2013 (7) TMI 255 - AT - Income Tax

Mark-to-market loss claim on revaluation of the pending forward contract on the closing day - assessee is a partnership firm engaged in the business of manufacturing, trading as well as import and export of diamonds - Held that - As decided in Bank of Bahrain & Kuwait (2010 (8) TMI 578 - ITAT, MUMBAI) concluded that a liability is said to have crystallized when a pending obligation on the balance sheet date is determinable with reasonable certainty. As per AS-II when the transaction is not settled in the same accounting period as that in which it occurred, the exchange difference arises over more than one accounting period. In view of the decision of the Supreme Court in the case of Woodward Governor India (I) P. Ltd. 2009 (4) TMI 4 - SUPREME COURT the Appellant s claim is allowable. Thus the assessee in the said case was holding foreign currency as stock-in-trade, the distinction so made by the A.O. was irrelevant and immaterial as rightly pointed out by the CIT(A) relying on the decision of ONGC (2010 (3) TMI 81 - SUPREME COURT) wherein a similar issue was decided in favour of the assessee despite the fact that ONGC was not a dealer in foreign exchange. Also see DCIT vs. Banque Indosuez (Known as Credit Agricole Indosuez) reported 2012 (12) TMI 730 - ITAT MUMBAI & Societe Generale vs. DDIT (International Taxation) (2013 (5) TMI 374 - ITAT MUMBAI). In favour of assessee.

Issues Involved:
1. Allowability of "marked to market" loss on revaluation of pending forward exchange contracts.
2. Applicability of Accounting Standard - 11 (AS-11).
3. Consistency in the method of accounting for foreign exchange transactions.
4. Distinction between notional and actual losses for tax purposes.
5. Relevance of judicial precedents in similar cases.

Issue-wise Detailed Analysis:

1. Allowability of "marked to market" loss on revaluation of pending forward exchange contracts:
The core issue was whether the "marked to market" loss of Rs. 5,53,02,172/- claimed by the assessee on revaluation of pending forward exchange contracts at the year-end was allowable. The Assessing Officer (A.O.) disallowed this loss, considering it notional since the relevant contracts were still outstanding and not settled. However, the CIT(A) allowed the loss, referencing judicial precedents that recognized such losses as deductible. The Tribunal upheld the CIT(A)'s decision, noting that a binding obligation arises the moment a forward contract is entered into, making the resultant loss allowable.

2. Applicability of Accounting Standard - 11 (AS-11):
The assessee followed AS-11, which mandates revaluation of monetary items at the closing rate, recognizing resultant exchange differences in the profit and loss account. The A.O. argued that adherence to AS-11 does not automatically make the notional loss deductible for tax purposes. However, the CIT(A) and the Tribunal found that compliance with AS-11 and consistent accounting treatment justified the claim. The Tribunal emphasized that AS-11's application is crucial for determining the timing and recognition of such losses.

3. Consistency in the method of accounting for foreign exchange transactions:
The assessee consistently revalued foreign exchange receivables and payables, including forward contracts, at the year-end as per AS-11. Both the CIT(A) and the Tribunal highlighted the importance of consistency in the accounting method, which the assessee had maintained over the years. The Tribunal noted that a consistent accounting method cannot be disregarded and must be respected for tax purposes.

4. Distinction between notional and actual losses for tax purposes:
The A.O. disallowed the loss, considering it notional and contingent. However, the CIT(A) referenced the Supreme Court's decision in the ONGC case, which allowed losses on foreign exchange fluctuations even if the liability was not discharged within the same year. The Tribunal reiterated that a liability crystallizes when a pending obligation is determinable with reasonable certainty, thus making such losses deductible.

5. Relevance of judicial precedents in similar cases:
The CIT(A) and the Tribunal relied on several judicial precedents, including the Special Bench decision in Bank of Bahrain & Kuwait, which allowed similar claims for marked to market losses. The Tribunal also referenced the Delhi High Court's decision in Woodward Governor and the Supreme Court's affirmation, which supported the recognition of such losses. Additionally, the Tribunal cited recent decisions in Banque Indosuez and Societe Generale, which further reinforced the assessee's position.

Conclusion:
The Tribunal dismissed the Revenue's appeal, upholding the CIT(A)'s order that allowed the assessee's claim for "marked to market" loss on revaluation of pending forward exchange contracts. The judgment emphasized the importance of consistency in accounting methods, adherence to AS-11, and the applicability of judicial precedents in determining the allowability of such losses for tax purposes.

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