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2016 (2) TMI 502 - ITAT MUMBAI

2016 (2) TMI 502 - ITAT MUMBAI - TMI - Disallowance of loss suffered in cancellation of foreign currency forward contracts by treating the same as speculation loss - Held that:- Forward contracts entered by the assessee, an exporter and not the dealer in foreign exchange, with the Banks as incidental to the export business, are business transactions and loss or gains is not of speculation nature. The loss arising on cancellation of matured forward contracts was allowable as deduction

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filed this appeal challenging the order dated 15.04.2013 passed by Ld CIT(A)-10, Mumbai and it relates to the assessment year 2009-10. The assessee is aggrieved by the decision of Ld CIT(A) in confirming the disallowance of claim of ₹ 7.84 crores relating to the loss suffered in cancellation of foreign currency forward contracts by treating the same as speculation loss. 2. The facts necessary for the disposal of the above said issue are set out in brief. The assessee is engaged in the busi .....

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ain of ₹ 20.39 crores. The assessee had also declared a loss of ₹ 5.29 crores on revaluation of outstanding payable in foreign currency. The AO did not disturb both the items stated above. 3. The assessee submitted that it, being an exporter of diamonds, enters into sales transactions in US$ and hence it is required to hedge the foreign exchange loss by entering into forward contracts. Accordingly, it was contended that the same forms integral part of the export business. Accordingly .....

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ts have not been entered into diamonds and hence the forward contracts entered into foreign currency cannot be linked with the business of diamonds. He further took the view that the derivatives is also a commodity. Accordingly, the AO took the view that the activity of the assessee in entering into forward contract in foreign currency is a speculative transaction and hence the loss suffered by the assessee is a speculative loss. In this regard, the AO took support from the decision rendered by .....

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s Hanuman Weaving Factory in its order dated 28.10.2013 passed in ITA No.1112/Bang/2012. The issue before the Tribunal in the case of M/s Hanuman Weaving factory (supra) was identical to the one contested before us, viz., whether the expenditure incurred on cancellation of forward contract was a speculation loss or not. The above said assessee was exporter of silk fabrics and it has claimed the loss arising on cancellation of forward contract in foreign currency as deduction. The AO rejected the .....

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e without actual delivery, the profit from such forward contract is assessable as profit from speculation business in view of Expln. 2 to s. 28 r/w s. 43(5), and speculation business not being the business of assessee s undertaking, profit from forward contracts could not be included in the profits of the business of the undertaking for the purposes of computing deduction under s. 10B. With due regards, we have perused the above findings and of the firm view that the issue itself was on differen .....

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ellip;……………………..This aspect has been dealt with in detail by the Hon ble ITAT, Bangalore in the case of Shri K.Mohan Exports & Co in 126 ITD 0059 (Bang.). Although the issue on hand was in a different context as to whether income from speculation profits can be said to be income derived from exports for the purpose of section 10B or not,…….. 5.5.4 On the other hand, we find that the issue in question is squarely covered in .....

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sion of Hon ble Bombay and Gujarat High Courts (referred supra), the Bangalore bench concluded in the case of Hanuman Weaving Factory (supra) the loss on cancellation of foreign exchange forward contract is allowable as deduction. 5. The Ld A.R brought to our notice the decision dated 11.10.2013 rendered by the co-ordinate bench of Mumbai Tribunal in the case of London Star Diamond Company (I) P Ltd Vs. DCIT (ITA No.6169/Mum/2012), wherein also the Tribunal considered the issue relating to the d .....

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tal to the activity of export of the diamonds by the assessee, who is not the dealer in foreign exchange. (ii) if the AO was justified in not setting off against the profits on actual realization or revaluation as speculative profits. The co-ordinate bench also examined the provisions of sec. 43(5), which defines the expression Speculative transactions and finally decided the issue in favour of the assessee. The relevant discussions made by the Tribunal are extracted below, for the sake of conve .....

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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 ac .....

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[or] [(d) an eligible transaction in respect of trading in derivatives referred to in clause [(ac)] of section 2 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956) carried out in a recognized stock exchange; [or]] (e) an eligible transaction in respect of trading in commodity derivatives carried out in a recognised association, shall not be deemed to be a speculative transaction………. 19. The above provision provides that a transaction in which a contract in respe .....

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d against the losses through future price fluctuations in respect of contracts for actual deliver. Clause (b) deals with the contracts entered into by dealer or investor in respect of Stock Exchange and Clause (d) deals with an eligible transaction in respect of trading derivatives carried out in a recognized Stock Exchange. Clause (e) deals with eligible transactions in respect of the trading in commodity derivatives carried out in a recognized association. These five types of contracts / eligi .....

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he forward contract . Thus, in principle, the forward contracts, being commodity, should fall in the definition of speculation transaction and the same is subjected to fulfillment of other conditions specified in sub-section (5) of section 43 of the Act. Having held so, we shall now examine if the impugned contracts/transactions constitute hedging transactions and covered by the exclusion provisions of clause (a) to the proviso to section 43(5) of the Act. The clause (a) of the proviso to sectio .....

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actions carried on by an assessee are of such a nature as to constitute a business, the business (hereinafter referred to as speculation business ) shall be deemed to be distinct and separate from any other business. 21. Explanation to section 28 uses the expression speculative transactions carried on by an assessee are of such a nature as to constitute a business , and thus, considering the nature of these transactions, the impugned FCs cannot be deemed as the speculation business without going .....

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Further, the provision of section 73 relating to loss in speculation business is another relevant provision in this regard. Thus, the Explanation 2 to section 73 also deals with deemed speculation business where there is some trading activity of shares by the assessee being other business activity. Now, we shall take up relevant judgments on the subject raised before us. 22. Relevant judgmental laws: In this regard, relevant decisions include the decision in the case of D Kishore kumar and Co su .....

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banks for hedging the losses due to foreign exchange fluctuations on the export proceeds, are to be considered integral or incidental to the export activity of the assessee. Therefore, the losses or gains constitute the business loss or gains and not the speculation activities. In the preceding paragraphs of the order, in the portions assigned to the AR s arguments, we have analyzed these issues and the DR has not provided any reasons to reject the said arguments of Ld Counsel for the assessee. .....

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of the law that the 1:1 correlation between the FCs and the export invoices should exist and should be established by the assessee. So long as the total value of the FCs does not exceed, the claim of the assessee is sustainable as business loss. We have also analyzed the decisions relied on by Ld DR and find they are distinguishable. Now, we shall proceed to import some conclusions of the said decisions. Relevant judgmental laws - Conclusions & Held portions 23. Relevant extracts from the c .....

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extent of assessee s actual exposure in respect of import value commitments. That aspect is not disputed. On these facts, even though the transactions having been settled without delivery, the conditions of s. 43(5), describing speculative transactions, are clearly fulfilled, the requirement of Expln. 2 to s. 28 is not fulfilled inasmuch as it cannot be concluded that the transactions are such a nature as to constitute a business by itself. These transactions are genuine business transaction to .....

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llation of those contracts. These transactions are integral part of the export business and cannot be considered in isolation of the export business in the course of which the transactions have been entered into. As a matter of fact, this profit on cancellation of forward contracts is generally revenue neutral because the question of profit on cancellation of forward contracts can only arise in a situation when the value of foreign currency is increasing vis-avis domestic currency, and when the .....

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ssee s business of importing rough diamonds and exporting cut and polished diamonds. There is one more aspect of the matter, and that is the reason as to why the forward contracts were cancelled midway and the profits were booked on the same instead of using these contracts to actually meet the foreign exchange requirements at the time of paying the import bills……. The due dates of payment at that point of time were only 16 days to 77 days away. The decision as to whether further h .....

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s expediency in cancellation of contract. The fact of premature cancellation, therefore, cannot alter the nature of transaction. For all these reasons, the credit shown in the P&L a/c as profit on cancellation of forward contracts is as integral part of the export business, as purchases or imports….. The assessee succeeds on this issue. In the result, the appeal is allowed. 24. Although, the said decision was pronounced in the context of section 80HC of the Act, the ratio of the said .....

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ffered by it as a business loss - Held yes. 25.1. Relevant finding is discussed in para 3 of the judgment and the same reads as follows:- 3. 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 .....

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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 of ₹ 13.50 lakhs as a business loss. This matter is squarely covered by the judgment of the Calcutta High Court in the case of CIT vs. Sooraj Mull Nagarmull (1981) 129 ITR 169. Judgment of Calcutta High Court in the case of CIT vs. Sooraj Mull Nagarmull [1981] 129 ITR 169 (Cal.) Held: The assessee used to carry on export and import .....

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business. Undoubtedly, the contract for foreign exchange as such can be treated as a contract for commodity…………. The Conclusion of this judgment as reported reads as under: Where in the normal course of business of import and export of jute, the assessee entered into foreign exchange contract to cover up the losses and differences in exchange valuation, the transaction is not a speculative transaction. 26. The above extracts unanimously support that the FCs entered b .....

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the assessee during the year on account of change in value of currencies at the time of payment was allowed while finalising the assessment, that M to M losses were of notional losses and contingent in nature. Finally, loss on a/c. of outstanding forward contract as on 31.03.2008 were disallowed by him………… 33. Correlation of forward contracts vis-à-vis export invoices: Assessee filed a chart furnishing the export invoices raised in the year under consideration .....

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ra). Considering the above stated scope of the relevant provisions on one side and the precedents on the other, now we shall take up the core issue of adjudication of the grounds raised in the appeal and the fate of the impugned losses of ₹ 4,69,42,680/-. Relevant portion from the judgment of the Gujarat High Court in the case of Friends and Friends Shipping Pvt. Ltd (supra) is as follows: It is true that the CIT (A) has made some observations which would prima facie suggest that there was .....

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l part or incidental to the core business of export of diamonds or the outstanding receivables of export proceeds, in principle, the impugned FCs constitute hedging transaction and not the speculative contracts . As such, the banks do not entertain FCs of speculative nature with the customers like the assessee, the exporter. As such, the extension of FCs, in case of non-receipt of export proceeds on the due dates, is not allowed without cancelling the existing FCs. However, the onus is on the as .....

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ble explanation for such cancellations. It should not be the case, to start with, FC can be a hedging transaction but the ending of such FC is speculation . In the light of this synopsis of our views in the matter, we shall not deliberate on the impugned losses. 35. The subdivisions of the loss of ₹ 4,69,42,680/-: we have already tabulated above the three subdivisions of the impugned losses based on the timing of the cancellation of the FCs. Broadly the loss is divided into two types and t .....

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ons by the assessee and therefore, in our considered view, the said loss of ₹ 4,14,88,805/-, being related to the FCs which are integral or incidental to the exports of the diamonds, should be allowed as business loss in view of the binding High Court or Tribunal decisions/judgments in the case of D Kishore kumar and Co (supra), Badridas Gauridu Pvt Ltd (supra), Sooraj Muill Magarmull, (supra) etc. Thus, loss arising from cancellation of the matured contracts is allowed in favour of the as .....

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