Income Tax Appellate Tribunal (ITAT) Mumbai in a recent judgment, held that loss incurred on the contract for transaction in un-expired contracts as on the Balance Sheet Date in derivatives in foreign currency complies with the provisions of Section 43(5) of the Act read with proviso (d) and explanation 1 of the Section 43(5) of the Act was not speculation loss .

ITAT also held that amount paid towards stamp duty and fee to Registrar of Companies (ROC) under Ministry of Corporate Affairs, New Delhi towards increase in authorized capital of the company was capital expenditure and disallowed as revenue expenditure.

Case Details:
ITA NO 5922/Mum/2013 ; Assessment year- 2009-10
Inventurus Knowledge Services Pvt. Ltd  (Appellants) vs Income Tax Officer (Respondent)
Date of Order: 21-10-2015

Brief Facts of the Case:
The appellant company is a KPO (Knowledge Process Outsourcing Unit) primarily involved in the business of Revenue Cycle Management (RCM) for their clients across US. During the  course of scrutiny proceedings, the assessing officer (AO) observed that the assessee company has debited Rs. 1,09,98,560/- to the Profit & Loss Account on account of ‘loss on derivative transaction’ while the gross revenue was Rs. 5,83,80,537/- on account of services rendered to foreign clients. The company was asked to explain such dis-proportionate loss as compared to gross revenue and the outstanding debtors as on 31-03-2009. The assessee company submitted that the assessee company is engaged in the business of providing business processing outsourcing services to its customers located in US and other countries and the income was received in foreign currency. The company submitted that during the financial year it had entered into foreign exchange derivative contracts on the National Stock Exchange of India Limited to hedge itself against foreign exchange fluctuations on account of underlying account receivables which are denominated in US Dollars. The company submitted that the loss on account of derivative transaction of Rs. 1,09,98,560/- representing loss arising out of restatement of foreign currency forward contract in accordance with Accounting Standard (AS-11) issued by the Institute of Chartered Accountant of India (ICAI) and mark to market losses on such foreign exchange derivative transactions as at the end of assessment year are booked in the books of accounts which were neither speculative nor contingent loss. The company relied upon the following judgments : 1. Shree Capital Services V. ACIT 318 ITR 1 2. CIT V. Woodward Governor India Pvt. Ltd. 312 ITR 254 3. Oil and Natural Gas Corporation Ltd. V. DCIT 261 ITR 1 4. DCIT V Bank of Bahrain & Kuwait 132 TTJ 505.

The AO held these transactions of foreign exchange as speculative in nature and held that it falls within the ambit of section 43(5) of the Income Tax Act,1961 (Act) and does not enjoys the benefit of provisio to section 43(5) of the Act . The AO held that it is for the assessee company to bring on record that this transaction is an ‘eligible transaction’ provided under Explanation 1 to section 43(5) of the Act and the same being a beneficial provision the onus is on the assessee company to bring on record cogent material to prove that its case falls with in the four corners of the beneficial provisions. The AO relied upon the Judgments of Hon’ble Supreme Court in the cases of Bacha F. Guzdar v. CIT 27 ITR 1 (SC) & CIT v. Ramkrishna Deo 35 ITR 312 (SC). Relying upon the Judgment of Hon’ble Supreme Court in the case of Tuticorin Alkali Chemicals & Fertilizers Ltd v. CIT 227 ITR 172 (SC), the AO held that accounting standard prescribed by ICAI cannot override the Act, and thus, rejected the contention of the assessee company by considering the loss as speculation loss and not allowed the set off against the income from business other than speculation business. The assessing officer also held the said mark to market loss on the forward contracts of foreign exchange as contingent and notional loss and hence dis-allowable under the Act.

Held:
The ITAT held that the loss complies with the provisions of Section 43(5) of the Act read with proviso (d) and explanation 1 of the Section 43(5) of the Act and is exempt to be categorised as speculation loss and it further held that the said loss as at the date of financial statement as at 31st March 2009 arising due to adverse movement in exchange rate between United States Dollars vis-a-vis in relation to Indian Rupee as on the date of Balance Sheet as at 31 ^st March 2009 is not a notional or contingent loss rather it is a ascertained liability which has crystallized on the date of Balance Sheet and can be computed with reasonable certainty and accuracy, hence it was allowable as non-speculation loss.

The Tribunal specified the following seven broad reasons for allowing the appeal of the company:-

1 That the assessee company has entered into derivative transactions in foreign currency through recognised stock exchange and has complied with the other conditions as stipulated in Section 43(5) read with proviso(d) and explanation 1 to the said Section 43(5) of the Act for which cogent material is brought on record.

2. That the contract for derivatives in foreign currency are commodity as defined u/s 43(5) of the Act , the underlying asset being foreign currency and are hence entitled for exemption from being treated as speculative provided all other conditions as stipulated u/s 43(5) are complied with.

3. A binding obligation accrued against the assessee the minute it entered into contract for derivative in foreign currency

4. A liability is said to have crystallized when a pending obligation on the balance sheet date is determinable with reasonable certainty. The considerations for accounting the income are entirely on different footing.

5. As per AS-11, when the transaction is not settled in the same accounting period as that in which it occurred, the exchange difference arises over more than one accounting period.

6. The contract for derivative in foreign currency have all the trappings of stock-in-trade.

7 In the ultimate analysis, there is no revenue effect and it is only the timing of taxation of loss/profit and in case the derivative contract is squared off/settled in the succeeding year, the difference in loss/profit will be brought to tax in the succeeding assessment year and hence its allowability in the current year is tax neutral.

Regarding disallowance of stamp duty and fee to Registrar of Companies ITAT relied upon Hon’ble Supreme Court in the case of Brooke Bond India Ltd. v. CIT and Punjab State Ind. Corp. Ltd. v. CIT where it was clearly held that stamp duties/fees to Ministry of Corporate Affairs paid towards the increase in authorized capital of the company is for expansion of capital base of the company and hence these are capital expenditure and cannot be allowed.

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