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Income Tax Appellate Tribunal, “E” BENCH, MUMBAI
Before: SHRI C.N. PRASAD & SHRI RAMIT KOCHAR
सुनवाई क" तार"ख /Date of Hearing : 24-08-2016 घोषणा क" तार"ख /Date of Pronouncement : 04-11-2016 आदेश / O R D E R
PER RAMIT KOCHAR, Accountant Member
This appeal, filed by the Revenue, being 5th February, 2013 passed by learned Commissioner of Income Tax (Appeals)- 39, Mumbai (hereinafter called “the CIT(A)”), for the assessment year 2008-09, the appellate proceedings before the learned CIT(A) arising from the assessment order dated 30.12.2010 passed by the learned Assessing Officer (hereinafter called “the AO”) u/s 143(3) of the Income-tax Act,1961 (Hereinafter called “the Act”).
ITA 3623/Mum/2013 2
The grounds of appeal raised by the Revenue in the memo of appeal filed with the Income Tax Appellate Tribunal, Mumbai (hereinafter called “the Tribunal”) read as under:-
1. On the facts and in the circumstances of the case and in law, the Ld. CIT(A) erred in deleting the disallowance of Rs.2,86,98,167/- being the loss pertaining the option contract open at the year end, recognized at the year end rate i.e. Marked to Market loss, debited to the Profit & Loss Account, without appreciating that such loss is not allowable u/s 37(1) of the Act.
2. On the fact and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the disallowance of Rs.2,78,283/- being exchange rate difference relating to marked to Market loss, without appreciating that such loss is not allowable u/s 37(1) of the Act.
3. On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the disallowance of Rs.2,89,76,450/- (2,86,98,167 + 2,78,283) being the Marked to Market loss on open derivative contracts by wrongly relying on the decision of the Supreme Court in the case of CIT vs Woodward Governor India Pvt. Ltd. 179 Taxmann 326, without appreciating that allowance of such loss is not envisaged by the Hon'ble Apex Court in the case cited supra, in which foreign exchange loss on outstanding loans for working capital has been held allowable as revenue expenditure while foreign exchange loss on outstanding loans for fixed assets is to be treated as provided in Section 43A of the Act.
4. On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the disallowance of Rs.2,86,98,167/- being the Marked to Market loss on open derivative contracts, ignoring CBDT's Instruction No.3/2010 dated 23.03.2010. The appellant prays that the order of the CIT(A) on the above ground above set aside and that of the ITO/ ACIT/DCIT be restored.”
3. The Brief facts of the case are that the assessee is engaged in the business of vitrified tiles and sanitary ware and also as a part of business does import of raw materials for manufacture of vitrified tiles and sanitary ware . In the return of income filed with the Revenue, the assessee had claimed Rs. 2,89,76,450/ being foreign exchange rate loss on account of outstanding transactions (marked to market). The A.O. disallowed the said ITA 3623/Mum/2013 3 exchange rate loss on the ground that the said loss pertains to unsettled transactions and in view of instructions no 3/2010 dated 22.3.2010, the said loss on unsettled transactions is not allowable which was added to the total income of the assessee. The loss of Rs. 2,78,283/- on account of unrealized transaction (marked to market) on unsettled transactions was also disallowed by the AO and added to the total income of the assessee. The A.O. relied on the Instruction No.3/2010 dated 23rd March, 2010, vide assessment order dated 30-12-2010 passed u/s 143(3) of the Act. On first appeal before the learned CIT(A) , the ld. CIT(A) accepted the contentions of the assessee and allowed the appeal of the assessee by holding that there was a loss on account of fluctuation in foreign exchange rate. The assessee contended that the liability has been accrued because of fluctuation in foreign exchange rate. The assessee submitted before the learned CIT(A) that it is consistently following the accrual basis of accounting which has been accepted by the Revenue in the past. It is submitted that the foreign exchange loss is a business loss and it is to be allowed. It was submitted that in the assessment year 2007-08, there was income on account of fluctuation in foreign exchange as at year end and the income was offered for tax in assessment year 2007-08 which was accepted by the Revenue. The similar accounting policy was adopted in the earlier years also which has been accepted by the Revenue, over the years. The assessee relied on the decision of the Hon’ble Supreme Court in the case of CIT v. Woodward Governor India Pvt. Ltd., (2009) 179 Taxman 326 (SC) and submitted that the foreign exchange loss is a business loss and that it is to be allowed as deduction while computing income of the assessee as per provisions of the Act. The ld. CIT(A) held that the conversion of receivables/payables in respect of import/export at the prevailing exchange rate at the year end and valuing the open forward contract at the yearend exchange rate is statutory requirement under the Companies Act which may result in gain or loss. The A.O. has disallowed the exchange rate loss of Rs. 2,89,76,450/- on the premise that this is an unrealized ITA 3623/Mum/2013 4 transaction. The A.O. disallowed the loss relying on the CBDT Instruction No. 3/2010 dated 23rd March, 2010. The ld.CIT(A) observed that the assessee is following mercantile system of accounting and under this accrual system whenever the amount is credited to the account of the payee, the liability stands incurred even though the amount is not actually paid. The ld. CIT(A) held that the said loss is allowable as per the decision of the Hon’ble Supreme Court in the case of CIT v. Woodward Governor India P. Ltd. (supra) and also the decision of the Tribunal in the case of Mashreq Bank v. DDIT, 18 SOT 233, vide appellate order dated 05.02.2013 passed by learned CIT(A).
4. Aggrieved by the decision of the ld. CIT(A) vide its appellate orders dated 05.02.2013, the Revenue is in appeal before the Tribunal.
The ld. D.R. supported the order of the A.O. and also the CBDT Instruction No. 3/2010 dated 23rd March, 2010 and submitted that this is a notional loss and there is no loss actually incurred and the A.O. is right in disallowing the same.
The ld. counsel for the assessee, on the other hand, strongly supported the order of the ld. CIT(A) and also the decision of Hon’ble Supreme Court in the case of Woodward Governor India P. Ltd. (supra). The ld. Counsel submitted that the assessee is following mercantile system of accounting which has been accepted by the Revenue over the years. This is an accrued liability. It was submitted that the accrued losses in the earlier years on unsettled forward contracts were allowed as business loss by the Revenue, over the years and similarly If there was profit the assessee paid the taxes on accrued profits say in the assessment year 2007-08 there was profit on unsettled foreign exchange forward contracts wherein the assessee offered the profit for tax and paid the due taxes. The decision of Hon’ble Supreme Court ITA 3623/Mum/2013 5 in the case of Woodward Governor India P. Ltd. (supra) is clearly applicable in this case.
We have considered the rival contentions and also perused the material available on record including the case law cited by the assessee. The assessee is engaged in the business of tiles and sanitary ware and also as a part of business does import of raw material for manufacture of tiles and sanitary wares. The assessee is consistently following mercantile system of accounting. In the return of income filed with the Revenue, the assessee had claimed Rs. 2,89,76,450/- being foreign exchange rate loss on account of outstanding transactions (marked to market) being unsettled forward foreign exchange contracts and also loss of Rs.2,78,283/- being exchange rate difference relating to marked to market losses on unsettled forward foreign exchange contracts. We have observed that the assessee has entered into forward foreign exchange contracts which have remained unsettled at the year end and loss has occurred on the same due to foreign exchange rate variation as at year end. The revenue has disallowed the same at threshold on the ground that the same is a notional loss . No finding of fact is recorded that the said foreign exchange forward contracts were entered into by the assessee to hedge against its business activity of import of raw material for manufacturing of tiles and sanitary wares and these forward foreign exchange contracts are backed with foreign exchange exposure of the assessee towards foreign currency liability outstanding as at year end towards import payables dues for import of tiles and sanitary wares. In our considered view , the matter needs to be set aside and restored to the file of the AO for denovo determination of the issue on merits after satisfying that the assessee has hedge the underlying exposure in foreign currency towards import of raw material payable outstandings at year end by entering into forward contracts in foreign exchange and as such, the forward contracts entered were for the purpose of the business to hedge against the forex loss and that the assessee has not entered into the forward contracts with an intention to earn any gain due to ITA 3623/Mum/2013 6 fluctuation in foreign currency rate but it is necessary for it to enter into such forward contracts to hedge against foreign exchange rate fluctuation i.e. to verify that this is an integral part of the business undertaken by the assessee and incidental to the import business of the assessee as in the absence of such forward contracts, the assessee may sustain huge losses and hence it became essential for the assessee to book such forward contracts as a prudent business practices to safeguard against losses which may be sustained by the assessee towards import obligation in foreign currency outstanding as at year end . Further, we find that the assessee is engaged in the business of manufacture of tiles and sanitary wares , and not in the business of foreign exchange. In view of the same, if the AO came to the finding of the fact that these contracts are nothing but an integral part of its import activities of the assessee for import of raw material and then the resultant hedging difference on their revaluation cannot be isolated artificially as notional loss. The decision of Hon’ble Supreme Court in the case of Woodward Governor India P. Ltd. (supra) relied upon by the assessee will be applicable if such losses are towards hedging against import obligation in foreign currency outstanding as at year end towards import of raw material undertaken by the assessee. The Revenue has allowed said losses in the earlier years and assessee has also offered the gains on the forward foreign exchange contracts in the preceding year and paid the due taxes on the gains to the Revenue. Hence, we allow the appeal of the revenue for statistical purposes as indicated above . We order accordingly.
In the result, the appeal filed by the Revenue in 2008-09 is allowed as indicated above.
ITA 3623/Mum/2013 7