2015 (7) TMI 936 - AT - Income Tax

Addition treating business loss as speculative loss in respect of loss on account of forex derivative contracts (Exotic Cross Currency Option Contracts) - Held that - Explanation to sec.73 creates a deeming fiction by which among the assessee, who is a company, as indicated in the said Explanation dealing with the transaction of share and suffer loss, such loss should be treated to be speculative transaction within the meaning of sec.73 of the Act, notwithstanding the fact that the definition of speculative transaction mentioned in sec.43(5) of the Act, the transaction is not of that nature as there has been actual delivery of the scrips of share. As per the definition of sec.43(5), trading of shares which is done by taking delivery does not come under the purview of the said section. Similarly, as per clause (d) of sec.43(5), derivative transaction in shares is also not speculation transaction as defined in the said section. Therefore, both profit/loss from all the share delivery transactions and derivative transactions are having the same meaning, so far as sec.43(5) of the Act is concerned. Again, in view of the fact that both delivery transactions and derivative transactions are non-speculative as far as sec.43(5) is concerned, it follows that both will have the same treatment as far as application of Explanation to sec.73 is concerned. Therefore, aggregation of the share trading profit and loss from derivative transactions should be done before the Explanation to sec.73 is applied. Both trading of shares and derivative transactions are not coming under the purview of Section 43(5) of the Act which provides definition of speculative transaction exclusively for purposes of section 28 to 41 of the Act. Again, the fact that both delivery based transaction in shares and derivative transactions are non-speculative as far as section 43(5) is concerned goes to confirm that both will have same treatment as regards application of the Explanation to Section 73 is concerned, which creates a deeming fiction. From the above decision of the Calcutta High Court in the case of Baljit Securities Pvt. Ltd. cited 2014 (6) TMI 475 - CALCUTTA HIGH COURT the issue stands covered in favour of the assessee. However, we make it clear that total transaction considered for determining this business loss from derivative transactions cannot be more than the total export turnover of the assessee for the assessment year under consideration and if the derivative transaction is in excess of export turnover, then that loss suffered in respect of that portion of excess transactions to be considered as speculative loss only as that excess derivative transaction has no proximity with export turnover and the Assessing Officer is directed to compute accordingly. This ground is allowed as indicated above. - Decided in favour of assessee. Treating the capital of the firm introduced by the partner by cash as unexplained income u/s.68 - Held that - If any capital is introduced by the partner, the assessee shall prove the identity of the partner, genuineness of the transaction and credit worthiness of the partner. In the present case, if the partner confirmed the introduction of the capital from their account then the burden cast upon the assessee is discharged as held by the Andhra Pradesh and Telangana High Court in the case of CIT vs. M. Venkateswara Rao, 2015 (3) TMI 153 - ANDHRA PRADESH HIGH COURT . Accordingly, in the interest of justice, we remit the issue back to the file of the Assessing Officer with a direction to the assessee to place necessary evidence confirming the capital contribution by above partner before the Assessing Officer. This issue is remitted back to the file of the Assessing Officer for fresh consideration. - Decided in favour of assessee for statistical purposes.

Summary

Issues Involved:
1. Treatment of business loss as speculative loss in respect of forex derivative contracts.
2. Treatment of capital introduced by the partner as unexplained income under Section 68 of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Treatment of Business Loss as Speculative Loss in Respect of Forex Derivative Contracts:

The primary issue in these appeals is the confirmation of the addition made by the Assessing Officer (AO), treating the business loss as speculative loss in respect of forex derivative contracts, specifically Exotic Cross Currency Option Contracts. The assessee, engaged in manufacturing and exporting hosiery garments, entered into several forex derivative contracts and incurred significant losses, which it claimed as business losses. The AO, however, considered these losses as speculative transactions, distinct from the assessee's business, and not allowable to set off against business income. This view was confirmed by the Commissioner of Income Tax (Appeals).

The assessee argued that derivatives had been excluded from the definition of 'speculative business' under Section 43(5) by sub-clause (d) inserted with effect from 01.04.2006. The assessee contended that foreign currency is neither a commodity nor shares, and trading in foreign currency is regulated under the Foreign Exchange Regulations Act, 1973. The transactions were entered into for hedging against losses due to exchange rate fluctuations in the normal course of business, and not for speculation.

The assessee relied on several judicial precedents, including the Co-ordinate Bench's decision in M/s. Cotton Blossom (India) P. Ltd, Munjal Showa Ltd vs. DCIT, CIT vs. Badridas Gauridu (P) Ltd, D. Kishore Kumar & Co vs. DCIT, and DCIT vs. Intergold (I) Ltd, which supported the view that such transactions, when undertaken for hedging purposes, are not speculative in nature.

The Departmental Representative argued that derivatives should be included in the definition of 'commodity' under Section 43(5), and cited the Special Bench decision in Sri Capital Services vs. ACIT, which held that derivatives are commodities for the purpose of Section 43(5)(d). The Bombay High Court's decision in CIT vs. Bharat R. Ruia (HUF) also supported the view that transactions in derivatives are speculative.

Upon hearing both parties, the Tribunal concluded that both trading of shares and derivative transactions are not speculative under Section 43(5). The Tribunal emphasized that the derivative transactions were entered into for hedging purposes and were directly attributable to the assessee's export business. The Tribunal relied on the Co-ordinate Bench's decision in M/s. Aishwarya & Co P. Ltd and the Calcutta High Court's decision in M/s. Baljit Securities Pvt. Ltd, which held that such transactions should be treated as non-speculative.

The Tribunal directed that the total transactions considered for determining business loss from derivative transactions should not exceed the total export turnover of the assessee for the assessment year. Any excess transactions should be treated as speculative loss.

2. Treatment of Capital Introduced by the Partner as Unexplained Income under Section 68:

In ITA No.1336/Mds/2014, the issue was the addition of Rs. 25,23,500/- introduced by a partner as capital, which the AO treated as unexplained income under Section 68. The assessee failed to furnish the source of this capital to the AO and the Commissioner of Income Tax (Appeals).

The Tribunal noted that the assessee must prove the identity of the partner, the genuineness of the transaction, and the creditworthiness of the partner. If the partner confirms the introduction of the capital from their account, the burden on the assessee is discharged, as held by the Andhra Pradesh and Telangana High Court in CIT vs. M. Venkateswara Rao.

In the interest of justice, the Tribunal remitted the issue back to the AO, directing the assessee to provide necessary evidence confirming the capital contribution by the partner.

Conclusion:

The appeals were partly allowed. The Tribunal directed the AO to recompute the business loss from derivative transactions, ensuring it does not exceed the total export turnover, and to reconsider the issue of capital introduction by the partner based on evidence provided by the assessee.