2018 (2) TMI 253 - AT - Income Tax

Transaction in currency derivatives - treated as marked to market transactions - whether liable to be held as speculative within meaning of section 43(5) - CIT-A considered the transactions entered into by the assessee, to be speculative transactions and loss incurred by the assessee not been allowed to be set off against other business income of the assessee - Held that - As rightly contended, not only were the losses incurred by the assessee entitled to be held as non-speculative, but also the whole of the loss sustained by him was entitled to be allowed to be set off with other income and no part of such loss could be disallowed by holding it to be a notional loss . The facts of the case for assessment year 2014 -15 are in pari materia with those of assessment year 2013-14, except for the fact that there was, undisputedly, no outstanding position as on 31.03.2014 and hence, the observations with regard to assessment year 2013-14 would, mutatis mutandis, apply to assessment year 2014-15 also. DR has sought to place reliance on the Foreign Exchange Management (Foreign Exchange Derivatives Contracts Regulations), 2000 and the Foreign Exchange Control Manual, Chapter -3 Securities Service Contracts (Regulation) Act, 1956. However, neither the aforesaid Regulations, nor the Manual were the subject matter of consideration before the Authorities below. The transactions in currency derivatives as entered into by the assessee, were not speculative transactions. There were no derivative contracts outstanding on 31.03.2014, which could be termed as a notional loss. Accordingly, the loss sustained by the assessee in trading of currency derivatives, amounting to ₹ 17,09,121/- for A.Y. 2013-14 and ₹ 11,84,370/- for A.Y. 2014- 15 are allowed to be set off against the other business income of the assessee. So far as regards A.Y. 2013-14, the assessee has contended that alternatively there were only transactions concerning 1200 currency derivatives sold by the assessee for ₹ 6,55,55,211/-. Thus, on account of being marked-to-market , resulted into a loss of ₹ 51,789/- against a total loss of ₹ 17,09,120.61. In this regard, the assessee has placed on record, at APB 238 to 245, stock results in the books of account of the assessee, in respect of the currency derivatives. These documents are stated to have been filed before the AO as well. Accordingly, as per the assessee it is only this loss of ₹ 51,789/-, which could have been disallowed. However, since the transactions have, as above, been held to be not speculative transactions, this alternative argument of the assessee is not required to be gone into

Issues Involved
1. Classification of transactions in currency derivatives as speculative or non-speculative.
2. Eligibility of loss incurred in currency derivatives to be set off against other business income.
3. Consideration of 'marked to market' losses as notional or actual losses.

Detailed Analysis

1. Classification of Transactions in Currency Derivatives as Speculative or Non-Speculative
The primary issue was whether the transactions in currency derivatives conducted by the assessee should be classified as speculative transactions under Section 43(5) of the Income Tax Act. The assessee argued that these transactions were non-speculative as they were conducted through a recognized stock exchange and were supported by time-stamped contract notes, fulfilling the conditions under clause (d) of the proviso to Section 43(5).

The tribunal examined the provisions of Section 43(5) and the exceptions listed under clauses (a) to (e). It was concluded that the transactions met the criteria under clause (d), which excludes 'eligible transactions' in derivatives carried out in a recognized stock exchange from being deemed speculative. The transactions were conducted through MCX Stock Exchange Ltd., a recognized stock exchange, and were supported by proper documentation, thus qualifying as non-speculative.

2. Eligibility of Loss Incurred in Currency Derivatives to be Set Off Against Other Business Income
The assessee sought to set off the loss incurred from currency derivatives against other business income. The AO had disallowed this on the grounds that the loss was speculative and not claimed in the return. The CIT(A) upheld the AO's decision, considering the transactions as speculative and thus not eligible for set-off against other business income.

However, the tribunal found that the transactions were non-speculative under clause (d) of the proviso to Section 43(5). Consequently, the loss incurred was eligible to be set off against other business income. The tribunal also noted that the CIT(A) had erred in not considering the transactions as eligible under clause (d) and had misapplied the provisions of Section 73(1) and Explanation 2 to Section 28.

3. Consideration of 'Marked to Market' Losses as Notional or Actual Losses
The CIT(A) had disallowed the loss on the grounds that it was a 'marked to market' loss, which he considered notional. The tribunal, however, noted that only a portion of the loss could be considered notional if it pertained to unexpired contracts as of the financial year-end. The tribunal referred to various judicial precedents, including decisions by the Hon’ble Bombay High Court and the ITAT, which held that 'marked to market' losses are not notional but actual losses that should be allowed as deductions.

The tribunal found that the assessee had only one transaction of 1,200 lots of currency derivatives resulting in a 'marked to market' loss of ?51,789, which could be considered notional. However, the remaining loss of ?1,657,332 was actual and thus eligible for set-off.

Conclusion
The tribunal allowed the appeals, holding that the transactions in currency derivatives were non-speculative and the losses incurred were eligible to be set off against other business income. The tribunal also clarified that 'marked to market' losses should be treated as actual losses, except for the portion pertaining to unexpired contracts, which could be considered notional. The orders of the CIT(A) were reversed, and the losses for both assessment years were allowed to be set off against other business income.

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