2017 (11) TMI 1020 - HC - Income Tax

Nature of loss - business loss or speculative transactions - what is hedging transaction and when it can be a speculative transaction ? - mode of business of Assessee - Held that - Section 43(5) provides that speculative transaction means a transaction in which a contract for the purchase or sale of any commodity including stocks and shares, is periodically and ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips.It is significant to note that Section 43 nowhere provides that such hedging contracts must necessarily be purchase contracts. Of course, in cases where loss through future price fluctuation in respect of contracts for actual delivery of goods manufactured or merchandise sold, can in fact not be safeguarded by entering into contract for sale of raw materials or merchandise, there would be no reason to exclude such transaction from the ambit of Section 43(5) (a) of the Act. It may be that in the case of merchandise one may urge that when one enters into a hedging contract in respect of merchandise to guard against loss through future price fluctuation in respect of the merchandise sold, such contract has necessarily to be that of a contract for purchase (we are not concerned with this question in this reference), but then the same thing cannot be said about hedging contracts entered into by a manufacturer in respect of raw material. Even though in the commercial world the cost of raw material plays an important role in determining the price at which a manufacturer agrees to sell or deliver the manufactured goods, yet it does not necessarily mean that future price fluctuation in respect of the manufactured product must correspond to price fluctuation in respect of the raw material. There can be cases where even while the price of raw materials falls, the price of the manufactured goods contracted to be delivered may go up resulting in a loss to the manufacturer. In such a case, the loss that is likely to be occasioned to a manufacturer in respect of price fluctuation of the goods contracted to be delivered can be safeguarded by entering into hedging contract by way of sale of the raw materials. In our opinion, there exists no valid reason for, in the case of a manufacturer, excluding from the ambit of hedging contracts contemplated by Section 43(5) (a), hedging contracts in respect of raw materials that are entered into by way of sale and confining the same to hedging contracts by way of purchases of such raw materials alone. It will depend upon the facts of each case whether a particular transaction by way of forward sale, which is mutually settled otherwise than by actual delivery of the said goods, has been entered into with a view to safeguard against loss through price fluctuation in respect of the contract for actual delivery of the goods manufactured . See Additional Commissioner of Income Tax Vs.M.P. Sugar Mills Private Limited (1983 (8) TMI 42 - ALLAHABAD High Court) - Decided in favour of Assessee

Summary

Issues involved:
1. Interpretation of provisions of Section 43(5) of the Income Tax Act, 1961 regarding treatment of losses incurred from transactions as speculative or business losses.

Detailed analysis:
The High Court heard an appeal filed by the Assistant Commissioner of Income Tax, Faizabad, against a judgment by the Income Tax Appellate Tribunal, Lucknow, regarding losses claimed by the Assessee for the Assessment Year 2009-10. The main issue was whether losses from 32 out of 90 transactions entered into by the Assessee should be treated as business losses or speculative losses under Section 43(5) of the Act. The Tribunal upheld the losses from 58 transactions as speculative but granted relief to the Assessee for the remaining 32 transactions, remanding the matter to the Assessing Officer for reconsideration. The High Court focused on the distinction between speculative and business losses under Section 43(5) in light of the Assessee's business activities involving volatile market conditions and contracts for raw material procurement.

The Assessee, engaged in the production and sale of edible oil, faced losses due to market volatility and cancellation of purchase contracts for raw materials. The Assessing Officer disallowed setting off losses of ?1,07,88,693 claimed by the Assessee, citing them as speculative losses. The Commissioner of Income Tax (Appeals) partially allowed the appeal, granting relief for loss caused by fire but rejecting the claim for speculative losses. The High Court analyzed the nature of the Assessee's transactions involving contracts for raw material purchase and sale, emphasizing the distinction between hedging and speculative transactions. The Court referred to a previous judgment to clarify the concept of hedging contracts in the context of Section 43(5) and distinguished other court decisions relied upon by the Revenue.

The Court ultimately dismissed the appeal, ruling in favor of the Assessee and against the Revenue based on the interpretation of Section 43(5) and the nature of the transactions in question. The judgment highlighted the importance of understanding the commercial context and purpose behind the contracts entered into by the Assessee to determine whether the losses should be treated as speculative or business losses. The decision provided clarity on the treatment of such losses under the Income Tax Act, emphasizing the need to consider the specific circumstances of each case to determine the applicability of relevant provisions and definitions.