Where assessee, an exporter of garments, entered into forex derivative transactions through its bankers to hedge its foreign currency risk, loss incurred on such transactions could be considered as business loss which could be set off against other business income
Where assessee has acquired a business asset from country outside India in any previous year, any loss or gain arising out of foreign currency fluctuation after such acquisition shall be added to or deducted from actual cost of such asset
IN THE ITAT CHENNAI BENCH ‘C’
SCM Garments (P.) Ltd.
Deputy Commissioner of Income-tax, Central Circle-III, Coimbatore
AND V. DURGA RAO, JUDICIAL MEMBER
IT APPEAL NOS. 1645 & 1646 (MDS.) OF 2013, 2275 & 2313 (MDS.) OF 2014
[ASSESSMENT YEARS 2009-10 & 2010-11]
FEBRUARY 27, 2015
T. Banusekar, C.A for the Appellant. Pramod Nargia, CIT D.R. for the Respondent.
A. Mohan Alankamony, Accountant Member – These are batch of four appeals consisting of two assessees M/s. SCM Garments (P) Ltd., and M/s. Gajaananda Jewellery Maart Pvt Ltd., (in which M/s. TCS Textiles (P) Ltd. has merged) and the Revenue. For the assessment year 2009-10 M/s. SCM garments (P) Ltd., the assessee, has filed the appeal, aggrieved by the order of the Ld. CIT (A) in ITA No. 222/11-12 dated 12.06.2013. For the assessment year 2010-11, the aforesaid assessee and the Revenue has filed the appeal, both aggrieved by the order of Ld. CIT (A) in ITA No. 112/13-14 dated 30.06.2014. For the assessment year 2009-10, M/s. Gajaananda Jewellery Maart Pvt Ltd., the assessee has filed the appeal aggrieved by the order of the Ld. CIT (A) in ITA No. 207/11-12 dated 12.06.2013. Since the issues in these appeals are common in nature, they are clubbed heard together and disposed of by this common order for the sake of convenience.
2. The concised grounds raised in all the appeals are listed below for adjudication.
2.A Assessee’s Appeal: M/s. SCM Garments (P) Ltd. (A.Ys. 2009-10 & 2010-11)in ITA Nos. 1645/13 & 2275/Mds/14:—
Common ground in both the above appeals
“The Revenue has erred in treating the loss incurred by the assessee on account of forex derivative contracts as speculative loss and thereby not allowing the assessee to set off the losses against its business income.”
2.B Revenue’s appeal: M/s. SCM Garments (P) Ltd. (A.Y.2010-11) in ITA No. 2313/Mds./14:—
“The Ld. CIT (A) has erred in holding that the assessee is entitled for deduction U/s. 80-IA of the Act”.
At the outset before us, both the parties fairly conceded that this issue is squarely covered by the Jurisdictional High Court in the case of Velayudhaswamy Spinning Mills (P.) Ltd. v. Asstt. CIT  340 ITR 477 in assessee’s favour. Therefore, respectively following the decision of Jurisdictional High Court (supra) we hereby confirm the order of the Ld. CIT (A) and allowed the deduction U/s. 80-IA of the Act amounting to Rs. 5,40,39,798/-
2.C Assessee’s Appeal: M/s. Gajaananda Jewellery Maart Pvt Ltd. (A.Y.2009-10 ) in ITA No. 1646/Mds./2013:—
1. “The Revenue has erred in treating the loss incurred by the assessee on account of forex derivative contracts as speculative loss and thereby not allowing the assessee to set off the losses against its business income.”
2. “The Ld. CIT (A) has erred in confirming the order of the Ld. Assessing Officer for disallowing the notional capital loss of Rs. 6,37,54,000/- as a revenue loss which had arisen due to the foreign currency fluctuation on the loan taken for the purchase of capital asset and capitalizing the actual loss incurred during the year on repayment of loan due to foreign currency fluctuation instead of treating the same as revenue loss.”
3. The first ground in all the assessee’s appeals is identical and therefore, for the sake of convenience the appeal by the assessee in ITA No. 1645/Mds./2013 for the assessment year 2009-10 is taken as a lead case for disposal.
4. M/s. SCM Garments Pvt. Ltd., Assessee’s Appeal in ITA No. 1645/Mds./2013 for the assessment year 2009-10.
The brief facts of the case are that the assessee is a private limited company engaged in the business of manufacture and export of garments and generation of electricity, filed it return of income on 30.09.2009 admitting an income of Rs. 12,75,09,300/-. The case was taken up for scrutiny and the assessment was completed U/s. 143(3) of the Act on 30.12.2011 wherein the Ld. Assessing Officer made one of the additions being disallowance of setoff of forex derivative loss Rs. 25,28,21,010/- against normal business income. During the course of assessment proceedings, the Ld. Assessing Officer observed that the assessee had debited forex derivative of loss of Rs. 25,28,21,010/-. It was the claim of the assessee that the loss incurred in derivative transaction during the year should be set off against the income from other business income. The argument of the assessee was that these transactions are not speculative nature because they are transacted in the normal course of business to hedge the loss from depreciation of rupee against the export receivables in foreign currency, which is in accordance with the regulations laid down by the Reserve Bank of India (RBI). Hence, it is not a transaction as stipulated U/s. 43(5) (a) & (d) of the Act. Before the Ld. Assessing Officer, the assessee has advanced the following submissions in support of its stand:—
|(i)||The assessee is an exporter and most of its receivables are in foreign currency.|
|(ii)||In order to cover up the foreign currency exposures due to the normal business activity of the assessee, they had to enter into forward options contract which are mostly settled by delivery of currency.|
|(iii)||The profit or loss on account of forex derivative contract in the case of the assessee is incidental to the normal business of the assessee having a direct nexus.|
|(iv)||In order to hedge the currency risk the assessee on the basis of realistic calculation and also on the basis of advice of the bankers has entered into such transaction.|
|(v)||This loss on account of forex derivative contract was incurred by the assessee despite scientific analysis and expert advice due to global economic meltdown which had occurred during the second half of 2008.|
|(vi)||Foreign exchange is not a commodity but it is currency. Therefore, Section 43(5) of the Act will not be applied in the case of the assessee.|
4.1 However, the Ld. Assessing Officer, after analyzing derivatives and money market such as futures contract, forward contract and options contract and provisions of the Income Tax, observed as under:—
|(i)||The cardinal issue under consideration is whether or not the transactions that is admitted by the assessee as cross currency Option’s contract is a derivative transaction U/s. 43(5)(d) of the Act when it is transacted to prevent loss due to fluctuation in currency rate during the normal course of export/import business of the assessee.|
|(ii)||There are four forward contracts in the nature of over-the-counter option (OTC) entered with State Bank of India (SBI) in respect to currency Euro, USD and JPY.|
|(iii)||All the aforesaid contracts were finally settled not by the delivery of the currency but by paying the loss in Indian rupee computed on the notional purchase and sale of the foreign currency.|
|(iv)||The assessee is not a dealer in stock and shares and not a member of a forward market or stock exchange and the transactions were also not carried out through a recognized stock exchange.|
|(v)||The aforesaid nature of transactions shows that the transactions were derivatives which are speculative in nature.|
|(vi)||The quantum of loss in derivatives is eight times more than the loss on currency fluctuation. Thus, there is a disproportion in the exposure to the currency option.|
|(vii)||The decision of Special Bench by the Calcutta Tribunal in the case of Shree Capital Services Ltd. v. Asstt. CIT  121 ITD 498 (Kol.), it was held that the derivates are commodities for the purpose of Section 43(5) of the Act and the loss from such transaction is a speculative loss.|
4.2 Further relying on certain decisions, the Ld. Assessing Officer concluded by rejecting the assessee’s claim and treating the loss of Rs. 25,28,21,010/- as speculation loss for the following reasons:—
|(a)||The proportion of loss incurred in options contract is eight times more than forex exchange loss and in the year in which the options contract was entered, the foreign currency fluctuation loss was very minimal. Therefore, the claim that the transaction was done to reduce anticipated loss from collectibles in foreign exchange is not supported by facts.|
|(b)||In view of the Explanation-2 to Section 28 r.w.s 43(5), the assessee’s claim that the loss has to be treated as separate non-speculation business loss is not correct. When there is a specific provision in the Act, income has to be computed accordingly.|
|(c)||The transactions transacted by the assessee is in the nature of derivatives referred to in sub-section (d) of section 43(5) of the Act and the conditions stipulated in Explanation to the said sub-section for treating it as a non-speculation transaction are not met.|
4.3 On appeal to CIT (A), the Ld. CIT (A) after examining the issue made the following observations:—
|(i)||Forex derivatives are commodities as understood in business parlance. In arriving at such conclusion the Ld. CIT (A) relied in dictionary meaning of the word ‘Commodity’ and the decision of the Special Bench of the Calcutta Tribunal in the case Shree Capital Services Ltd. (supra), CIT v. Shri Bharat R. Ruia (HUF)  337 ITR 452/199 Taxman 87/10 taxmann.com 265 (Bom.).|
|(ii)||Until liberalization of Indian economy in 1991, foreign exchange was treated as scarce commodity and was not available for trade or purchase by the individuals. Only during mid 2000 the RBI allowed trading in foreign exchange.|
|(iii)||Since trading in foreign exchange was not permissible earlier, the Income Tax Act, which was passed by the Parliament in 1962, did not foresee forex derivative transactions and therefore, there was no reference of the same in the Act.|
|(iv)||The assessee’s account was debited or credited by the contracting State Bank of India on the settlement date based on the currency movements upto the maturity date and therefore, they are speculative nature.|
|(v)||Export bills or receivables of the assessee cannot be linked to the derivative transactions.|
|(vi)||These transactions are clearly a speculative bet on the currency which is in the nature of wager contract.|
|(vii)||These transactions are not settled by actual delivery of foreign exchange but by settling on the difference between the agreed price on maturity date which may either result into profit or loss by the assessee.|
|(viii)||The assessee’s claim that these transaction with SBI are as per RBI guidelines and FEMA regulations, will not bring the transactions outside the scope of speculation.|
|(ix)||These transactions undertaken by the assessee in order to reduce the risk has ultimately resulted in huge loss to the assessee and therefore, it cannot be held as hedging transaction in order to reduce the risk to the assessee.|
4.4 With the above observation and relying on the order of the Ld. Assessing Officer, the Ld. CIT (A) held that the loss from derivatives contract suffered by the assessee is short time speculative transactions without any ‘hedge’, underlying on the regular export business of the assessee. Aggrieved by the order of the Ld. CIT (A), the assessee is in appeal before us.
5. Before us the Ld. AR made the following submissions.
|(i)||The assessee is engaged in the business of garment exports and therefore it is constantly exposed to foreign currency fluctuation risk. Only in order to iron out this risk the assessee has made foreign currency derivatives contracts in order to hedge against currency fluctuation.|
|(ii)||Foreign currency derivative contract are governed by the provisions of foreign exchange management Act which authorizes Reserve Bank of India to frame guidelines in respect of transactions in forex derivatives. These transactions are of three types namely forward contracts, options contracts and swaps contracts which are mainly used for hedging risk arising out of currency exposures.|
|(iii)||Since during the relevant assessment year there was an unprecedented appreciation of Rupee against dollar due to which the bankers of the assessee advised the assessee to exercise sophisticated hedging tools such as ‘options and swaps’ in order to contain the risk of foreign currency exposures.|
|(iv)||Thus the assessee has acted only on the advice of its bankers in order to reduce the risk due to foreign currency exposures and there was no intention to indulge in any speculative activities.|
|(v)||Unfortunately, due to global economic meltdown the advice of the bankers went haywire which resulted in huge loss to the assessee during the course of its ordinary business.|
|(vi)||Section 43(5) of the Act defines speculative transactions only with respect to contracts arising out of purchase and sale of commodity, stock and shares that are periodically or ultimately settled otherwise than by actual delivery or transfer of such commodity or strips. Foreign currency can neither be called as commodity or stocks and shares. Reliance was placed on the decision of the Mumbai Tribunal in the case of Munjal Showa Ltd. v. Dy. CIT  94 TTJ (Delhi) 227.|
|(vii)||The forex derivative transactions entered by the assessee though nationalized banks are regulated and permitted by Reserve Bank of India keeping in view the nature of the business carried on by the assessee.|
|(viii)||These transactions carried out by the assessee in order to reduce the risk of foreign currency fluctuation during the course of the ordinary business of the assessee cannot be considered as business by itself bring it into the ambit of section 73(1) of the Act.|
|(ix)||Reliance was placed by the Ld. AR in the decision of the case :—|
|(a)||CIT v. Badridas Gauridu (P.) Ltd.  261 ITR 256|
|(b)||CIT v. Soorajmull Nagarmull  129 ITR 169|
|(c)||Munjal Showa Ltd. (supra)|
|(d)||Rajshree Sugars & Chemicals Ltd. v. AXIS Bank 8 MLJ 261 Madras High Court.|
|(e)||Ramachandar Shivnarayan v. CIT  111 ITR 263 (SC)|
|(f)||Sutlej Cotton Mills Ltd. v. CIT  116 ITR 1 (SC)|
6. On the other hand the Ld. DR argued in support of the order of the Ld. Assessing Officer and the Ld. CIT (Appeals) and submitted as follows:
|(i)||Foreign currency derivate contracts are speculative in nature and therefore, loss arising out of the same has to be treated as speculative loss as defined u/s. 43(5) of the Act.|
|(ii)||The foreign currency derivate contracts transacted by the assessee constitutes a separate business activity of the assessee and therefore set off loss arising out of foreign currency derivate contracts of the assessee which is speculative in nature, is permissible only against profits & gains arising out of speculative business of the assessee.|
|(iii)||The proposition of loss incurred in options contract by the assessee is eight times more than the foreign exchange loss suffered by the assessee.|
|(iv)||During the relevant assessment year in which the assessee had entered into foreign exchange options contract, the actual foreign currency fluctuation loss suffered by the assessee was minimum. Therefore, the claim of the assessee that the foreign currency options exercise by the assessee was to reduce the anticipated loss from sales receivable in foreign exchange is not appropriate.|
|(v)||When there is specific provision in the Act in respect of speculative transactions, those provisions has to be applied while computing speculative income/loss of the assessee.|
|(vi)||The assessee’s case does not fall within the provisions of section 43(5) (a) to (d) of the Act in order to exclude the foreign exchange derivative transactions made by the assessee outside the scope of speculative transactions.|
It was therefore pleaded by the Ld. D.R that the order of the Revenue may be sustained.
7. We have heard the rival submissions and carefully perused the material on record and case laws relied by both the parties. In this case before us, one of the major business activities of the assessee is export of business garments as it appears from the financial statements submitted by the assessee. Therefore, it is obvious that the assessee would be having huge sundry debtors resulting from export of garments which are receivable in the foreign currency. These sundry debtors are exposed to currency fluctuation risk. One of the methods to protect loss against foreign currency fluctuation is by way of ‘hedging’. Hedging transactions are entered in order to protect against the loss due to compensatory price movement. It protects an asset or liability against fluctuation in foreign exchange rate. One of the tools for hedging the forex risk is by way of foreign currency derivatives. Section 45 of the Reserve Bank India Act, 1949 defines derivative as a financial instrument whose value depends on the value of the underlying exposures. In the case before us, the underlying exposure is the foreign currency. The commonly used forex derivatives are Forward contracts, Options contracts and Swap contracts. These instruments are used to hedge the currency risk on account of adverse currency movements. In the present case before us, the assessee has selected to book “Options Contract” as per the advice of its bankers in order to hedge its foreign exchange risk. “Options contract” is a right to exercise the option of buying or selling of a foreign currency at a particular price. However, the assessee is not compelled to buy or sell, if the spot market prices are favorable or not favorable. The cost of this “option” is called ‘Option Premium’. Upon the payment of the same, the exporter is hedged against adverse currency movement and also not liable to loose in case of favorable currency movement. Therefore, it is apparent in the case of the assessee that the assessee had entered into “Options Contract” (derivative) with the bank in order to hedge its foreign exchange risk. In the case of the assessee, what has happened is that due to adverse foreign exchange movement, the bank has debited the loss to the assessee’s account. Thus, the loss debited by the bank in the assessee’s account has crystallized and is a realistic loss suffered by the assessee. In these circumstances, the issue under consideration before us is that, whether loss on account forex derivates are to be considered as a business loss in parlance with Section 28 of the Act. Further, in the case of the assessee before us, the following facts emerge and the legal issues involved are discussed and summarized herein below:—
|(i)||The assessee has entered into forex derivative transactions only in order to contain the foreign currency fluctuation risk.|
|(ii)||Thus, the loss on account forex derivative transactions are directly attributable to the normal business of the assessee.|
|(iii)||The loss incurred by the assessee is realistic and not notional.|
|(iv)||Only money changers and banks are allowed to trade in foreign currency and the assessee is neither a money changer nor a bank.|
|(v)||The assessee has only utilized the service of nationalized bank in order to iron out the loss arising out of foreign currency fluctuation risk by entering into forex derivative contract.|
|(vi)||The Special Bench of the ITAT, Kolkata Bench in the case of Shree Capital services Ltd. (supra) has held that foreign currency is neither commodity nor shares as defined U/s. 43(5) of the Act.|
|(vii)||The Instructions issued by CBDT Instruction No. 03/2010 dated 23.03.2010 has recognized the loss out of forex derivatives on actual settlement/conclusion of contracts as allowable business loss, however they have directed the Revenue to examine whether the transactions would fall U/s. 43(5)(d) of the Act, and if so to treat the same as non-speculative transaction. By the above directions, it appears that though the CBDT has recognized the loss arising out of forex derivatives on actual settlement of the contracts, directed the Revenue to treat the same as speculative transaction when they are transacted through nationalized banks and as not speculative, when these transactions are transacted through recognized stock exchange.|
|(viii)||It is pertinent to note here that the bankers act as an advisory agent to the assessee in order to protect them from foreign exchange exposure by using their expertise and these services cannot be obtained by the assessee in the stock exchange where their scope of service is very limited.|
|(ix)||In the present case the assessee has taken a hedging position to the extent of Rs. 1.05 crores and USD Rs. 3 crores during the period 2007-2009 based on the RBI guidelines. The guidelines permitted hedging to the extent of last three years annual average turnover, or current year’s actual export turnover whichever is higher. Where exact amount of underline transaction was not ascertainable according to RBI guidelines, the contracts could be booked on the basis of reasonable estimate. The assessee has taken its hedging position in accordance with the guidelines of RBI and the same is not disputed.|
|(x)||The claim of the assessee was that the underlying exposure both in respect of Euro and USD is more than adequate to cover the hedging positions taken in respect of cross currency derivative contracts entered into by the assessee. The Revenue has not brought out any material on record to controvert to this claim of the assessee.|
|(xi)||Since the assessee has entered into foreign currency derivative contract adequate enough to cover the overall exposures of foreign currency, the contention of the Revenue that the proportion of the loss in derivatives is eight times more than the loss from currency fluctuation does not have any merits.|
|(xii)||The forex derivative transactions transacted by the assessee are through nationalized banks in compliance with the RBI regulations. These regulations permit the assessee to enter into such derivative transactions only by fulfilling certain conditions in the course of the business of the assessee. These regulations do not permit the assessee to enter into forex derivative contract as a separate business.|
|(xiii)||Section 73(1) of the Act restricts the set off of speculation loss against the other business income in only those cases were speculative transactions carried on by the assessee are of such nature so as to constitute a business by itself. It is pertinent to mention here that RBI does not permit any bank under its umbrella to entertain its client in any separate business of forex derivative transactions. Permission is granted only for the clients of the bank to hedge on foreign exchange in order to minimize the risk of the foreign currency exposure arising out of import and export trade.|
|(xiv)||The Hon’ble jurisdictional Madras High Court in the case Rajashree sugars and chemicals Ltd. (supra) has held that derivative transactions ceased to be speculative transactions or wages because pricing of the deal follows a scientific pattern on the basis of financial mathematics. Just as actuaries scientifically determined the value of insurance risk and the premium payable, Financial Mathematician/Portfolio Managers evaluate the price of these derivatives. (Para 81 of the Order)|
8. Further, it is pertinent to note that the foreign currency is neither commodity nor stock or shares. “Foreign currency” is nothing but currency printed in a different country. It is money of a country other than one’s own. “Currency” is a generally accepted form of money including coins and paper notes which is issued by a government and circulated within an economy. It is a medium based on the value of an underlying commodity. It is used as medium of exchange for goods and services. The currency value of one country with another country fluctuates according to the economic factors prevalent in those countries. Therefore holding foreign currency is placing reliance on the economic factors prevalent in that country and Stock/Shares is placing reliance in the economic strength and business policies of the company. Section 43(5) of the Act defines speculative transactions as under:—
Section 43 (Relevant provisions are highlighted herein below)
‘(5): “speculative transaction” means a transaction in which a contract for the purchase or sale of any commodity, including stocks and shares, is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips:
Provided that for the purposes of this clause—
|(a)||a contract in respect of raw materials or merchandise entered into by a person in the course of his manufacturing or merchanting business to guard against loss through future price fluctuations in respect of his contracts for actual delivery of goods manufactured by him or merchandise sold by him; or|
|(b)||a contract in respect of stocks and shares entered into by a dealer or investor therein to guard against loss in his holdings of stocks and shares through price fluctuations; or|
|(c)||a contract entered into by a member of a forward market or a stock exchange in the course of any transaction in the nature of “actual delivery”, see Taxman’s Direct Taxes Manual, Vol. 3. Jobbing or arbitrage to guard against loss which may arise in the ordinary course of his business as such member; or|
|(d)||an eligible transaction in respect of trading in derivatives referred to in clause 35(ac) of section 236 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956) carried out in a recognized stock exchange;|
shall not be deemed to be a speculative transaction.
Explanation. — For the purposes of this clause, the expressions—
(i) “eligible transaction” means any transaction,—
|(A)||carried out electronically on screen-based systems through a stock broker or sub-broker or such other intermediary registered under section 12 of the Securities and Exchange Board of India Act, 1992 (15 of 1992) in accordance with the provisions of the Securities Contracts (Regulation) Act, 1956 (42 of 1956) or the Securities and Exchange Board of India Act, 1992 (15 of 1992) or the Depositories Act, 1996 (22 of 1996) and the rules, regulations or bye-laws made or directions issued under those Acts or by banks or mutual funds on a recognised stock exchange; and|
|(B)||which is supported by a time stamped contract note issued by such stock broker or sub-broker or such other intermediary to every client indicating in the contract note the unique client identity number allotted under any Act referred to in sub-clause (A) and permanent account number allotted under this Act;|
(ii) “recognised stock exchange” means a recognised stock exchange as referred to in clause (f) of section 238 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956) and which fulfils such conditions as may be prescribed and notified 39 by the Central Government for this purpose;’
It is pertinent to note that banks have option to trade in foreign currency derivatives either through recognized stock exchange or through RBI. When the banks facilitates its clients to deal in foreign exchange derivatives through RBI, more stringent regulations are complied and therefore these transactions cannot be denied the benefits provided under the Act when traded through recognized stock exchange.
9. Now the question is whether to treat the foreign currency derivatives as commodities, or stocks and shares. If it is treated as commodities, Section 43(5)(a) of the Act comes to the rescue of the assessee because in the present case, the assessee is a manufacturer and exporter of garments and the assessee has entered into foreign currency derivative transactions to guard against future currency fluctuations which has a close proximity to the business of the assessee. On the other hand, if it is treated as stock/shares, such transactions will not be treated as speculative transactions if the transaction is carried out through a recognized stock exchange. The argument of the Revenue is that, if the transactions are made though banking sectors, then the same will fall within the scope of speculative transactions. This argument appears to be absurd and illogical because both Recognized Stock Exchange and Nationalized Banks are either Government regulatory body or extended arm of the Government. Further the characteristic of the currency and stock/shares are not the same and therefore, currency cannot be held as stock or shares. This view is also fortified with the various decisions.
10. Now let us examine the following decisions:—
A. In the case of Badridas Gauridu (P.) Ltd. (supra) wherein it was held that the assessee was not a dealer in foreign exchange. The assessee was a cotton exporter. The assessee was an export house. Therefore, foreign exchange contracts were booked only as incidental to the assessee’s regular course of business. The Tribunal has recorded a categorical finding to this effect in its order. The Assessing Officer has not considered these facts. Under s.43(5) of the IT Act, ‘Speculative transaction” has been defined to mean a transaction in which a contract for the purchase or sale of a commodity is settled otherwise than by the actual delivery or transfer of such commodity. However, as stated above, the assessee was not a dealer in foreign exchange. The assessee was an exporter of cotton. In order to hedge against losses, the assessee had booked foreign exchange in the forward market with the bank. However, the export contracts entered into by the assessee for export of cotton in some cases failed. In the circumstances, the assessee was entitled to claim deduction in respect to Rs. 13.50 lakhs as a business loss. This matter is squarely covered by the judgment of the Calcutta High Court, with which we agree, in the case of Ld.Soorajmull Nagarmull (supra).
B. In the case of Sooraj mull Nagarmull (supra) wherein it was held that the assessee used to carry on export and import of jute business. In the course of normal business it used to enter into foreign exchange contracts in order to cover up loss and difference in foreign exchange valuation. The assessee utilized part of the amount of the foreign exchange covered. This finding of fact has not been challenged, If in the course of normal carrying on of business certain loss or obligation or interest arise these must be deferrable to the carrying on of the business and these must be incidental to the carrying on of the business. Undoubtedly, the contract for foreign exchange as such can be treated as a contract for commodity. But the question here essentially is that the assessee was carrying on business of export and import of jute goods. In order to carry out these transactions, the assessee had to enter into foreign exchange contract in order to cover up these transactions. In those foreign exchange contracts, if any loss occurred then such loss was a loss referable to and related to the business carried on and arising out of the business of the assessee. Here there is no finding that entering into foreign exchange contract was the nature of the business operation for the export and import of the goods by the assessee. The assessee was not a dealer in foreign exchange contract as such. Here in this case, the contract was for a full amount and what the assessee paid in fulfilment of the obligation which was an implied term at the time of entering into the contract did not amount to breach of contract. The breach of contract did not come within the meaning of ‘contract settled’ as used in Expln.2 of s.24(1) of IT Act, 1922, ‘contract settled’ meant contract settled before breach. Where the money which the assessee paid was in settlement of the amount of damages suffered by the assessee by reason of breach of the contract to delivery, it is to be held that the payment was not a loss from a speculative transaction as defined in Expln.2 of s.24(1) of IT Act, 1922.
C. In the case of Cotton Blossoms (India) (P.) Ltd. v ACIT [IT Appeal No. 2032 (Mds.) of 2012, vide order dated 21-2-2013], also the Chennai Bench of the Tribunal held that, in respect of forex contracts entered into by the assessee in similar circumstances will not fall under the definition of speculative transaction.
D. In the case of Sutlej Cotton Mills Ltd. (supra) wherein it was held that loss on account of revaluation of foreign currency is a trading loss to the extent it does not relate to any capital asset and accordingly allowable.
E. In the case of Munjal Showa Ltd. (supra) wherein it was held that profit on cancellation of forward contract in foreign currency entered into for safeguarding against loss by fluctuation in foreign currency for purchase of plant and machinery with loan obtained in foreign exchange is capital receipt and not speculative profit.
F. In the case of CIT v. Vishindas Holaram  229 Taxman 30 (Bombay) it was held that once main business of assessee is identified, if some incidental activities or transactions or dealing in foreign exchange is undertaken but that is also related to some extent to main business activity, then, it could not be said that assessee is in speculative business.
G. In the case of CIT v. Climate System (P.) Ltd. 227 Taxman 174 (Delhi) (Mag.) Delhi High Court wherein it was held that exchange fluctuation arising on the revenue account transaction should be allowed as deductable expenditure.
11. Thus to sum up in the present case before us, 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 considering the totality of the facts and circumstance of the case and the decisions relied upon herein above, we allow the grounds raised by the assessee’s on this issue for all the three appeals in favour of the assessee and accordingly we hereby 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. Thus, the ground raised in the assessee M/s. SCM Garments Pvt Ltd in ITA Nos. 1645/13 & 2275/Mds./2014 for the assessment years 2009-10 & 2010-11 and the first ground raised by the assessee M/s. Gajaananda Jewellery Maart Pvt Ltd. in ITA No. 1646/Mds./2013 for the assessment year 2009-10 are allowed in their favour.
M/s. Gajaananda Jewellery Maart Pvt Ltd (A.Y 2009-10)
12.1 The first ground raised by the assessee is decided in favour of it as discussed supra.
12.2 The second ground of assessee’s appeal relates to disallowance of the notional loss due to foreign currency fluctuation on the loan obtained for acquiring capital assets amounting to Rs. 6,37,54,000/- whereas the Revenue has allowed to capitalize the actual loss amounting to Rs. 1,36,00,000/- resulting from repayment of loan during the relevant previous year and given the benefit of depreciation.
The brief facts of the issue is that the assessee had claimed Rs. 6,37,54,000/- as deduction being the notional loss incurred due to foreign currency fluctuation against the loans taken for purchase of capital loss. The Ld. Assessing Officer disallowed this claim of the assessee, however, allowed to capitalize the actual foreign currency fluctuation loss incurred by the assessee on repayment of foreign currency loan. The Ld. Assessing Officer had come to this conclusion based on the provisions of section 43A of the Act.
12.3 On appeal, the Ld. CIT (A) held as follows:—
“I am in agreement with the A.O that by applying the provisions of section 43A actual loss of forex fluctuation incurred on repayment of loan will be allowed and the claim of actual capital loss of Rs. 6,37,54,000/- will be treated as capital expenditure and disallowed. Necessary adjustments to the cost of acquisition regarding actual loss of Rs. 1,36,00,000/- will be made in the block of assets and depreciation will be allowed in the same.”
12.4 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 Rs. 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). Therefore, this ground raised by the assessee is dismissed.
13. In the result,
|(i)||The appeal of the assessee in the case of M/s. SCM Garments (P) Ltd., in ITA Nos. 1645/13 & 2275/Mds./2014 for the assessment years 2009-10 & 2010-11 are allowed.|
|(ii)||The appeal of the Revenue in the case of M/s. SCM Garments (P) Ltd., in ITA No. 2313/Mds./2014 for the assessment year 2010-11 is dismissed.|
|(iii)||The appeal of the assessee in the case of M/s. Gajaananda Jewellery Maart Pvt Ltd. in ITA No. 1646/Mds./2013 for the assessment year 2009-10 is partly allowed.|