2015 (8) TMI 366 - AT - Income Tax

Loss incurred on account of forex derivative contracts - treated as speculative loss and thereby not allowing the assessee to set off the losses against its business income - Held that - The assessee is an exporter of garments who has entered into forex derivative transactions through its bankers with a view to effectively hedge its foreign currency risk. Therefore, these forex derivative transactions have a close proximity or rather incidental to the export business of the assessee, which cannot be considered as speculative. Moreover in the case of the assessee foreign currency contracts cannot be treated as wagering contracts for the reasons discussed herein above. Section-43(5) of the Act is applicable to transactions in commodity or stocks and shares. If currency is treated as commodity, then according to Section 43(5) (a) of the Act, such transaction shall not be deemed to be speculative transaction. Further currency cannot be treated as stock or shares because inherently they have different characteristic. Further, in the case of the assessees, the foreign exchange exposure for the relevant period specified by R.B.I regulations is quiet substantial in order to justify the forex derivative transactions made by the assessee through Government recognized channel, otherwise the RBI would not have entertained these transactions and would have restrained the banks from entering into such transaction with its clients. Thus we direct the Revenue to set off of the losses incurred by the assessee on account of forex derivatives contracts against the business income of the assessee.- Decided in favour of assessee. Disallowance of the notional loss due to foreign currency fluctuation on the loan obtained for acquiring capital assets - Revenue has allowed to capitalize the actual loss resulting from repayment of loan during the relevant previous year and given the benefit of depreciation - Held that - On reading Section 43A of the Act, it is abundantly clear that where the assessee has acquired an asset in any previous year from a country outside India for the purpose of his business or profession, any loss or gain arising out of the foreign currency fluctuation during any previous year after the acquisition of such asset shall be added or deducted from the actual cost of the asset on actual payment or repayment of foreign currency loan. In the case of the assessee, the actual loss on repayment of loan is ₹ 1,36,00,000/- and the Revenue has accordingly allowed the assessee to capitalize this amount and claim depreciation. Therefore, we do not find any infirmity in the order of the Ld. CIT (A). - Decided against assessee.

Summary

Issues Involved:

1. Treatment of loss incurred on account of forex derivative contracts as speculative loss.
2. Entitlement for deduction under Section 80-IA of the Income Tax Act.
3. Disallowance of notional capital loss due to foreign currency fluctuation on the loan for the purchase of capital assets.

Issue-wise Detailed Analysis:

1. Treatment of Loss Incurred on Account of Forex Derivative Contracts as Speculative Loss:

The primary issue in the appeals by M/s. SCM Garments (P) Ltd. and M/s. Gajaananda Jewellery Maart Pvt Ltd. was whether the loss incurred on forex derivative contracts should be treated as speculative loss. The Revenue treated the loss as speculative, thereby denying the set-off against business income. The assessee argued that these transactions were not speculative but were entered into to hedge against currency fluctuation risks in the normal course of business, as per RBI regulations. The Assessing Officer and CIT (A) concluded that these transactions were speculative, citing the nature of the contracts and the proportion of loss incurred. However, the Tribunal concluded that the forex derivative transactions were entered into to hedge against currency risks and were directly attributable to the business. The Tribunal held that such transactions are not speculative since they are governed by RBI guidelines and are incidental to the business. The Tribunal allowed the set-off of the forex derivative losses against business income for both assessees.

2. Entitlement for Deduction under Section 80-IA of the Income Tax Act:

In the Revenue's appeal against M/s. SCM Garments (P) Ltd., the issue was whether the assessee was entitled to a deduction under Section 80-IA of the Act. Both parties conceded that this issue was covered by the Jurisdictional High Court's decision in Velayudhaswamy Spinning Mills (P) Ltd Vs. ACIT, which was in favor of the assessee. Following this precedent, the Tribunal confirmed the order of the CIT (A) and allowed the deduction under Section 80-IA amounting to Rs. 5,40,39,798/-.

3. Disallowance of Notional Capital Loss Due to Foreign Currency Fluctuation on Loan for Purchase of Capital Assets:

For M/s. Gajaananda Jewellery Maart Pvt Ltd., the second issue was the disallowance of a notional capital loss of Rs. 6,37,54,000/- due to foreign currency fluctuation on a loan taken for purchasing capital assets. The Revenue allowed capitalizing the actual loss of Rs. 1,36,00,000/- incurred during the repayment of the loan, treating it as a capital expenditure. The Tribunal upheld the CIT (A)'s decision, which was based on Section 43A of the Act, stating that only the actual loss on repayment of the foreign currency loan should be capitalized and allowed as depreciation. The notional loss was not allowed as a deduction.

Conclusion:

The Tribunal allowed the appeals of M/s. SCM Garments (P) Ltd. for the assessment years 2009-10 and 2010-11, dismissing the Revenue's appeal for the assessment year 2010-11. The appeal of M/s. Gajaananda Jewellery Maart Pvt Ltd. for the assessment year 2009-10 was partly allowed, granting relief on the forex derivative loss but upholding the disallowance of the notional capital loss.