2021 (7) TMI 1132 - AT - Income Tax

Disallowance of mark to market loss - forward contracts entered by the assessee with banks are in respect of underlying import/export transactions - HELD THAT - A perusal of the impugned assessment order would reveal that simply relying upon the CBDT instruction no. 3/2010, the AO has disallowed the claim of loss - on a careful perusal of CBDT Instruction No. 3/2010 (supra), we are of the view that the instruction clearly speaks about foreign exchange derivatives contract and not hedging transactions. Thus, in our view, CBDT instruction no. 3/2010 would not be applicable to the assessee. The Hon ble Supreme Court in case of CIT vs. Woodward Governor India (P) Ltd. 2009 (4) TMI 4 - SUPREME COURT has held that any gain or loss on outstanding receivables at the year end would be allowable. This ratio laid down by the Hon ble Supreme Court has been followed by subordinate Courts and Tribunals in a number of decisions. Also see BADRIDAS GAURIDU (P.) LTD. 2003 (1) TMI 61 - BOMBAY HIGH COURT and M/S. D. CHETAN CO. 2016 (10) TMI 629 - BOMBAY HIGH COURT Pertinently, when the AO is accepting the gain offered as income by the assessee following similar accounting method, there is no justifiable reason to disallow the loss. It is also relevant to observe, the contention of the assessee that the loss determined on restatement of forward contract as on 31.03.2016 was reversed on 01.04.2016 i.e. on the first day of the succeeding assessment year, wherein, the forward contracts matured has not been controverted. Thus, any disallowance in the impugned assessment year would be prejudicial to the assessee, as, it would amount to double disallowance of the same amount. Thus we allow assessee s claim of loss. - Decided in favour of assessee.

Issues Involved:
1. Disallowance of mark to market loss claimed by the appellant.
2. Application of the decision of Hon'ble Delhi ITAT in the case of Bechtal India (P) Ltd. vs. ACIT.
3. Lack of reasonable opportunity for the appellant to explain its case.
4. Double disallowance due to reversal of the loss in subsequent financial year.
5. Consistency in the method of accounting followed by the appellant.

Issue-wise Detailed Analysis:

1. Disallowance of Mark to Market Loss Claimed by the Appellant:
The appellant, engaged in manufacturing toilet soaps, fatty acids, and fatty alcohols, filed a return declaring a total loss of ?119,75,64,719/- for the assessment year 2016-17. The Assessing Officer (AO) disallowed the unrealized foreign exchange loss of ?4,04,22,093/- on forward contracts due to foreign currency fluctuation, following CBDT instruction no. 3/2010. The appellant argued that the forward contracts were hedging transactions to mitigate risks from currency fluctuations, not speculative or trading activities. The consistent accounting method applied, including Accounting Standard (AS)-11, was used to restate monetary items at the closing rate, with gains/losses charged to the profit and loss account. The appellant cited several judicial decisions supporting the allowance of such losses, including CIT vs. Woodward Governor India (P) Ltd. (312 ITR 254) and CIT vs. Badridas Gauridas (P) Ltd. (261 ITR 256).

2. Application of the Decision of Hon'ble Delhi ITAT in the Case of Bechtal India (P) Ltd. vs. ACIT:
The Commissioner of Income Tax (Appeals) relied on the decision in Bechtal India (P) Ltd. vs. ACIT (2017) 82 taxmann.com 301 (Delhi) to sustain the disallowance. However, the appellant contended that this decision was factually distinguishable and did not consider relevant judgments from the Hon'ble Bombay High Court. The appellant emphasized that the consistent accounting method used was accepted by the Department in previous years, including gains from similar transactions.

3. Lack of Reasonable Opportunity for the Appellant to Explain its Case:
The appellant claimed that it was not given a reasonable opportunity to explain its case and demonstrate how it differed factually from Bechtal India (P) Ltd. The appellant argued that the loss was based on a consistent accounting method, and the AO's selective acceptance of gains while disallowing losses was unjustified.

4. Double Disallowance Due to Reversal of the Loss in Subsequent Financial Year:
The appellant highlighted that the disallowed loss was reversed in the subsequent financial year when the forward contracts matured. Disallowing the loss in the impugned year would result in double disallowance, as the same loss would be accounted for twice. This argument was not controverted by the Departmental Representative.

5. Consistency in the Method of Accounting Followed by the Appellant:
The appellant consistently followed an accounting method that restated monetary items at the year-end closing rate, as per AS-11. This method was consistently accepted by the Department in previous years, including the gain on restatement of unsettled forward contracts. The appellant argued that the CBDT instruction no. 3/2010, which pertains to foreign exchange derivatives contracts, was not applicable to hedging transactions. The Tribunal agreed with this view, noting that the instruction did not apply to the appellant's hedging transactions.

Conclusion:
The Tribunal found that the AO's reliance on CBDT instruction no. 3/2010 was misplaced, as it did not apply to hedging transactions. The consistent accounting method followed by the appellant, accepted in previous years, warranted the allowance of the loss. The Tribunal cited several judicial decisions supporting the appellant's position, including the Hon'ble Supreme Court's decision in CIT vs. Woodward Governor India (P) Ltd. and the Hon'ble Bombay High Court's decision in CIT vs. Badridas Gauridas (P) Ltd. The Tribunal concluded that disallowing the loss would be prejudicial to the appellant, resulting in double disallowance. Therefore, the disallowance was deleted, and the appeal was allowed.

Order:
The appeal was allowed, and the disallowance of ?4,04,22,093/- was deleted. The Tribunal's decision was pronounced in the open court on 26th July 2021.

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