2018 (1) TMI 657 - AT - Income Tax

Disallowance made on account of mark to market loss on future contracts - deemed speculation loss - Held that - Set-off of speculation loss against business income was declined by the AO on the plea that Explanation to Section 73 is applicable. The CIT(A) has dealt with the issue threadbare and reached to the conclusion that Explanation to Section 73 is not applicable to the facts and circumstances of the present case in so far as in the present case the assessee comes within the exclusion provided in the said Explanation, the income of the assessee under the head income from capital gains and income from other sources is more than income under the head income from business and profession and, therefore, the Explanation to section 73 is not applicable. The business carried on by the assessee is jobbing/arbitrage. Jobbing/arbitrage is a composite activity of buying in one segment (cash) and selling in another segment (F&O) and assessee will earn income in once segment and incur loss in another segment, such that the income would always be more than the loss. Therefore, the business is itself arbitrage and the same cannot be treated as two separate business of trading in shares and dealing in F&O. Arbitrage /Jobbing as a composite activity is covered under section 43(5)(c) of the Act. Hence, explanation to section 73 of the Act is not applicable as the Assessee is not carrying on the business of purchase and sale of share but business of arbitrage. Disallowance u/s.14A - Held that - As found from record that most of the shares held by assessee were stock in trade. In view of the settled judicial pronouncements, we direct the AO to exclude investment in shares held as stock in trade out of average investment while computing disallowance under Rule 8D(2)(iii) of the IT Act. We direct accordingly.

Issues Involved:
1. Allowing mark-to-market loss on future contracts.
2. Deletion of deemed speculation loss under Explanation to Section 73.
3. Deletion of addition made on account of deemed dividend.
4. Disallowance under Section 14A of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Allowing Mark-to-Market Loss on Future Contracts:
The Revenue contended that the CIT(A) erred in allowing a mark-to-market loss on future contracts, which amounted to ?32,94,611/-, arguing that such losses are notional and not allowable as per CBDT Instruction No. 03/2010. The CIT(A), however, allowed the loss, relying on a previous decision in the assessee’s own case for the assessment year 2008-09, where it was held that the loss was not a contingent liability. The Tribunal upheld the CIT(A)'s decision, noting that the issue was covered by the Tribunal's order in the assessee's own case for the prior year. The Tribunal emphasized that a consistent method of accounting followed by the assessee could not be disregarded and that the loss on valuation of derivative contracts was allowable under generally accepted accounting principles.

2. Deletion of Deemed Speculation Loss Under Explanation to Section 73:
The Revenue challenged the CIT(A)'s direction to delete the addition of deemed speculation loss amounting to ?8,15,38,548/-, which the AO had made under Explanation to Section 73, arguing that the assessee wrongly set off speculative loss against non-speculative income. The CIT(A) observed that the assessee was engaged in arbitrage/jobbing activity and that arbitrage activity could not be split into speculative and non-speculative segments. The CIT(A) cited several judicial decisions supporting the view that arbitrage/jobbing transactions are non-speculative and that the Explanation to Section 73 was not applicable since the assessee’s income from capital gains and other sources was higher than its business income. The Tribunal upheld the CIT(A)'s decision, noting that the business of arbitrage/jobing was a composite activity and could not be treated as separate businesses of trading in shares and dealing in F&O.

3. Deletion of Addition Made on Account of Deemed Dividend:
The Revenue’s ground regarding the deletion of the addition made on account of deemed dividend was dismissed by the Tribunal as it did not arise out of the order of the CIT(A).

4. Disallowance Under Section 14A of the Income Tax Act:
The assessee contended that the CIT(A) was not justified in confirming the further disallowance of ?26,48,184/- under Section 14A, arguing that the disallowance was made without correlating expenses incurred to earn tax-free dividend income. The CIT(A) upheld the AO's disallowance, noting that the assessee had already disallowed ?13,64,963/- under Section 14A and that the AO had computed the disallowance as per Rule 8D. The Tribunal directed the AO to exclude investments in shares held as stock-in-trade from the average investment while computing disallowance under Rule 8D(2)(iii), aligning with settled judicial pronouncements.

Conclusion:
The Tribunal dismissed the Revenue's appeal and partly allowed the assessee's appeal for statistical purposes, directing specific adjustments in the computation of disallowance under Section 14A. The Tribunal upheld the CIT(A)'s decisions on mark-to-market loss and deemed speculation loss, emphasizing the consistency in accounting methods and the nature of arbitrage/jobbing activities.

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