courts have held that M2M losses cannot be considered as notional or unascertained losses even after instruction no. 3 of 2010. (i) Decision of Hon’ble Hyderabad ITAT in case of VST Industries Ltd. vs. Addl. CITvide ITA No.647/Hyd/2012 dated 23/08/2013. (ii) Decision of Hon’ble Bangalore ITAT in case of Subex Ltd. Vs DCIT (68 taxmann.com 233) dated 18/03/2016. (iii) Decision of Hon’ble Bangalore ITAT in case of Quality Engineering & Software Technologies (P) Ltd. Vs DCIT (52 taxmann.com 515 Considering the facts discussed herein above and relying upon the decisions referred supra including decisions of Hon’ble Jurisdictional ITAT and High Court, disallowance of loss of Rs.9.41 crores made by AO is deleted. Thus, entire disallowance made by AO for Rs.20,68,00,000/- is deleted.

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calls in accordance with the law and binding judicial precedents. That has not been done. Be that as it may, in the case of Woodward Governor (supra), the issue regarding deductibility of foreign exchange loss came up for consideration before Hon’ble Supreme Court. Their Lordships, dealing with this issue and holding that such a loss will be deductible in computation of business profits, observed as follows: ……….it is clear that profits and gains of the previous year are required to be computed in accordance with the relevant Accounting Standard. It is important to bear in mind that the basis on which stock-in-trade is valued is part of the method of accounting. It is well established, that, on general principles of commercial accounting, in the P&L account, the values of the stock-in-trade at the beginning and at the end of the accounting year should be entered at cost or market value, whichever is lower- the market value being ascertained as on the last date of the accounting year and not as on any intermediate date between the commencement and the closing of the year, failing which it would not be possible to ascertain the true and correct state of affairs. No gain or profit can arise until a balance is struck between the cost of acquisition and the proceeds of sale. The word "profit" implies a comparison between the state of business at two specific dates, usually separated by an interval of twelve months. Stock-in-trade is an asset. It is a trading asset. Therefore, the concept of profit and gains made by business during the year can only materialize when a comparison of the assets of the business at two different dates is taken into account. Sec. 145(1) enacts that for the purpose of s. 28 and s. 56 alone, income, profits and gains must be computed in accordance with the method of accounting regularly employed by the assessee. In this case, we are concerned with s. 28. Therefore, s. 145(1) is attracted to the facts of the present case. Under the mercantile system of accounting, what is due is brought into credit before it is actually received; it brings into debit an expenditure for which a legal liability has been incurred before it is actually disbursed. (See judgment of this Court in the case of United Commercial Bank vs. CIT (1999) 156 CTR (SC) 380 : (1999) 240 ITR 355 (SC). Therefore, the accounting method followed by an assessee continuously for a given period of time needs to be presumed to be correct till the AO comes to the conclusion for reasons to be given that the system does not reflect true and correct profits. As stated, there is no finding given by the AO on the correctness of the Accounting Standard followed by the assessee(s) in this batch of civil appeals. 17. Having come to the conclusion that valuation is a part of the accounting system and having come to the conclusion that business losses are deductible under s. 37(1) on the basis of ordinary principles of commercial accounting and having come to the conclusion that the Central Government has made Accounting Standard-11 mandatory, we are now required to examine the said Accounting Standard ("AS"). 18. AS-11 deals with giving of accounting treatment for the effects of changes in foreign exchange rates. AS-11 deals with effects of exchange differences. Under para 2, reporting currency is defined to mean the currency used in presenting the financial statements. Similarly, the words "monetary items" are defined to mean money held and assets and liabilities to be received or paid in fixed amounts, e.g., cash, receivables and payables. The word "paid" is defined under s. 43(2). This has been discussed earlier. Similarly, it is important to note that foreign currency notes, balance in bank accounts denominated in a foreign currency, and receivables/payables and loans denominated in a foreign currency as well as sundry creditors are all monetary items which have to be valued at the closing rate under AS-11. Under para 5, a transaction in a foreign currency has to be recorded in the reporting currency by applying to the foreign currency amount the exchange rate between the reporting currency and the foreign currency at the date of the transaction. This is known as recording of transaction on initial recognition. Para 7 of AS-11 deals with reporting of the effects of changes in exchange rates subsequent to initial recognition. Para 7(a) inter alia states that on each balance sheet date

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monetary items, enumerated above, denominated in a foreign currency should be reported using the closing rate. In case of revenue items falling under s. 37(1), para 9 of AS-11 which deals with recognition of exchange differences, needs to be considered. Under that para, exchange differences arising on foreign currency transactions have to be recognized as income or as expense in the period in which they arise, except as stated in para 10 and para 11 which deals with exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which topic falls under s. 43A of the 1961 Act. At this stage, we are concerned only with para 9 which deals with revenue items. Para 9 of AS-11 recognises exchange differences as income or expense. In cases where, e.g., the rate of dollar rises vis-a-vis the Indian rupee, there is an expense during that period. The important point to be noted is that AS-11 stipulates effect of changes in exchange rate vis-a-vis monetary items denominated in a foreign currency to be taken into account for giving accounting treatment on the balance sheet date. Therefore, an enterprise has to report the outstanding liability relating to import of raw materials using closing rate of exchange. Any difference, loss or gain, arising on conversion of the said liability at the closing rate, should be recognized in the P&L account for the reporting period. 10. As stated above, on facts in the case of M/s Woodward Governor India (P) Ltd., the Department has disallowed the deduction/debit to the P&L a/c made by the assessee in the sum of Rs. 29,49,088 being unrealized loss due to foreign exchange fluctuation. At the very outset, it may be stated that there is no dispute that in the previous years whenever the dollar rate stood reduced, the Department had taxed the gains which accrued to the assessee on the basis of accrual and it is only in the year in question when the dollar rate stood increased, resulting in loss that the Department has disallowed the deduction/debit. This fact is important. It indicates the double standards adopted by the Department. 11. The dispute in this batch of civil appeals centers around the year(s) in which deduction would be admissible for the increased liability under s. 37(1). 12. We quote hereinbelow s. 28(i), s. 29, s. 37(1) and s. 145 of the 1961 Act, which read as follows : "Sec. 28. Profits and gains of business or profession—The following income shall be chargeable to income-tax under the head "Profits and gains of business or profession", — (i) the profits and gains of any business or profession which was carried on by the assessee at any time during the previous year." "Sec. 29. Income from profits and gains of business or profession, how computed—The income referred to in s. 28 shall be computed in accordance with the provisions contained in ss. 30 to 43D." "Sec. 37. General—(1) Any expenditure (not being expenditure of the nature described in ss. 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head "Profits and gains of business or profession. Explanation : For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure." "Sec. 145. Method of accounting—(1) Income chargeable under the head "Profits and gains of business or profession" or "Income from other sources" shall, subject to the provisions of sub-s. (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee.

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(2) The Central Government may notify in the Official Gazette from time to time accounting standards to be followed by any class of assessees or in respect of any class of income. (3) Where the AO is not satisfied about the correctness or completeness of the accounts of the assessee, or where the method of accounting provided in sub-s. (1) or accounting standards as notified under sub-s. (2), have not been regularly followed by the assessee, the AO may make an assessment in the manner provided in s. 144." 13. As stated above, one of the main arguments advanced by the learned Addl. Solicitor General on behalf of the Department before us was that the word "expenditure" in s. 37(1) connotes "what is paid out" and that which has gone irretrievably. In this connection, heavy reliance was placed on the judgment of this Court in the case of Indian Molasses Company (supra). Relying on the said judgment, it was sought to be argued that the increase in liability at any point of time prior to the date of payment cannot be said to have gone irretrievably as it can always come back. According to the learned counsel, in the case of increase in liability due to foreign exchange fluctuations, if there is a revaluation of the rupee vis-a-vis foreign exchange at or prior to the point of payment, then there would be no question of money having gone irretrievably and consequently, the requirement of "expenditure" is not met. Consequently, the additional liability arising on account of fluctuation in the rate of foreign exchange was merely a contingent/notional liability which does not crystallize till payment. In that case, the Supreme Court was considering the meaning of the expression "expenditure incurred" while dealing with the question as to whether there was a distinction between the actual liability in praesenti and a liability de futuro. The word "expenditure" is not defined in the 1961 Act. The word "expenditure" is, therefore, required to be understood in the context in which it is used. Sec. 37 enjoins that any expenditure not being expenditure of the nature described in ss. 30 to 36 laid out or expended wholly and exclusively for the purposes of the business should be allowed in computing the income chargeable under the head "Profits and gains of business". In ss. 30 to 36, the expressions "expenses incurred" as well as "allowances and depreciation" has also been used. For example, depreciation and allowances are dealt with in s. 32. Therefore, Parliament has used the expression "any expenditure" in s. 37 to cover both. Therefore, the expression "expenditure" as used in s. 37 may, in the circumstances of a particular case, cover an amount which is really a "loss" even though the said amount has not gone out from the pocket of the assessee. 15. For the reasons given hereinabove, we hold that, in the present case, the "loss" suffered by the assessee on account of the exchange difference as on the date of the balance sheet is an item of expenditure under s. 37(1) of the 1961 Act 25. In the present case also, the assessee is consistently following the mercantile method of accounting, the same accounting treatment for the foreign exchange losses and gains has been given by the assessee all along, the assesse is making entries in respect of such losses and gains, and the treatment is consistent with the Accounting Standards. As a matter of fact, the Assessing Officer has not even raised any issues with respect to the above. His case is confined to the loss being notional in nature and contrary to the CBDT guidelines, but then, in the same breath, he taxes the gains on foreign exchange which are computed on the same basis. If losses are held to be notional, even the gains must be held notional too. However, this aspect of the matter is conveniently ignored. As a matter of fact, it was somewhat similar situation in the case before Hon’ble Supreme Court and Their Lordships could not help remarking that “it may be stated that there is no dispute that in the previous years whenever the dollar rate stood reduced, the Department had taxed the gains which accrued to the assessee on the basis of accrual and it is only in the year in question when the dollar rate stood increased, resulting in loss that the Department has disallowed the deduction/debit. This fact is important. It indicates the double standards adopted by the Department.” In the present case, the facts are even more glaring in as much as the gains

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on foreign exchange contracts in the same year have been taxed as ‘other income’, the losses on foreign exchange contracts have not been allowed as deduction. Such an approach cannot meet any judicial scrutiny. As we say so, we must make it clear that since the assessee succeeds on merits, in the light of Hon’ble Supreme Court’s direct judgment on the issue in the case of Woodward Governor (supra), such considerations of equity are rather peripheral issues. The assessee has succeeded on merits. As for the CBDT instructions, it is only elementary that any instructions issued by the CBDT cannot bind the assessee even though the assessee is entitled to, and can legitimately ask for, any benefits granted to the assessee by such instructions or circulars. Nothing, therefore, turns on the CBDT instruction even if it is actually contrary to the claim of the assessee.

9.1 The facts of the case on hand are identical to the facts of the case as discussed above. We also find that the above decision is further confirmed by the Hon’ble jurisdictional High Court in Tax Appeal No 139 of 2018 dated 20/02/2018. Respectfully following the same, we do not find any infirmity in the order of the learned CIT (A). Hence the ground of appeal of the Revenue is dismissed.

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expenditure of Rs.15,74,959/- is not claimed as expenditure in current year, no disallowance u7s.40A(vii) can be made in current year. The Appellant has also referred to audited annual accounts wherein in point No.26 details of employee benefits expenses debited in current year are given which proves that Appellant has claimed gratuity expenses of Rs.2.99 crores in current year. However, the AO has made disallowance relying on remarks of the Auditor. Appellant has reiterated its arguments as were raised before AO and contended that no disallowance should be made. On careful consideration of entire facts, it is observed that Appellant has claimed gratuity expenses in current year for Rs.2.99 crores In current year which is apparent from the Schedule No. 26 of audited annual accounts. Further, Auditor, at para 43 of notes forming part of Financial Statements has given reconciliation of employees' benefits wherein also it has been stated that gratuity cost recognized in statement of profit & loss account is Rs.2.99 crores. The Appellant has also submitted copy of ledger account of gratuity expense during Assessment Proceedings as well Appellate Hearing which support it contention that payment of gratuity made by Appellant for Rs.3,14,46,585/- includes payment of Rs.15,74,959/- towards opening outstation gratuity provision and balance is towards is current year expenditure. When Appellant has claimed gratuity expenses in profit & loss account of Rs.15.75 lacs only on the basis of remarks of Auditor in tax audit report. Disallowance cannot be made for any expenditure which has not been claimed in current year. Considering these facts disallowance made by AO for Rs.15,74,959/- is deleted.

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the order of learned CIT (A) and thus we direct the AO to delete the addition made by him. Hence the ground of appeal of the Revenue is dismissed.

Order pronounced in the Court on 17/03/2021 at Ahmedabad.

Sd/- Sd/- (MAHAVIR PRASAD) (WASEEM AHMED) JUDICIAL MEMBER ACCOUNTANT MEMBER (True copy) Ahmedabad; Dated 17/03/2021 manish