1996 (11) TMI 107 - AT - Income Tax

Summary

Issues Involved:
1. Deduction of "exchange loss" on Revenue account.
2. Timing of allowance for the exchange loss.
3. Method of accounting and its impact on the claim.
4. Applicability of section 28 vs. section 43A of the Income-tax Act.
5. Consideration of expert opinions and accounting standards.

Summary:

1. Deduction of "exchange loss" on Revenue account:
The primary issue contested was the assessee's claim for deduction of Rs. 1,65,97,972 as "exchange loss" due to adverse fluctuation in the exchange rate. The assessing officer rejected the claim, but the Commissioner of Income-tax (Appeals) had allowed it in the preceding year, which led to the Department's appeal.

2. Timing of allowance for the exchange loss:
The Commissioner of Income-tax (Appeals) and the Assessing Officer agreed that the claim was allowable but differed on the timing. They opined that the liability should be allowed when the payment was actually remitted, considering it a contingent liability until then. The Tribunal, however, concluded that the liability was ascertained and should be allowed in the year the exchange rate fluctuation occurred, aligning with the mercantile system of accounting.

3. Method of accounting and its impact on the claim:
The Tribunal emphasized that the assessee followed the mercantile system of accounting, which necessitates recognizing liabilities when they accrue, not when they are paid. The Commissioner of Income-tax (Appeals) was criticized for imposing a "hybrid system of accounting" and for questioning the Institute of Chartered Accountants of India's accounting standards without substantial reasoning.

4. Applicability of section 28 vs. section 43A of the Income-tax Act:
The assessee's claim was considered u/s 28, as the loss arose from a transaction on Revenue account (purchase of raw material) and not from the import of a capital asset, which would fall u/s 43A. The Tribunal noted that section 43A pertains to capital expenditure and does not require actual payment for adjustments due to exchange rate fluctuations, a principle that applies equally to claims under section 28.

5. Consideration of expert opinions and accounting standards:
The Tribunal highlighted the importance of considering expert opinions, such as those from the Institute of Chartered Accountants of India, which support recognizing exchange losses on an accrual basis. The Tribunal criticized the Commissioner of Income-tax (Appeals) for dismissing these expert views without adequate justification.

Conclusion:
The Tribunal allowed the assessee's claim for deduction of the exchange loss in the year the fluctuation occurred, with directions to the assessing officer to adjust any benefits derived in the year of remittance u/s 41(1) and to make suitable adjustments in the valuation of closing stock if any raw material remained. The judgment did not address the reverse situation of liability reduction due to devaluation.