Case Law Details
M/s. Baby Memorial Hospital Ltd. Vs ACIT (ITAT Cochin)
In view of the revision made in AS-11 in 2003, it can be said that treatment of foreign exchange loss arising out of foreign currency fluctuations in respect of fixed assets acquired through loan in foreign currency shall required to be given in profit and loss account. Said exchange loss should be allowed as revenue expenditure in view of amended AS-11 (2003). It may be noted that apex court had followed treatment of exchange loss or gain as per AS-11 (1994). In view of revision made in AS-11, now treatment shall be as per revised AS-11 (2003). Exchange gain or loss on foreign currency fluctuations in respect of foreign currency loan acquired for acquisition of fixed asset should be allowed as revenue expenditure. However, in the Preamble of AS-11 (Revised 2003), it was stated that the Revised Standard supersedes AS-11 (1994) except that in respect of accounting for transactions in foreign currencies entered into by the reporting enterprise before the date of AS-11 (2004) comes into effect, AS 11 (1994) will continue to be applicable.
In our opinion, sec. 43A is only relating to the foreign exchange rate fluctuation in respect of assets acquired from a country outside India by using foreign currency loans which is not applicable to the indigenous assets acquired out of foreign currency loans. Further, the Revised Standard supersedes AS 11 (1994), except that in respect of accounting for transactions in foreign currencies entered into by the assessee before the date of AS-11 (2004) comes into effect, AS-11 (1994) will continue to be applicable.
In our opinion, foreign exchange loss arising out of foreign currency fluctuations in respect of loan in foreign currency used for acquiring fixed assets should be allowed as revenue expenditure by charging the same into the Profit and Loss account and not as capital expenditure by deducting the same from the cost of the respective fixed assets. Hence, in our opinion, there is no potential escapement of income on the issue relating to allowability of foreign exchange loan taken for the construction of new building and additional equipment. Accordingly, this ground of appeal of the assessee is allowed.
FULL TEXT OF THE ITAT JUDGEMENT
This appeal by the assessee is directed against the order passed u/s. 263 of the I.T. Act by the Pr. CIT, Kozhikode dated and pertains to the assessment year 2014- 15.
2. The assessee/Revenue has raised the following grounds of appeal:
1) The order of the Principal Commissioner of Income Tax , Kozhikode , passed u/s 263 of the Income Tax Act is against law, facts and circumstances of the
2) The Principal CIT has erred in passing an order u/s 263 in a limited scrutiny case where the ACIT , Circle 1(1) & TPS Kozhikode has discharged his obligations as per the Instructions of the CBDT vide Instruction Nos 19 & 20 of 2015 dtd 29/12/2015.
3) As per Notice U/s 142 (1) dtd 27/06/20 16 , the detailed break up of the head ” Other Expenses” in our P & L A/c along with supporting invoices / vouchers were required to be produced before him and he verified the entire details and the supporting evidences on various dates mentioned in para 1 of the assessment order and only thereafter the limited scrutiny assessment was completed by him.
4) The Principal CIT should have noted that proper enquiry as mentioned in ground No. 2 above was conducted by the ACIT and therefore there was no failure or omission on the part of the AO to conduct proper enquiry in respect of reason mentioned in CASS in the case of limited scrutiny case.
5) The Principal CIT did not apply his mind properly in passing the Order u/s 263. In the proposal send to the Appellant he has proposed to apply the provisions of Section 37(1) for disallowing the loss on account of difference in exchange rate on foreign currency loss availed for the construction of the new block and equipments which were commissioned during the asst years 201 1-2012 & 2013- 2014 itself. So the expenditure claimed was perfectly allowable u/s 36(i)(iii) of the I. T. Act.
6) The CIT has also relied on Supreme Court Decision in case of M/s Sutlej Cotton Mills Ltd which had no applicability in the Appellant’s case.
7) The CIT should have noted that u/s 37(1) expenditure other than personal expenses and capital expenditure was allowable under that Section.
8) From the Order u/s 263 it is clear that the CIT has not applied his mind for passing the order since he has not dealt with the contention of the Appellant that the expenditure was allowable u/s 36(i)(iii) of the I. T Act. The CIT without application of his mind held that the expenditure is Capital Expenditure and not allowable u/s 37(1). He has not considered whether the expenditure was allowable U/s 36(i)(iii). As there is no application of mind by the CIT , the order has to be set aside. Ref CIT Vs. Kwality Steel Suppliers Complex 395 ITR 1 ( SC).
9) The Appellant craves leave to adduce additional grounds at the time of hearing.
3. The facts of the case are that the assessment was completed u/s. 143(3) of the Act for the assessment year 2014-15 by accepting the income returned. On verification of records, the Pr. CIT noticed that the assessment order passed by the Assessing Officer was prima facie erroneous in so far as it was prejudicial to the interest of the revenue. The Pr. CIT found that the assessee had claimed an amount of Rs.2,08,09,140/- being foreign exchange loss which was allowed by the Assessing Officer. According to the Pr. CIT, the foreign exchange loss was on account of foreign currency loan taken for the construction of new building and additional equipment and the loss was recognized translating the liabilities at exchange rate in effect at the balance sheet date. According to the Pr. CIT, the loss on devaluation of rupees on account of loan utilized for fixed capital was not deductible u/s. 37(1) of the Act since the expenditure is capital in nature. Therefore, it was held that the foreign exchange loss claimed as revenue expenditure is to be disallowed in the assessment.
3.1 Further, it was noticed that the assessee debited an amount of Rs.15,83,130/- in its P&L account towards provision for doubtful debts. According to the Pr. CIT, this being provision for diminution in value of trade receivables in the balance sheet had to be added to profit for computation of book profit which resulted in short assessment of income under MAT. The Pr. CIT observed that as per clause (1) explanation 1 to section 115JB(2), the provision for doubtful debts being provision for diminution in value of trade receivables, had to be added to profit for computation of book profit for calculation of income under Minimum Alternate Tax.
3.2 The Pr. CIT observed that the Assessing Officer had not considered or had applied his mind to the facts of the case and with regard to the provisions of the Act in respect of the above issues. Therefore, the Pr. CIT set aside the assessment for the assessment year 2014-15 and invoked the provision of section 263 of the I.T. Act for the limited purpose of verifying whether the foreign exchange loss qualifies for being a revenue expenditure and secondly to rework MAT income after adding back the provision for doubtful debts, as necessary examination/verification has not been made during the assessment.
4. Against this, the assessee is in appeal before us. The Ld. AR submitted that this was a limited Scrutiny assessment and the reasons for which the case was selected for scrutiny for furnishing of details specific to the CASS reasons. It was submitted that the details were furnished in response to notice issued u/s. 142(1) of the Act dated 27/06/2016 and after verification the Asst. Commissioner had accepted the explanation given by the assessee, so proper enquiry was made in the limited scrutiny case and therefore, the A.O had applied his mind to the facts of the case and therefore, his order is not erroneous or prejudicial to the interest of the Revenue. Hence, it was submitted that the order of the Commissioner is invalid.
4.1 The learned AR had submitted that in a limited scrutiny assessment, the Assessing Officer has to restrict himself to the issues raised in the limited scrutiny and cannot make any addition on other issues. In support of this submission, the learned AR had relied on the following Tribunal orders:-
(i) Nitin Killawala & Associates v. ITO [ITA No.1611/Mum/2013 – order dated 16.09.2015] ITAT Mumbai Benches.
(ii) Yikti Tiwari v. ITO [ITA No.660/Lkw/2018 – order dated 22.02.2019] ITAT Lucknow Benches.
(iii) Suresh Jugraj Mutha v. Addl.CIT [ITA No.05/Pun/2016 – order dated 05.2018] ITAT Pune Benches.
(iv) M/s.Srinidhi Mines v. ITO [3084/Bang/2018 – order dated 25.04.2019] ITAT Bangalore Benches.
(v) Gurpreet Kaur v. ITO [87/Asr/2016 – order dated 24.03.2016] ITAT Amritsar Bench.
4.2 In these cases, it was held that when an assessment is selected for limited scrutiny, the Assessing Officer cannot expand the scope of limited scrutiny beyond the reasons for which the case was selected for scrutiny unless prior administrative approval is obtained from the Pr.CIT /CIT or DIT concerned.
4.3 The learned AR had also submitted that if the Assessing Officer has no power to pass an order on a particular issue, then Pr.CIT also has no power on that issue u/s 263 of the I.T. Act. In this context, the learned AR relied on the order of the Tribunal in the case of Paul John, Delicious Cashew Co. 94 ITD 131 (Cochin Tribunal), which was upheld by the Hon’ble High Court in the case reported in 200 Taxmann 154. In the case of Paul John, Delicious Cashew Co. (supra) considered by the Cochin Bench of the Tribunal, it was held that the completed assessment cannot be reopened by the A.O. It was further held by the Tribunal that if the Assessing Officer does not have power to reopen an assessment, which is already concluded, the CIT could not have exercised his powers u/s 263 of the I.T. Act directing the A.O. to pass assessment making disallowance. The above view taken by the Tribunal was upheld by the Hon’ble High Court.
4.4 The learned AR further submitted that when the assessment is taken up for `limited scrutiny’, the Pr.CIT / CIT cannot hold the assessment order as erroneous and prejudicial to the interest of the revenue in respect of an issue which was not a reason for selection of the case for `limited scrutiny’. In this context, the learned AR had relied on the following Tribunal orders:-
(i) The Deccan Paper Mills Co. Ltd. v. CIT [1013 & 1035/Pun/2014 – order dated 10.10.2017], ITAT Pune Benches.
(ii) M/s.Aggarwal Promoters v. Pr.CIT [1708/Chd/2017 – order dated 04.2019] ITA Chandigarh Benches.
(iii) Sanjeev Kr. Khemka v. Pr.CIT [1361/Kol/2016 – order dated 06.2017] ITAT Kolkata Benches.
(iv) Rakesh Kumar v. CIT [6187/Del/2015 – order dated 20.12.2018] ITAT New Delhi Benches.
(v) M/s. R & H Property Developer Pvt.Ltd. v. Pr.CIT [1906/Mum/2019 – order dated 30.07.2019] ITAT Mumbai Benches.
(vi) Sonali Hemant Bhavsar v. Pr.CIT [742/Mum/2019 – order dated 17.05.2019] ITAT Mumbai Benches.
4.5 The learned AR had submitted that in response to the show cause notice u/s 263 of the I.T. Act, when the assessee has filed replies, the PCIT has to give positive finding on merits while setting aside the matter u/s 263 of the I.T. Act on how the assessment order is erroneous and prejudicial to the interest of the revenue. In support of his submission, the learned AR relied on the judgment of the Hon’ble Karnataka High Court in the case of CIT v. Narayana Pai (T) [98 ITR 422]. The Explanation 2(a) to section 263 of the I.T. Act, states that the assessment order shall deem to be erroneous and prejudicial to the interest of the revenue if such an order was passed without making inquiry or verification, which should have been made.
5. On merit the Ld. AR submitted that the issue taken up by the Pr. CIT was with regard to the foreign exchange loss on account of foreign currency loan taken for the construction of new and additional equipment. The loan loss was quantified by applying the exchange rate as on the balance sheet date. The assessee claimed this as revenue loss though the loan was used for acquiring fixed assets.
5.1 It was submitted that Assessing Officer pointed out that the foreign exchange loss of Rs 2,08,09,140/-was capital expenditure u/s. 43A of the Income Tax Act. The assessee vide their letter dtd 19/05/2017 submitted that Section 43A was not applicable to them since the loan in foreign exchange was not availed for acquiring any asset from a Country outside India.
5.2 It was submitted that then the AO send a letter dated 16/03/2018 in which it was mentioned that the foreign exchange loss is a Capital Expenditure on the ratio of the decision of the Supreme Court in the case of Sutlej Cotton Mills Ltd. vs. CIT 116 ITR 1. To this, the assessee filed reply dated 22/03/2018 in which it was pointed out that the ratio of the above decision was applicable only for foreign exchange held outside India and the loss incurred on account of devaluation of the currency. The Ld. AR also relied upon the decision of the Supreme Court in the case of CIT vs. Tata Iron & Steel Ltd. (231 ITR 285) in which it was held that any loss on foreign currency loan need not be added to the cost of the new asset u/s 43 (1) of the I. T Act once the asset is put to use. It was submitted that the assessee was also mandatorily required to follow AS -11 of the Accounting Standards. The Ld. AR relied on the judgment of the Supreme Court in the case of CIT Vs. Woodland Governor India Pvt Ltd (312 ITR 254) wherein it was held that loss arising on foreign exchange fluctuation has to be treated as revenue expenditure as per AS 11. The Ld. DR stated that the judgment of the Supreme Court in Woodland Governor case has two parts which deals with Revenue account cases and the other part with Capital Account cases. According to the Ld. DR, the Capital Account cases dealt with adjustment of the cost of the asset on account of exchange fluctuation at each balance sheet date which was not applicable to the assesee’s case since no assets were acquired from foreign country. The Ld. DR stated that for determining whether devaluation loss is Revenue Loss or Capital Loss what is relevant is utilization of the amount at the time of devaluation and not the object for which the loan has been utilized. The Ld. AR submitted that since the loan was utilized for acquiring asset before the relevant asst year, the above arguments of the Ld. DR failed.
5.3 It was submitted that thereafter, the Pr. CIT invoked the provisions of section 263 to revise the assessment order dated 16/09/2016 stating that the foreign exchange loss is capital expenditure and not allowable as per provisions of Section 37(1) without considering the submissions of the assessee. The Ld. AR submitted that the foreign exchange loss claimed was allowable u/s 36 (1 ) (iii) of the I. T Act, since acquisition of the asset for which the loan was availed were already put to use during the asst year under consideration and since the foreign exchange loss was in the nature of interest , it was allowable U/s 36 (1) (iii) of the Act. The Ld. AR submitted that the Pr. CIT held that the expenditure was capital in nature and therefore, disallowable without giving any reference to the applicability of Section 36 (1) ( iii) as claimed by the assessee. It was submitted that as the claim of the assessee that the expenditure was allowable u/s 36 (1)(iii) was rejected by the Pr. CIT, the order u/s. 263 is to be set aside as held by the Supreme Court in CIT Vs. Kwality Steel Suppliers Complex (395 1TR 1).
5.4 The Ld. AR also relied on the order of the Tribunal in the case of MFAR Hotels & Resorts Ltd. vs. ACIT in ITA No. 63/Coch/2015 dated 16/03/2018.
6. The Ld. DR submitted that in this case, the assessment was taken up for limited scrutiny under CASS on account of AR information. Notice under section 143(2) of the I.T. Act dated 31/08/2015 was issued to the assessee. Further details specific to CASS were called for from the assessee vide notice issued u/s. 142(1) dated 27/06/2016 and the Assessing Officer accepted the explanation offered by the assessee in response to such notice.
6.1 The Ld. DR relied on the subsequent Circular No. 20/2015 dated 29.12.2015 and Instruction No.5/2016 dated 14.07.2016. He drew our attention to para 4 of the above Instruction wherein it was mentioned that when potential escapement of income exceeds Rs.10 lakh on issues other than selected under CASS, the Assessing Officer has the power to take up the assessment for comprehensive scrutiny with the approval of the Pr.CIT / DIT concerned. In the instant case, the potential escapement of income is far exceeding Rs.10 lakh prescribed under the above mentioned CBDT Instructions.. Therefore, the Assessing Officer could have converted the limited scrutiny assessment into a complete scrutiny assessment by obtaining approval from the Pr.CIT / DIT concerned. According to the Ld. DR, the Assessing Officer failed to convert the limited scrutiny into a complete scrutiny and thereby, there was escapement of income of more than Rs.10 lakhs. As such the order of the Assessing Officer is erroneous and prejudicial to the interest of revenue for the Pr.CIT to invoke his jurisdiction u/s 263 of the I.T.Act.
6.2 Further, the Ld. DR submitted that the CBDT Instruction relevant for the period as regards the limited scrutiny assessment is Instruction No.7/2014 dated 26.09.2014. Instruction No.7/2014 reads as follow:-
“Subject: – Scope of enquiry in cases selected for scrutiny during the Financial Year 2014- 2015 on basis of mis-match-regarding-
It has come to the notice of the Board that during the scrutiny assessment proceedings some of the AOs are routinely calling for information which is not relevant, for enquiry into the issues to be considered. This has been causing undue harassment to the taxpayers and has also drawn adverse criticism from several quarters. Further, feedback and analysis of such orders indicates that many times the core issues, which formed the basis of selection of the case for scrutiny were not examined properly. Such instances primarily occurred in cases selected for scrutiny under Computer Aided Scrutiny Selection (‘CASS’) for verification of specific information obtained from third party sources which apparently did not match with the details submitted by the tax payer in the return of income.
2. Therefore, for proper administration of the Income-tax Act, 1961 (‘Act’), Central Board of Direct Taxes, by virtue of its powers under section 119 of the Act, in supersession of earlier instructions! guidelines on this subject, ere by directs that the cases selected for scrutiny during the Financial Year 2014-20 5 under CASS, on the basis of either AIR data or CIB information or for non reconciliation with 26AS data, the scope of enquiry should be limited to verification these particular aspects only. Therefore, in such cases, an Assessing Officer shall confine the questionnaire and subsequent enquiry or verification only to the specific point(s) on the basis of which the particular return has been selected for scrutiny.
3. The reason(s) for selection of cases under CASS are displayed to the Assessing Officer in AST application and notice u!s 143(2), after generation from AST, is issued to the taxpayer with the remark “Selected under Computer Aided Scrutiny Selection (CASS)”. The functionality in AST is being modified suitably to flag the reasons for scrutiny selection in cases. This functionality is expected to be operationalised by 15th October, 2014. Further, the Assessing Officer while issuing notice under section 142(1) of the Act which is enclosed with the first questionnaire would proceed to verify only the specific aspects requiring examination!verification. In such cases, all efforts would be made to ensure that assessment proceedings are completed expeditiously in minimum possible number of hearings without unnecessarily dragging the case till the time-barring date.
4. In case, during the course of assessment proceedings it is found that there is potential escapement of income exceeding Rs. 10 lakhs (for non-metro charges, the monetary limit shall be Rs. 5 lakhs) on any other issue(s) apart from the information based on which the case was selected under CASS requiring substantial verification, the case may be taken up for comprehensive scrutiny with the approval of the Pr.CIT!DIT concerned. However, such an approval shall be accorded by the Pr. CIT!DIT in writing after being satisfied about merits of the issue(s) necessitating wider and detailed scrutiny in the Cases so taken up for detailed scrutiny shall be monitored by the Jt. CIT!Addl. CIT concerned.
5. The contents of this Instruction should be immediately brought to the notice of all concerned for strict compliance.”
6.3 It was submitted that the above Instructions have been modified subsequently vide Instruction No.20/2015 dated 29.12.2015 and Instruction No.5/2016 dated 14.07.2016. From para 4 of the above Instruction, it is clear that when potential escapement of income exceeds Rs.10 lakh on issues other than selected under CASS, the Assessing Officer has the power to take up the assessment for comprehensive scrutiny with the approval of the Pr.CIT / DIT concerned. In the instant case, the potential escapement of income is far exceeding Rs.10 lakh prescribed under the above mentioned CBDT Instructions. Therefore, the Assessing Officer could have converted the limited scrutiny assessment in this case to a complete scrutiny assessment by taking approval / permission from the Pr.CIT / DIT concerned. On merit, the Ld. DR relied on the order of the Pr. CIT.
7. We have heard the rival submissions and perused the record and also gone through all the case laws cited by the parties. Section 263 of the Income-tax Act seeks to remove the prejudice caused to the revenue by the erroneous order passed by the Assessing Officer. It empowers the Commissioner to initiate suo moto proceedings either where the Assessing Officer takes a wrong decision without considering the materials available on record or he takes a decision without making an enquiry into the matters, where such inquiry was prima facie warranted. The Commissioner is well within his powers to treat an order as erroneous on the ground that the Assessing Officer should have made further inquiries before accepting the wrong claims made by the assessee. The Assessing Officer cannot remain passive in the face of a claim, which calls for further enquiry to know the genuineness of it. In other words, he must carry out investigation where the facts of the case so require and also decide the matter judiciously on the basis of materials collected by him as also those produced by the assessee before him. The Assessing Officer was statutorily required to make the assessment under Section 143(3) after scrutiny and not in a summary manner as contemplated by Sub-section (1) of Section 143. The Assessing Officer is therefore, required to act fairly while accepting or rejecting the claim of the assessee in cases of scrutiny assessments. The Assessing Officer should protect the interests of the revenue and to see that no one dodged the revenue and escaped without paying the legitimate tax. The Assessing Officer is not expected to put blinkers on his eyes and mechanically accept what the assessee claims before him. It is his duty to ascertain the truth of the facts stated and the genuineness of the claims made in the return. The order passed by the Assessing Officer becomes erroneous when an enquiry has not been made before accepting the genuineness of the claim which resulted in loss of revenue.
7.1 In the present case, the first issue for our consideration is whether the Assessing Officer having failed to convert limited scrutiny into a complete scrutiny, the assessment order would be rendered erroneous and prejudicial to the interests of the Revenue.
7.2 The Pr. CIT invoked the provisions of section 263 of the Act for considering the following two issues:
“The assessee had claimed an amount of Rs 2,08,09,140/- being foreign exchange loss was allowed in assessment The foreign exchange loss on account of foreign currency loan taken for the construction of new and additional equipment. The loss was recognized translating the liabilities at exchange rate in effect at the balance sheet date. The loss on devaluation of rupees on account of loan utilized for fixed capital not deductible u/s. 37(1) of the Act, since the expenditure is capital in nature.
Assessee debited an amount of Rs 15,83,130/- in its P&L account towards provision for doubtful debts. This being provision for diminution in value of trade receivables in the balance sheet, had to be added to profit for computation of book profit. This has resulted in short assessment of income under MAT.”
7.3 On the above two issues, the Pr. CIT observed as follows:
“The issue is that the AO has not considered or had applied his mind to the facts of the case and with relation to the provision of the Act in respect of the above issues. Therefore, the assessment for the AY 2014-15 is hereby set aside for the limited purpose of verifying whether the foreign exchange loss qualifies for being a revenue expenditure and secondly to rework MAT income after adding back the provision for doubtful debts, as necessary examination/verification has not been made during the assessment.
7.4 In this case, the assessment was based on limited scrutiny with reference to AR information and no addition was made by the Assessing Officer on that count. In our opinion, even in a case of limited scrutiny assessment, the Assessing Officer is duty bound to make a prima facie enquiry as to whether there is any other item which requires examination and in the assessment, the potential escapement of income thereof exceeded Rs.10 lakhs. He ought to have sought the permission of CIT/DIT to convert the ‘limited scrutiny assessment’ into a ‘complete scrutiny assessment’. If there is no escapement of income, which would have been more than Rs.10 lakhs, the Pr. CIT could not exercise jurisdiction u/s. 263 of the I.T. Act. In the present case, the assessee itself agreed that the Pr. CIT is justified in giving direction to rework MAT income after adding back the provision for doubtful debts. Now, the argument of the Ld. AR that in case of limited scrutiny assessment, the Pr. CIT could not exercise jurisdiction u/s. 263 of the Act, is devoid of merit. Accordingly, the ground relating to challenging of the exercise of jurisdiction by the Pr. CIT u/s. 263 is rejected.
8. The main contention of the Ld. AR is that loss arising on account of fluctuation of exchange rate with regard to loan availed for acquisition of fixed assets is a revenue loss and not a capital loss. Now the question that arises for our consideration is that whether gain on account of foreign exchange fluctuation can be reduced from the cost of assets as per the provisions of section 43(1) of the I.T. Act. As per the provisions of section 43(1) of the Act, actual cost means actual cost of the capital assets of the assessee reduced by that portion of the cost of the capital assets as has been met directly or indirectly by any other person or authority. The section also has Explanations. However, the section nowhere specifies that any gain or loss on foreign currency loans acquired for purchase of indigenous assets will have to be reduced or added to the cost of assets.
8.1 In the case of CIT Vs. Tata Iron and Steel Co. Ltd. (1998) 231 ITR 285 (SC), it was held that cost of an asset and cost of raising money for purchase of asset are two different and independent transactions and events subsequent to acquisition of assets cannot change price paid for it. Therefore, fluctuations in foreign exchange rate while repaying installments of foreign loan raised to acquire asset cannot alter actual cost of assets for computing depreciation. Hence, it restricted assessee’s right to add such loss incurred on account of currency fluctuations to the cost of asset. Thereby, the decision given by Sutlej and Tata Iron and Steel (supra) are contrary in view. In former mentioned case it restricted the assessee’s right to claim such loss on currency fluctuations considering the same as attributable to capital account transactions and at the same time does not allow to add the same to cost of the asset by following principle laid down in Tata Iron and Steel (supra).
8.2 Schedule VI of Companies Act, suggests treatment of the ‘gain/loss’ as capital in nature and should be adjusted to the cost of relevant asset, whereas Accounting Standards 11 suggests that treatment of ‘gain/loss’ attributable to foreign borrowings should be reflected in profit and loss account. However, said conflict was resolved by MCA Circular it was clarified by MCA that accounting treatment of exchange differences will be made as per AS 11 and further categorically mentioned that provisions of AS-11 is required to be followed irrespective of the relevant provision of Schedule-VI to the Companies Act, 1956. Therefore in view of the same, the exchange difference is required to be recognized in profit and loss account. Hence, any loss arising out of foreign currency fluctuation is allowed to be deducted from computation of total income. The Companies Act 2013 mandates the financial statements of companies to be compliant with applicable Accounting Standards (including AS-11). Thus, exchange gain/loss is recognized in the financial statements in accordance with AS – 11 and reference may be had to generally accepted principles of accounting as provided by various Accounting Standards issued by ICAI in absence of specific provisions in the Income Tax Act in relation to treatment of exchange fluctuation gain or loss. The above principle is followed in case of Prakash Leasing Ltd. [2012] 23 taxmann.com 3 (Kar.), it was held that:
“In the absence of any specific provision in the Act dealing on the subject, when the Accounting Standard is now made the basis of maintaining the accounts for the purpose of income-tax, even if the Central Government has not notified in the Official Gazette the Accounting Standards, certainly the Accounting Standards prescribed by the Institute of Chartered Accountants have to be followed. Therefore, the reasoning of the authorities, though the claim of the assessee is based on such Accounting Standards of the ICAI while deciding whether receipt of money is taxable or not, that it has to be decided in accordance with the provisions of law and not in accordance with the accounting practice, has no substance as there is no inconsistency between the said accounting practice and any provisions of the Act.”
8.3 Further, the nature of expenditure being capital or revenue does not depend on the purpose for which foreign currency loan was obtained or on nature of ultimate utilization of loan amount. The same was also affirmed by Apex court in case of India Cements Limited vs. CIT (1966) (SC) 60 ITR 52.
8.4 It is to be noted that liability to pay or to provide for loss on account of foreign currency fluctuation does not arises at the time of obtaining/raising foreign currency loan but the same was incurred subsequently on devaluation of currency which is an independent event having no control over it by the assessee. The same currency fluctuation may result into gain or loss which is not ascertainable at the time of taking funds. Hence it cannot be said as capital expenditure. The liability to pay or to provide for foreign currency fluctuation arises only on devaluation of currency and there may not be any liability to pay for loss on currency fluctuation if currency value is inflated subsequently.
8.5 One of the issue involved in the case of CIT vs. Woodward Governor India (P) Ltd. 312 ITR 254 (SC) was
“Whether the assessee is entitled to adjust the actual cost of imported assets acquired in foreign currency on account of fluctuation in the rate of exchange at each balance sheet date, pending actual payment of the varied liability?”
The above mentioned decision had considered the implication of Para 10 of AS-11 along with section 43A of the Act. While deciding the issue, it was observed by Hon’ble apex court at para 17:
“Having come to the conclusion that valuation is a part of the accounting system and having come to the conclusion that business losses are deductible under section 37(1) on the basis of ordinary principle of commercial accounting and having come to the conclusion that the Central Government has made Accounting Standard mandatory, we are now required to examine the said Accounting Standard (“AS”).”
Decided in above matter to treat foreign exchange gain or loss arising on acquisition of fixed assets in foreign currency as laid down in AS-1 1 (Revised 1994). Para 10 of AS-11 (revised 1994) provides as under:
“Exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which carried in terms of historical cost, should be adjusted in the carrying amount of the respective fixed assets. The carrying amount of such fixed assets should to the extent not already so adjusted or otherwise accounted for also be adjusted to account for any increase or decrease in the liability of the enterprise, as expressed in the reporting currency by applying the closing rate, for making payment towards the whole or a part of the cost of the assets or for repayment of the whole or a part of the monies borrowed by the enterprise from any person, directly or indirectly, in foreign currency specifically for the purpose of acquiring those assets.”
8.6 AS-11 (Revised 1994) provides for adjustment in the carrying cost of fixed assets acquired in foreign currency, due to foreign exchange balance sheet date which also correspond to treatment given in section 43A. The issue accordingly decided by apex court in the manner laid down in AS-11 (Revised 1994) at Para-10.
8.7 The revised treatment provided at Para 13 of AS-11 (Revised 2003) is given below:
“Exchange differences arising on the settlement of monetary items or on reporting an enterprise’s monetary items at rates different from those at which they were initially recorded during the period, or reported in previous financial statements, should be recognized as income or as expenses in the period in which they arise, with the exception of exchange differences dealt with in accordance with paragraph 15.”
8.8 In view of the revision made in AS-11 in 2003, it can be said that treatment of foreign exchange loss arising out of foreign currency fluctuations in respect of fixed assets acquired through loan in foreign currency shall required to be given in profit and loss account. Said exchange loss should be allowed as revenue expenditure in view of amended AS-11 (2003). It may be noted that apex court had followed treatment of exchange loss or gain as per AS-11 (1994). In view of revision made in AS-11, now treatment shall be as per revised AS-11 (2003). Exchange gain or loss on foreign currency fluctuations in respect of foreign currency loan acquired for acquisition of fixed asset should be allowed as revenue expenditure. However, in the Preamble of AS-11 (Revised 2003), it was stated that the Revised Standard supersedes AS-11 (1994) except that in respect of accounting for transactions in foreign currencies entered into by the reporting enterprise before the date of AS-11 (2004) comes into effect, AS 11 (1994) will continue to be applicable.
8.9 In our opinion, sec. 43A is only relating to the foreign exchange rate fluctuation in respect of assets acquired from a country outside India by using foreign currency loans which is not applicable to the indigenous assets acquired out of foreign currency loans. Further, the Revised Standard supersedes AS 11 (1994), except that in respect of accounting for transactions in foreign currencies entered into by the assessee before the date of AS-11 (2004) comes into effect, AS-11 (1994) will continue to be applicable.
9. In our opinion, foreign exchange loss arising out of foreign currency fluctuations in respect of loan in foreign currency used for acquiring fixed assets should be allowed as revenue expenditure by charging the same into the Profit and Loss account and not as capital expenditure by deducting the same from the cost of the respective fixed assets. Hence, in our opinion, there is no potential escapement of income on the issue relating to allowability of foreign exchange loan taken for the construction of new building and additional equipment. Accordingly, this ground of appeal of the assessee is allowed.
10 In the result, the appeal filed by the assessee is partly allowed.
Order pronounced in the open court on 08th November, 2019.
