2025 (7) TMI 1729 - AT - Income Tax

Disallowance of loss on account of foreign exchange fluctuations on investments in foreign subsidiary companies - allowable revenue expenditure or not? - AO had disallowed the claim by holding that foreign exchange loss was incurred on capital account as it is for acquisition of capital asset and it is a mere notional loss - HELD THAT - Appellant made advance to its wholly owned subsidiary of AMPHL carrying interest rate of 7.5%. It is stated that the appellant company made this advance with the intention of enabling that company to form a subsidiary company with the intention of acquiring Dunlop Tyres International Pty. Ltd. The said loan was converted into noncumulative preferential shares. As a result of this conversion appellant incurred loss which was claimed as deduction in computing taxable income of the appellant company in the revised return of income. The same was disallowed by the lower authorities by holding it to be capital in nature. Loan given to the wholly owned AMPHL is an investment in the hands of the appellant company earning interest at 7.5% and forming part of fixed capital of the appellant company. It is the settled principle of law that the aim and object of the expenditure would determine the character of the expenditure whether it is capital expenditure or revenue expenditure as held in the case of M.K. Bros 1972 (8) TMI 5 - SUPREME COURT Similarly if the expenditure is made for acquiring a source of income by bringing into existence an asset or advantage for the benefit of the business it is attributable to capital and is of the nature of capital expenditure as held in the case of Assam Bengal Cement Co. Ltd. 1954 (11) TMI 2 - SUPREME COURT . Even assuming for a moment that the expenditure incurred ultimately helps in improving the profits of the company the expenditure incurred on capital asset does not lose the character of capital expenditure and does not become revenue expenditure as held in the case of Arvind Mills Ltd. 1992 (7) TMI 2 - SUPREME COURT The submission made before us that the money was advanced to subsidiary company AMPHL out of business expediency cannot be accepted for more than one reason. No factual foundation was laid in support of this submission. Moreover the very fact that the loan carry interest rate of 7.5% militates against the very claim of the appellant that the loan was advanced out of business expediency. Thus in our considered opinion diminution in the value of advance on account of conversion into non-cumulative preferential shares is nothing but diminution in capital which cannot be allowed as revenue expenditure. Decided against assessee.

Summary

ISSUES:

Whether the loss on account of foreign exchange fluctuations on loan advanced to a wholly owned subsidiary, subsequently converted into non-cumulative redeemable preference shares, is allowable as a revenue expenditure deduction.Whether such loss constitutes capital loss or revenue loss for the purposes of income tax assessment.

RULINGS / HOLDINGS:

The loss of Rs. 45.58 crores incurred due to foreign exchange fluctuations on the loan advanced to the wholly owned subsidiary, which was converted into non-cumulative preference shares, is a capital loss and not allowable as a revenue expenditure deduction.The loan advanced at an interest rate of 7.5% to the subsidiary company is an investment forming part of the fixed capital of the appellant company, and the object of the advance was to acquire control over a foreign company, thus constituting capital expenditure.The diminution in value of the advance on account of conversion into preference shares is "nothing but diminution in capital" and cannot be treated as revenue loss.

RATIONALE:

The Court applied settled legal principles that the character of expenditure depends on the "aim and object" of the expenditure, referencing authoritative precedents including Atherton v. British Insulated & Helsby Cables Ltd. and decisions of the Hon'ble Supreme Court such as CIT v. Madras Auto Services Pvt. Ltd., M.K. Bros v. CIT, Assam Bengal Cement Co. Ltd. v. CIT, and Arvind Mills Ltd. v. CIT.These precedents establish that expenditure laid out "once and for all with a view of bringing into existence an asset or advantage for the enduring benefit of trade" is capital expenditure.The Court rejected the submission that the loan was advanced out of business expediency, noting the absence of factual foundation and the presence of an interest rate of 7.5% on the loan, which militates against the claim of revenue nature.The Court reaffirmed that even if the expenditure ultimately improves profits, it does not lose its capital character.