2018 (3) TMI 1821 - AT - Income Tax

Gain on account of foreign exchange fluctuation reduced from the cost of assets as per the provisions of section 43(1) - scope of AS-11 - Reducing the claim of depreciation by concluding that the notional foreign exchange rate fluctuation which is adjusted to the value affixed assets in the books of accounts to comply with the requirement of AS.11 need to be adjusted from the value of fixed assets for computing depreciation under Income Tax Rules also by applying the provisions of Section 43A of the Income Tax Act even though the assets were not acquired from a country outside India is against the principles of law on taxation - HELD THAT - In view of the revision made in AS-11 in 2003 it can be said that treatment of foreign exchange loss arising out of foreign currency fluctuations in respect of fixed assets acquired through loan in foreign currency shall required to be given in profit and loss account. Said exchange loss should be allowed as revenue expenditure in view of amended AS-11 (2003). It may be noted that apex court had followed treatment of exchange loss or gain as per AS-11 (1994). In view of revision made in AS-11 now treatment shall be as per revised AS-11 (2003). Exchange gain or loss on foreign currency fluctuations in respect of foreign currency loan acquired for acquisition of fixed asset should be allowed as revenue expenditure. However in the Preamble of AS-11 (Revised 2003) it was stated that the Revised Standard supersedes AS-11 (1994) except that in respect of accounting for transactions in foreign currencies entered into by the reporting enterprise before the date of AS-11 (2004) comes into effect AS 11 (1994) will continue to be applicable. In the present case though the assessee took the plea before the lower authorities that AS-11 is applicable the lower authorities has not at all examined it and straightaway applied the provisions of sec. 43A. In our opinion sec. 43A is only relating to the foreign exchange rate fluctuation in respect of assets acquired from a country outside India by using foreign currency loans which is not applicable to the indigenous assets acquired out of foreign currency loans. Hence the AO has to bifurcate the foreign exchange fluctuation in respect of foreign currency loan used for assets acquired outside India and the indigenous assets and apply provisions of sec. 43A or AS-11(2003) accordingly. Revised Standard supersedes AS 11 (1994) except that in respect of accounting for transactions in foreign currencies entered into by the assessee before the date of AS-11 (2004) comes into effect AS-11 (1994) will continue to be applicable. With this observation we remit this issue to the file of the Assessing Officer for his fresh consideration.

Issues Involved:
1. Depreciation claim reduction due to notional foreign exchange rate fluctuation.
2. Applicability of Section 43A of the Income Tax Act to assets acquired locally using foreign currency loans.
3. Relevance of foreign exchange rate fluctuations for taxation purposes.
4. Adjustment of foreign exchange fluctuation effects on the value of fixed assets.
5. Treatment of foreign exchange fluctuations under Accounting Standards (AS-11) versus Income Tax provisions.

Detailed Analysis:

Issue 1: Depreciation Claim Reduction Due to Notional Foreign Exchange Rate Fluctuation
The assessee contested the reduction of the depreciation claim amounting to ?19,10,696, arguing that the notional foreign exchange rate fluctuation adjusted to the value of fixed assets in the books of accounts should not affect the computation of depreciation under Income Tax Rules. The Assessing Officer (AO) had re-computed the Written Down Value (WDV) of assets by applying Section 43A of the Income Tax Act, which led to the reduction in the depreciation claim.

Issue 2: Applicability of Section 43A of the Income Tax Act
The assessee argued that Section 43A, which deals with adjustments due to foreign exchange fluctuations for assets acquired from outside India, should not apply to assets acquired locally using foreign currency loans. The AO, however, applied Section 43A to adjust the WDV of assets, even though the assets were not imported. The CIT(A) upheld the AO's decision, noting that the assessee had taken foreign currency loans for the entire project, and fluctuations in the loan amount due to exchange rate changes should be reflected in the asset's cost.

Issue 3: Relevance of Foreign Exchange Rate Fluctuations for Taxation Purposes
The CIT(A) observed that the assessee was following Accounting Standard AS-11, which requires recognition of foreign exchange rate differences in the books of account. The CIT(A) cited the Delhi High Court's judgment in CIT vs. Woodward Governor (P) Ltd., which held that foreign exchange rate differences should be recognized as income or expenses of the period, except for differences arising on repayment of liabilities incurred for acquiring fixed assets.

Issue 4: Adjustment of Foreign Exchange Fluctuation Effects on Fixed Assets
The CIT(A) noted that the AO had adjusted the cost of assets based on foreign exchange fluctuations, which the assessee had initially accounted for but later treated as notional adjustments. The CIT(A) held that these adjustments were not notional, as the assessee had made actual repayments of the foreign currency loan, and thus, the fluctuations should be reflected in the asset's cost. The CIT(A) confirmed the AO's addition of ?19,10,696 on account of excess depreciation.

Issue 5: Treatment of Foreign Exchange Fluctuations under AS-11 vs. Income Tax Provisions
The assessee argued that AS-11 should be followed for accounting foreign exchange fluctuations, which should not affect the computation of depreciation under the Income Tax Act. The CIT(A) and AO, however, applied Section 43A, leading to the adjustment of the asset's cost. The Tribunal noted that Section 43A applies only to assets acquired from outside India using foreign currency loans, and AS-11 (2003) should be followed for indigenous assets. The Tribunal remitted the issue to the AO for fresh consideration, directing the AO to bifurcate the foreign exchange fluctuation related to assets acquired outside India and those acquired locally, and apply the relevant provisions accordingly.

Conclusion:
The Tribunal partly allowed the appeal for statistical purposes, remitting the issue to the AO for fresh consideration, with directions to apply AS-11 (2003) for indigenous assets and Section 43A for assets acquired from outside India. The Tribunal emphasized the need to follow the revised AS-11 (2003) for accounting foreign exchange fluctuations in the profit and loss account.

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