2022 (3) TMI 1014 - AT - Income Tax

Foreign exchange fluctuation loss - AO during the course of scrutiny assessment proceedings noticed that the assessee has claimed deduction / loss on account of difference between actual exchange amount and exchange amount accounted - HELD THAT - This factual matrix remained uncontroverted and unchallenged. In the course of hearing, a query was also raised before assessee to demonstrate the accounting procedure adopted for the reversal of reinstatement of assets and liabilities as on 31st March of every year on account of exchange fluctuations, for which the ld. Counsel referred to the paper-book compilation submitted before us and demonstrated the accounting methodology adopted by the assessee for the same. As gone through the judgment in the case of Woodward Governor India P. Ltd. 2009 (4) TMI 4 - SUPREME COURT wherein it was held that the loss suffered by assessee on account of foreign exchange difference as on the date of balance sheet is an item of expenditure allowable u/s.37(1) - it was held that the accounting method followed by an assessee continuously for a given period of time needs to be presumed to be correct till AO comes to conclusion for reasons to be given that said systems does not reflect true and correct profits. Disallowance of provision made towards stock - HELD THAT - On perusal of records and on specific query to the ld. Counsel of the assessee, we noted that provision for stock made by assessee is totally on adhoc basis, contingent in nature and that there is no historic trend explained before us. In the case of Rotork Controls India P. Ltd. 2009 (5) TMI 16 - SUPREME COURT has noted the issue regarding contingent liability like warranty provision and held that the value of contingent liability, like the warranty expenses, if properly ascertained and discounted on accrual basis can be claimed as item of deduction u/s.37(1) - But, Hon ble Supreme Court stated that the principle of estimation of contingent liability is not the normal rule. It would depend on the nature of the business, the nature of sales, the nature of the product manufactured and sold and the scientific method of accounting adopted by the assessee. It would also depend upon the historical trend and upon the number of articles produced. All the parameters indicated by the Hon ble Supreme Court while dealing with accounting for similar aspects like warranty provisions are not at all satisfied in the present case.

Summary

Issues Involved:

1. Disallowance of foreign exchange fluctuation loss for assessment years 2012-13 and 2014-15.
2. Disallowance of provision made towards stock for assessment year 2010-11.

Issue-wise Detailed Analysis:

1. Disallowance of Foreign Exchange Fluctuation Loss:

The common issue in the appeals for assessment years 2012-13 and 2014-15 was the disallowance of foreign exchange fluctuation loss claimed by the assessee. The assessee, engaged in the business of manufacturing and selling Metal Halide Lamps, accounted for foreign exchange differences as per the prevailing market rate on the date of invoice and at the end of the financial year. The Assessing Officer (AO) disallowed the claim, arguing that the method adopted by the assessee lacked sanctity as per accounting policies and was incorrect, as it involved capturing events post the financial year-end. The Commissioner of Income Tax (Appeals) [CIT(A)] upheld the AO's decision, stating that the practice of revaluing forex gain as of the filing date of the return was incorrect.

The Tribunal, however, noted that the assessee consistently followed a method of accounting for foreign exchange gains or losses year-on-year, and the Revenue had accepted this in certain years. The Tribunal referred to the Supreme Court's decision in CIT vs. Woodward Governor India P Ltd., which held that losses due to foreign exchange differences as on the balance sheet date are allowable under Section 37(1) of the Income-tax Act. The Tribunal concluded that the AO did not provide reasons to challenge the correctness of the assessee's accounting system. Thus, the Tribunal set aside the lower authorities' orders and allowed the assessee's claim for both assessment years 2012-13 and 2014-15.

2. Disallowance of Provision Made Towards Stock:

For the assessment year 2010-11, the issue was the disallowance of a ?25,00,000 provision made towards stock. The assessee argued that this provision was necessary due to the negligible value of certain materials and the custom duty payable for removing them from the Madras Export Processing Zone. The AO disallowed the provision, citing it as an estimate without a scientific basis or supporting evidence. The CIT(A) upheld the AO's decision.

The Tribunal examined whether the provision was based on scientific principles and proper working. The Tribunal found that the provision was ad hoc and contingent, lacking historical trend or scientific method. Referring to the Supreme Court's decision in Rotork Controls India P. Ltd. vs. CIT, the Tribunal noted that a provision must be based on a present obligation from a past event, a probable outflow of resources, and a reliable estimate of the obligation. The Tribunal concluded that the provision for stock did not meet these criteria and was not allowable under Section 37(1) of the Act. Therefore, the appeal for the assessment year 2010-11 was dismissed.

Conclusion:

The appeals for the assessment years 2012-13 and 2014-15 regarding the disallowance of foreign exchange fluctuation loss were allowed, while the appeal for the assessment year 2010-11 regarding the provision made towards stock was dismissed. The Tribunal's decisions were based on consistent accounting practices and judicial precedents, ensuring that the assessee's method of accounting was correctly followed and recognized.