2015 (5) TMI 553 - HC - Income Tax

Computation of capital loss - Whether the assessee s claim that there was a loss and/or it was a capital loss is legally tenable? - amounts accruing, during the assessment year, to the assessee from bonds issued to it, by the Central Government, in lieu of the debt amounts payable to it for services under contract to the Iraqi Government - Held that - Holding of amounts in foreign currency for diverse reasons by itself cannot be determinative of its character. As held in Sutlej Cotton (supra), appreciation or depreciation in foreign currency value upon conversion would be either trading profit or trading loss. However, the exception to this is that if foreign exchange currency is kept as capital asset or fixed capital - in such event, the gain or loss would be of capital nature. In the present instance, the amounts as indicated earlier were payable for services provided by way of projects executed by the assessee in Iraq. The Iraqi Government s inability to pay due to sanctions imposed by it and the subsequent Central Government s negotiating an arrangement for its payment through bonds that were to mature in future - with interest did not in any way alter their character or convert them into capital assets as the assessee argues. Rather, this Court is also of the opinion that the analogy of bad debts and their reduction from the revenue receipts in a given year and its converse treatment - by virtue of Section 36(1)(vii) is apt to the circumstance of the case. The assessee s claim of capital loss, based on indexed treatment of capital gain is therefore insubstantial and unfounded on any principle. - Decided in favour of the Revenue

Summary

Issues Involved:
1. Whether the assessee's claim of capital loss is legally tenable.
2. Whether the amounts receivable from the Iraqi Government constituted capital assets or revenue receipts.
3. Whether the foreign exchange fluctuation gain should be treated as capital receipt or revenue receipt.
4. Whether the assignment of debt to the Central Government and receipt of compensation bonds constituted a transfer of capital assets.

Issue-wise Detailed Analysis:

1. Whether the assessee's claim of capital loss is legally tenable:
The appellant claimed a capital loss of Rs. 1,48,22,66,649/- in its return for AY 1995-96, arguing that the Iraqi debts were capital assets and their assignment to the Central Government constituted a transfer of capital assets. The ITAT and lower authorities rejected this claim, holding that the amounts receivable were revenue receipts arising from the assessee's business activities. The court upheld this view, stating that the amounts payable by the Iraqi Government were for services provided and did not transform into capital assets due to the subsequent issuance of compensation bonds by the Central Government.

2. Whether the amounts receivable from the Iraqi Government constituted capital assets or revenue receipts:
The court analyzed whether the receivables from the Iraqi Government were capital assets or revenue receipts. It concluded that the amounts receivable were directly linked to the assessee's business operations and constituted circulating capital. The court emphasized that the nature of the amounts did not change due to the Iraqi Government's inability to pay and the subsequent issuance of bonds by the Central Government. The amounts remained revenue receipts, not capital assets.

3. Whether the foreign exchange fluctuation gain should be treated as capital receipt or revenue receipt:
The court referred to the Supreme Court's judgments in Sutlej Cotton Mills v. CIT and Canara Bank Ltd. v. CIT to distinguish between fixed capital and circulating capital. It concluded that the foreign exchange fluctuation gain in this case was a revenue receipt. The court noted that the amounts receivable from the Iraqi Government were part of the assessee's trading operations and not held as capital assets. Therefore, the gain due to foreign exchange fluctuation was a revenue receipt, not a capital receipt.

4. Whether the assignment of debt to the Central Government and receipt of compensation bonds constituted a transfer of capital assets:
The court examined the nature of the transaction where the assessee assigned its debt receivables to the Central Government and received compensation bonds. It concluded that this transaction did not constitute a transfer of capital assets. The court emphasized that the amounts receivable were part of the assessee's business operations and their assignment to the Central Government did not alter their character. The compensation bonds received were considered a continuation of the revenue receipts, not a transfer of capital assets.

Conclusion:
The court dismissed the appeal, holding that the assessee's claim of capital loss was not legally tenable. The amounts receivable from the Iraqi Government were revenue receipts arising from the assessee's business operations. The foreign exchange fluctuation gain was also treated as a revenue receipt. The assignment of debt to the Central Government and receipt of compensation bonds did not constitute a transfer of capital assets. The court upheld the ITAT's decision and answered the question of law in favor of the Revenue.