Short Overview : Premium for hedging foreign exchange fluctuations as regards loan availed of for purchase of fixed asset was to be treated as capital expenditure under section 43A.
Assessee availed of loan for purchase of capital assets in India. The loan was availed of in Indian currency and pursuant to request made by assessee, by entering into a contract dt. 4-8-2011 with State Bank of India, the loan was converted into foreign currency loan with a view to save interest. This resulted in premium payable by assessee on forward contract. Revenue treated premium for hedging foreign exchange fluctuations as capital expenditure under section 43A.
It is held that : It was the purpose for which loan was raised that was of prime significance. As purpose of the loan was to finance fixed asset, Exchange difference was required to be capitalized, as rightly done by AO.
Decision: Against the assessee.
IN THE MADRAS HIGH COURT
T.S. SIGNALMAN & V. BHAVANI SAROYAN, JJ.
Continuum Wind Energe (India) (P) Ltd. v. Dy. CIT
Tax Case Appeal No. 171 of 2019
5 October, 2020
Appellant by : R. Varanasi
Respondent by : T. Ravikumar, SSC
T.S. Sivagnanam, J.
We have heard Mr. R. Sivaraman, learned counsel appearing for the appellant-assessee and Mr. T. Ravikumar, learned Senior Standing Counsel appearing for the respondent-Revenue.
2. This appeal, filed by the assessee under section 260A of the Income Tax Act, 1961 (for short, the Act) is directed against the Order, dt. 16-6-2017 made in ITA No. 3344/Mds/2016 on the file of the Income Tax Appellate Tribunal, Chennai ‘A’ Bench (for brevity, the Tribunal) for the assessment year 2013-14.
3. The appeal has been admitted on 26-3-2019 on the following substantial question of law :
“Whether, on the facts and circumstances of the case, the Tribunal was right in law in disallowing the amount of Rs. 36,33,333 paid towards the premium for hedging foreign exchange fluctuations on loans taken for the purpose of appellant’s business is a capital loss by treating it as capital expenditure under section 43A of the Income Tax Act, 1961, when an asset was purchased within India ?”
4. The assessee is a company engaged in generation of wind energy. For the assessment year under consideration namely assessment year 2013-14, the assessee filed a return of income on 31-11-2013 admitting loss to the tune of Rs. 36,45,17,202. Subsequently, the case was selected for scrutiny and a notice under section 143(2) of the Act along with a questionnaire and thereafter, the assessment was completed. In this appeal, we are concerned about the disallowance of the premium paid on forward contract reasoning that the premium paid on forward contracts was to be considered as speculative transaction under section 43(5) of the Act.
5. Aggrieved by the assessment Order, dt. 5-2-2016, the assessee preferred an appeal before the Commissioner (Appeals)-1, Chennai-34 (for brevity, the Commissioner (Appeals)), who, by Order, dt. 8-11-2016, partly allowed the appeal by deleting the disallowance under section 14A of the Act, of which, we are not concerned in this appeal.
6. As against the said order passed by the Commissioner (Appeals), the assessee filed further appeal before the Tribunal, which dismissed it by the impugned order. Thus, the assessee is before us.
7. The argument of Mr. R. Sivaraman, learned counsel appearing for the appellant-assessee that the foreign exchange fluctuation on the loan taken for the purpose of the assessee’s business could not have been brought under section 43A of the Act, which is a special provision consequential to change in rate of exchange of currency, which would be applicable when the assessee acquired any asset in any previous year from a country outside India. Admittedly, the assessee did not purchase any asset in any previous year from any country outside India and this aspect was noted by the Commissioner (Appeals) in the Order, dt. 8-11-2016. However, before the Tribunal, the assessee made an alternate submission because the Tribunal appeared to have come to a conclusion that the loss suffered by the assessee was a capital loss. The alternate submission was that if it had to be treated as a capital loss, then the assessee was entitled to the benefit of depreciation.
8. The learned counsel for the assessee has referred to the decision of this Court rendered by us in the case of CIT v. M/s. Celebrity Fashion Ltd., TCA No. 26 of 2018 dt. 21-9-2020.
9. In our considered opinion, the said decision may not be of any assistance to the assessee, as the nature of transaction done therein was wholly different. It is an admitted case of the assessee that they availed loan for the purpose of purchase of capital assets in India. The loan was availed in Indian currency and pursuant to a request made by the assessee, by entering into a contract dt. 4-8-2011 with the State Bank of India, the loan in Indian currency was converted into a loan in foreign currency with a view to save interest. This resulted in the premium payable by the assessee on the forward contract.
10. The question would be as to how the loss had to be treated in the hands of the assessee namely whether as a capital expenditure or as a revenue expenditure. In this regard, we are guided by the decision of the Hon’ble Supreme Court in the case of ACIT v. Elecon Engineeing Co. Ltd. (2010) 322 ITR 20 (SC) : 2010 TaxPub(DT) 1606 (SC).
11. Though, on a cursory reading of the said judgment, it appears that it is a case arising under section 43A of the Act as pointed out by the learned counsel appearing for the appellant, on a closer reading and more particularly the finding rendered in paragraph 8, the Hon’ble Supreme Court, before analyzing section 43A of the Act, prefaced its judgment in the following manner :
“8. Before analysing the Section quoted above, by way of preface, we need to state that exchange differences are required to be capitalized if the liabilities are incurred for acquiring the fixed asset, like plant and machinery. It is the purpose for which the loan is raised that is of prime significance. Whether the purpose of the loan is to finance the fixed asset or working capital is the question which one needs to answer and in order to ascertain that purpose, the facts and circumstances of the case, including the relevant loan agreement and the correspondence between the parties concerned are required to be looked into. In the present case, it appears that the relevant contract and correspondence has not been produced by the assessee. We are proceeding on the basis that the purpose of the loan taken by the assessee from ICICI was to finance the purchase of plant and machinery. “
12. The findings/observations made by the Hon’ble Supreme Court in the said judgment would squarely cover the case of the assessee. In fact, the nature of transaction in the said judgment was identical to that of the transaction done by the assessee herein. Therefore, we have to necessarily hold that the exchange difference is required to be capitalized because liability has been incurred by the assessee for the purpose of acquiring fixed asset namely plant and machinery.
13. The decision of the Hon’ble Supreme Court in the case of Elecon Engineeing Co. Ltd., was followed in the decision of the Bombay High Court in the case of CIT v. Indian Rayon & Industries Ltd. (2011) 336 ITR 479 (Cal) : 2010 TaxPub(DT) 1713 (Cal-HC). The decision of the Hon’ble Supreme Court in the case of Punjab State Industrial Development Corporation Ltd. v. CIT (1997) 225 ITR 792 (SC) : 1997 TaxPub(DT) 0919 (SC) would also support the stand taken by the revenue by treating the expenditure as capital expenditure.
14. In the decision of this Court in the case of Tube Investments of India v. JCIT (2014) 45 taxmann.com 78 (Mad) : 2014 TaxPub(DT) 2078 (Mad-HC), to which, one of us (TSSJ) was a party, the question was as to whether the Tribunal was right in confirming the disallowance of interest and additional expenditure incurred on account of exchange fluctuation. It was held that if any part of the loan was not used for purchase of a capital asset, the corresponding loss had to be treated as a capital expenditure. The relevant portions are as follows :
“15. The facts of the case have been set out in extenso in the preceding paragraphs. At the time when the appeal was heard by the first Appellate Authority, the assessee appears to have taken a different stand than the stand taken at the time of filing the appeal by stating that the money generated out of GDR issue had funded the capital expenditure and that the foreign exchange loan had been used only for Revenue purpose. The first Appellate Authority while concurring with the view taken by the assessing officer pointed out that the value of capital goods imported during the accounted year 1995-96 was Rs. 3,41,42,000 and during the current year was Rs. 3,59,73,000 and the assessing officer was justified in capitalizing the exchange fluctuation in respect of the imported machinery totaling Rs. 7,01,15,000 by invoking section 43A of the Act by placing reliance on the decision of this Court in the case of ELGI Rubber Products Ltd.(supra). In note 12 of the printed balance sheet, it has been stated that (a) capital work in progress includes exchange fluctuation of Rs. 736.01 lakhs and interest Rs. 35.50 lakhs respectively; (b) the increase in rupee liability on account of outstanding foreign currency loan utilized in respect of acquisition of plant and machinery based on the exchange rate applicable on the date of balance sheet is Rs. 537.58 lakhs (included in capital work in progress). As this relates to borrowed funds, the same has been considered in computing the provision for tax.
By referring to note 12 of the printed balance sheet, the first Appellate Authority accepted the view of the assessing officer with regard to the applicability of section 43A of the Act. The contention raised by the assessee that no capital goods were imported against the RBI approved loan and loan had been paid not from export proceeds was rejected, as being contrary to note 12 of the balance sheet. The Tribunal pointed out that under Schedule 14 of the balance sheet, the assessee has spelt out its accounting policy regarding foreign exchange difference on account of foreign currency transaction, which states that “exchange difference arising from foreign currency transaction are dealt with in profit and loss account or capitalized where they relate to fixed asset. Plant and machinery acquired through foreign currency loans are capitalized at the rate prevalent at the time of purchase”. In view of the said admission in the balance sheet, the Tribunal affirmed the view taken by the assessing officer that the claim of the assessee regarding exchange fluctuation was never held to be Revenue, as the claim was not supported by any material brought on record and therefore to be treated as capital. By referring to the decision of the Hon’ble Apex Court in the case of Tata Locomotive and Engg. Co Ltd. (supra) the Tribunal pointed out that if capital asset is purchased, capitalizing as capital work in progress, the nature of the same is to be treated as capital and if no assets are purchased as regards the principal devaluation of gains and loss due to devaluation, the allowance of loss on devaluation, if any, arising on the loans obtained for purchase of assets will certainly be in capital account and covered by section 43A of the Act. It was further pointed out that if any part of the loan is not used for the purpose of purchase of assets, the corresponding loss has to be allowed as capital and not Revenue as the gains are not treated as Revenue income following the principles laid down by the Hon’ble Apex Court in Tata Locomotive and Engg. Co Ltd. (Supra).
16. The frequent issue, which arises for consideration is regarding the computation of business income, whether as particular expenditure is revenue or capital. In the long line of decision of the Hon’ble Supreme Court and this Court certain principles have been formulated, nevertheless each case has to be decided on the facts and circumstances as to whether a particular expenditure is allowable as a permissible deduction. The Hon’ble Supreme Court in the case of K.T.M.T.M. Abdul Kayoom v. CIT (1962) 44 ITR 689 (SC) : 1962 TaxPub(DT) 0237 (SC), held that none of the tests is either exhaustive or universal, each case depends on its own facts, and a close similarity between one case and another is not enough, because even a single significant detail may alter the entire aspect. It was pointed out that in deciding such cases, one should avoid the temptation to decide cases by matching the colour of one case against the colour of an another. To decide, therefore, on which side of the line a case falls, its broad resemblance to another case is not at all decisive. It was held that what is decisive is the nature of the business, the nature of the expenditure, the nature of the right acquired, and their relationship, inter se, and this is the only key to resolve the issue in the light of the general principles, which are followed in such cases. In the case of CIT v. Ashok Leyland Ltd. (1969) 72 ITR 137 (Mad) : 1969 TaxPub(DT) 0046 (Mad-HC), which was affirmed by the Hon’ble Supreme Court in CIT v. Ashok Leyland Ltd. (1972) 86 ITR 549 (SC) : 1972 TaxPub(DT) 0435 (SC), it was pointed out that the clear-cut dichotomy cannot be laid down in the absence of a statutory definition of “capital” and “revenue expenditure”. It was held that the word “capital” connotes permanency and capital expenditure is, therefore, closely akin to the concept of securing something tangible or intangible property, corporeal or incorporeal rights, so that they could be of a lasting or enduring benefit to the enterprise in issue. Revenue expenditure, on the other hand, is operational in its perspective and solely intended for the furtherance of the enterprise and this distinction, though candid is susceptible to modification under peculiar and distinct circumstances.
Therefore, it was held that the facts of each case, the attendant circumstances revolving round the expenditure, the aim, object and purpose of the same, their impact on the assessee, particularly in matters relating to the future of the asses see’s trade and business, whether it could be sustained on ordinary canons of commercial expediency simplicity, whether it is a step-in-aid of future expansion or prolongation of life of an existing business, whether it is to secure an enduring benefit, whether the expenditure constitutes conceivable nucleus to form the foundation for posterior profit earning, whether the expenditure could be viewed as an integral part of the conduct of the business and potential future and these were all held to be the main incidents, which have a bearing on the decision whether, in a given case, the expenditure is capital or chargeable to revenue. Thus, it was held that an objective application of a judicial mind to the facts of each case is necessary.
18. In the decision reported in Woodward Governor India (P.) Ltd. (supra) the Supreme Court considered the allow ability of expenditure arising out of fluctuation in rate of exchange. Referring to Accounting Standards-11, the Supreme Court pointed out that paragraph 9 of AS-11 recognizes exchange differences as income or expenses in the period in which they arise. Paragraphs 10 and 11 deal with exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which topic falls under section 43A of the 1961 Act.
Referring to section 43A (1) opening with the non-obstante clause, the Supreme Court pointed out that section 43A(1) applies where, as a result of change in rate of exchange, there is an increase or reduction in the liability of the assessee in terms of Indian Rupee to pay the price or any asset payable in foreign exchange or to repay the money in foreign currency taken specifically for the purpose of acquiring an asset. Section 43A, as it stood originally, would have application in a case where an asset is acquired and the liability existed before the change in the exchange rate takes place. Adjustments in the cost are thus made depending on the fluctuation in the currency rate. Thus the cost of the equipment assumes significance in the matter of working out the depreciation allowance. Referring to the amendment to section 43A by the Finance Act, of 2002, the Supreme Court pointed out that Under the unamended section 43A, adjustment to the actual cost took place on the happening of change in the rate of exchange and the Section did not require as a condition that there should be actual payment of the increased/decreased liability as a consequence of the exchange variation, whereas, under the amended section 43A, the adjustment in the actual cost is made on actual payment. Thus the Section applies where as a result of change in the exchange rate there is a reduction or increase in the liability, that the adjustment of increase or decrease in the liability relating to acquisition of asset on account of the exchange rate fluctuation is reflected as part of the actual cost of the asset acquired in foreign currency and the depreciation is to be allowed accordingly.
19. Learned Standing Counsel appearing for the revenue placed reliance on this decision only to re-emphasize the fact that as far as the assessee was concerned, it had no doubt purchased machinery in foreign exchange to the extent of Rs. 7.01 crores in all during the accounting year 1995-96 and 1996- 97. To the extent of exchange fluctuation, the actual cost of the purchase of machinery thus would include the exchange fluctuation. This would be so for the purpose of finding out the actual cost for the purpose of depreciation. As far as the balance of amount which had been borrowed is concerned, there is no denial of the fact that under the Reserve Bank of India Scheme, the approval was issued sanctioning the loan for the purpose of capital expenditure and modernization and expansion. There is no denial of fact that the amount drawn from the loan should be utilized for the purpose approved and strictly subject to the terms and conditions stipulated by the Reserve Bank of India vide their Letter, dt. 21-9-1994. It is also not denied by the assessee that the loan and interest thereon have to be repaid/paid only from out of the net foreign exchange earnings of the borrower entity and not from any other source and/or the group earnings, as per the schedule of repayment/ payment indicated in the application. The assessee also does not deny the fact that the repayment of the loan which includes interest should be made through the authorized dealer only. Thus, when the object and the purpose of loan clearly points out to the purpose of the loan given as for capital expenditure on modernization and expansion, the fact that the exchange fluctuation had been added on to the cost under section 43-A(1), however, does not, lead to the inference that as far as the balance amount is concerned, the interest payment difference on exchange fluctuation would fall under Revenue head.”
15. In the light of the above, the substantial question of law framed for consideration has to be necessarily answered against the appellant-assessee.
16. In the result, the above tax case appeal is dismissed and the substantial question of law framed is answered against the assessee.