2016 (8) TMI 454 - AT - Income Tax

Addition on account of foreign exchange loss - whether assessee has not suffered any actual loss during the year under consideration? - Held that - The allegation of the AO that assessee entered into a currency swap with the bank for an instrument involving a swap of a liability of Japanese Yen vs. Rupees is against the facts on record. The observation made by the AO in the assessment order in this regard demonstrate the indulgence into surmises without considering the fact that this is an advance received against export and such export has been actually effected in the subsequent year. It is an undisputed fact that assessee has received the advance in Japanese Yen and Japanese Yen has got appreciated from 34.11 to 40.03 during the year. The assessee having received the advance and having suffered the loss, the AO cannot sit over the judgment of the assessee to decide why the advance was received in Japanese Yen and why it was not received in Euro or Swiss Franc. Observation of the learned CIT(A) is correct that the AO has gone on to elaborate the principle of derivatives from Pages 4 to 14 of the assessment order but the whole discussion is on theory of derivatives of mark to market losses. It is also evident from the facts on record that the AO has not disputed the advance received as trading advance towards supply of soya bean meal. It is also a fact that there were several other transactions in foreign exchange fluctuation account which has been treated similarly. The assessee all along has treated this advance in accordance with Accounting Standards AS-11. This also has been followed in earlier assessment years as well as in subsequent assessment years. As regards the contention of the learned DR that the corresponding purchase for this export are more than the value of the sale, we are of the view that this cannot be a consideration for disallowing the loss suffered on account of the foreign exchange fluctuation in the year under consideration. The assessee having followed the system of accounting regularly for accounting foreign exchange fluctuation in accordance with accepted method of accounting and the same have not been inconsistent with any provisions of the Income Tax Act any profit or loss arising on this account has to be taken into consideration and the same cannot be rejected. CIT(A) was justified in holding that the AO was not correct in picking one transaction and treating the same as derivative and disallowing the loss by considering the same as mark to market losses. - Decided in favour of assessee.

Issues:
1. Addition of foreign exchange loss by Assessing Officer
2. Disallowance of loss by Assessing Officer as notional loss
3. Appeal by Revenue against deletion of addition by CIT(A)
4. Justification of loss as allowable under Income Tax Act
5. Disagreement between Revenue and Assessee on treatment of loss
6. Interpretation of bank guarantee and derivatives by Assessing Officer
7. Consistency of accounting treatment with Accounting Standards

Analysis:

Issue 1: Addition of foreign exchange loss by Assessing Officer
The Assessing Officer disallowed a loss of &8377; 17,63,24,155/- due to foreign exchange fluctuation on advance received from overseas buyers. The AO considered this loss as notional and disallowed it, stating mark to market losses are not allowed.

Issue 2: Disallowance of loss by Assessing Officer as notional loss
The AO contended that since the loss was accounted for in the year but the export was made in the subsequent year, it was a notional loss. Detailed reasoning was provided by the AO to support this disallowance.

Issue 3: Appeal by Revenue against deletion of addition by CIT(A)
The Revenue challenged the deletion of the above addition by the CIT(A), arguing that the assessee did not suffer any actual loss during the year under consideration. The Revenue supported the AO's order and contended that the loss was not justifiable.

Issue 4: Justification of loss as allowable under Income Tax Act
The CIT(A) held that the loss was on account of exchange rate fluctuation arising from trading advance and was allowable under the provisions of the Income Tax Act. The CIT(A) deleted the disallowance made by the AO based on this reasoning.

Issue 5: Disagreement between Revenue and Assessee on treatment of loss
The Assessee argued that the loss was a result of foreign exchange rate fluctuation on advance received against export, which was a current liability outstanding at the year-end. The Assessee justified the treatment of this loss as per Rule 115 of the Income Tax Rules and Accounting Standard AS-11.

Issue 6: Interpretation of bank guarantee and derivatives by Assessing Officer
The AO wrongly treated the loss as a derivative or mark to market loss, not understanding that it was a loss due to foreign exchange rate fluctuation on advance received against export. The AO's interpretation of the bank guarantee as involving derivatives was incorrect.

Issue 7: Consistency of accounting treatment with Accounting Standards
The Assessee maintained that the accounting treatment of the loss was consistent with Accounting Standards AS-11 and Rule 115 of the Income Tax Rules. The Assessee's method of accounting for foreign exchange fluctuation was in accordance with accepted accounting practices and should be considered while computing income.

In conclusion, the ITAT upheld the CIT(A)'s order, dismissing the Revenue's appeal. The ITAT found no reason to interfere, supporting the Assessee's position that the loss was justifiable under the Income Tax Act and consistent with accounting standards. The judgment clarified the nature of the loss as a result of foreign exchange rate fluctuation on advance received against export, not as a derivative or mark to market loss.

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