2019 (8) TMI 613 - AT - Income Tax

Allowability of difference of conversion of FCNR loan into rupee loan - assessee has to absorb the exchange difference at the time of conversion of FCNR loan into rupee loan - AO stated that restatement of the loan resulted in enhancement of principle amount being related to acquisition of plant and machinery, the conversion loss has direct nexus with the acquisition of capital asset and hence, it is a capital loss - CIT(A) dismissed the appeal holding that the provisions of section 43A is applicable in this case - HELD THAT - In our view, section 43A has no application considering the fact that the fixed assets were purchased in Indian currency and only the term loan was converted into FCNR and back to rupee loan. The provisions of section 43A are applicable only when the assessee acquires any asset in any previous year from a country outside India and in consequence of a change in the exchange rate, there may be increase or decrease in the liability as expressed in Indian currency as compared to the liability at the time of acquisition of such asset and at the time of settlement. Since, the assets acquired by assessee are not in foreign currency, the provisions of section 43A are not applicable. Let us consider that the assessee has availed rupee loan of ₹ 1 lakh from Syndicate Bank @ interest cost of 10% and later assessee converts the same into FCNR loan with the interest rate of 5%. The assessee services the FCNR loan and at the time of availing the FCNR loan, assessee aware that it is taking interest rate benefit but at the same time, there is exposure of foreign rate fluctuation. Subsequently, assessee converts the FCNR loan into rupee loan during this AY and due to exchange fluctuation, the liability of the assessee towards term loan increases to, let us say, ₹ 1,05,000/-. The original term loan availed by the assessee remains same but due to exchange fluctuation, the assessee takes the additional burden of ₹ 5,000/-. The question before us is, how to treat the above loss of ₹ 5,000/-. The assessee has converted the rupee loan into FCNR in order to take the interest benefit. It is purely a business decision and at the time of conversion, it is aware that there is exposure to the fluctuation of currency rates. Again, assessee converted the FCNR loan into rupee loan, the assessee has absorbed the exchange difference, it definitely falls under business decision and falls within the ambit of section 37. As explained earlier, the original term loan availed by assessee has not changed and remain same and there is no impact on the value of fixed assets since it is acquired in Indian currency. Therefore, it cannot be held that the capital value of the asset or liability has undergone change. Hence, as per the above decision, we allow the grounds raised by the assessee.

Summary

Issues Involved:
1. Allowability of finance cost due to conversion of FCNRB loan to INR loan.
2. Applicability of Section 43A of the Income Tax Act.
3. Nature of expenditure as capital or revenue.

Detailed Analysis:

1. Allowability of Finance Cost Due to Conversion of FCNRB Loan to INR Loan:
The assessee company, engaged in manufacturing paper products, filed a return declaring a loss for AY 2012-13. During scrutiny, the AO noted a significant increase in finance costs due to the conversion of FCNRB loans into INR loans, resulting in an additional liability of ?1,55,95,941/-. The assessee argued that this amount should be considered as finance charges and allowable under section 36(1)(iii) of the Act, citing Accounting Standards AS-11 and AS-16, which mandate charging exchange differences on forward contracts to the Profit and Loss account. The AO, however, treated this as a capital loss, arguing that the conversion resulted in an enhancement of the principal loan amount, which is capital in nature and not allowable as revenue expenditure.

2. Applicability of Section 43A of the Income Tax Act:
The CIT(A) upheld the AO's decision, stating that section 43A, which deals with adjustments to the cost of assets due to changes in exchange rates, was not applicable because the assets involved were not imported but purchased domestically. The CIT(A) referenced judicial precedents, including the Supreme Court's decision in Tata Iron & Steel Co. Ltd. and Sutlej Cotton Mills Ltd., emphasizing that losses related to capital assets are not allowable as revenue expenditure.

3. Nature of Expenditure as Capital or Revenue:
The assessee contended that the conversion of the loan was a business decision aimed at availing interest benefits and should be treated as a revenue expenditure under section 37 of the Act. The ITAT examined whether the exchange difference due to the conversion of FCNR loans into INR loans could be considered a business expenditure. The ITAT noted that the original term loan was availed in INR and converted into FCNR to benefit from lower interest rates, with the assessee fully aware of the exposure to currency fluctuations. The ITAT concluded that the exchange difference incurred due to the conversion should be treated as a business expenditure, falling within the ambit of section 37 of the Act, as it was a result of a business decision and did not impact the capital value of the assets acquired in Indian currency.

Conclusion:
The ITAT allowed the appeal of the assessee, holding that the exchange difference due to the conversion of FCNR loans into INR loans is a revenue expenditure allowable under section 37 of the Act. The provisions of section 43A were deemed not applicable as the assets were purchased domestically, and the nature of the expenditure was considered revenue, not capital. The appeal was pronounced in favor of the assessee on 9th August 2019.