TMI Blog2016 (12) TMI 623X X X X Extracts X X X X X X X X Extracts X X X X ..... of the AO that loss has been classified as exceptional hence, not permissible as per para 12 of AS-5. When items of income and expense with profit or loss from ordinary activities are of such size, nature or incidence that their disclosure is relevant to explain the performance of the enterprise for the period, the nature and amount of such items is required to be disclosed separately . Thus, merely by qualifying it as exceptional loss does not lose the character of business loss and hence has to be allowed. For each and every aspect, the CIT(A) has dealt with the issue threadbare and after controverting the objections of AO and after applying judicial pronouncements to each aspect reached to the conclusion that loss so incurred was allowable as business loss. Disallowance u/s.14A - assessee had made a suo-mote disallowance - assessee had earned dividend income of mainly from Mutual Funds, which has been claimed as exempt u/s. 10(35)- Held that:- Though the learned AO acknowledged the fact that borrowed funds have not been utilized for earning exempt income, but he has made further disallowance u/s. 14A r.w.rule 8D at ₹ 84,30,296/- (ie disallowance as per Rule 8D - ₹ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r, some of these contracts were not authorized and the concerned employee cancelled/intentionally withheld the contracts information from the Board of Directors and Senior Management, the loss has occurred on cancellation of contracts. On being aware of these circumstances, the assessee company conducted investigation and suspended the employee. Later the services of the employee were terminated and criminal complaint has been filed. Based on the investigation it was found that such contracts were entered into with the various banks as under: i. Yes Bank ii. Kotak Mahindra Bank iii. IDBI iv HSBC v. Deutsche Bank The assessee on the advice of Foreign Exchange consultants evaluated the potential financial implication of these contracts and on their recommendations the assessee negotiated with the concerned banks to cancel the contracts which resulted in the loss. It was submitted before the AO that the loss had arising/attributable to employees misconduct/negligence while performing his duties. Losses on account of employees misconduct while performing official duties are incidental to employers business. The same have been treated as exceptional loss in view of AS- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ainst normal business. 4. By the impugned order, the CIT(A) deleted the disallowance after observing as under :- 5.5 I have considered the submissions of the appellant and the order of the AO. In November, 2007 the appellant became aware that one of its senior employees, Shri Naishad Desai, who was working as Company Secretary and AVP Legal arid Treasury has exercised unauthorized fiduciary powers and entered into contracts with various banks. It is pertinent to note that this employee was authorized to enter into hedging contracts with banks as a part of his normal duties and hedging contracts were entered by the said employee on specific authorization by the appellant's Board of Directors and the same were reported to the Company's Senior Management as a part of his duties. The Board of Directors had authorized the employee to take such positions only with HSBC Bank, lDBI Bank and Deutsche Bank. He was not authorized to enter into any transactions either with Yes Bank or Kotak Mahindra Bank. A summary of the loss cost by the said employee of ₹ 102 crores as submitted by the appellant is as under: 5.6 From the above, it can be seen that the ap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oard meeting. However, the appellant had entered into transactions with Kotak Mahindra Bank from 5.03.2007 and had resulted in loss of ₹ 29,84,09,355/-. It can be seen that majority of the losses of ₹ 102 crores had resulted due to transactions with Yes Bank and Kotak Mahindra Bank and the appellant argued that any losses incurred on account of misconduct / negligence by an employee, but which is incidental to the carrying of the business is allowed as business loss. In support of this preposition the appellant relied on the following cases: Badridas Daga vs. CIT (1958) 34 ITR 10 (SC) ClT vs. Nainital bank (55 ITR 707) (SC) G.G:Dandekar machine Works Ltd. Vs. ClT (202 ITR 161) (Born) Pandyan Builders vs. Inspecting Assistant Commissioner (45 TTJ 524) (Mad) Eveready Industries India Ltd. Vs. DCIT (78 ITD 175) (CQ)) (TM) Kothari Sons vs. ClT (1966) (61 ITR 23) (Mad.) 5.10 The appellant also relied on CBDT s Circular No.35-D(XLVII-20)[F.No.10/48/65-IT-)A-1], dated 24.11.1965. Further appellant has mentioned that the loss was classified as exceptional due to requirement of Accounting Standard AS-5. Para 12 of AS-5 read ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onment made by the respondent in the profit and loss statement, the deduction is admissible under the law ClT vs India Discount Co. Ltd. (75 ITR 191) (SC) It is well established that a receipt which in law cannot be regarded as income cannot become so merely because the assessee erroneously credited it to the profit and loss account. ClT vs Godavari Sugar Mills Ltd. (208 ITR 878) (Born) It is now a well settled that the entries in the books of accounts of an assessee or the description given to a particular transaction or any assets or liability in its accounts is not conclusive. It is necessary to consider the true nature of the transaction or assets or liability Fort Properties Pvt. Ltd. vs CIT {208 ITR 232} (Bom) It is well-settled that the way in which entries are made by an assessee in his books of account is not determinative of the question whether the asset was held as a capital asset or stock-in-trade. The assessee may, by making entries which are not in conformity with the facts of the case or the proper accountancy principles, conceal the real nature of the asset or the transaction. Entries made by him, therefore, cannot be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed in the Sale of Goods Act, 1930, relevant extract reproduced below: Foreign currency, or any other currency, is neither commodity nor shares. The sale of Goods Act, specifically excludes cash from the definition of goods. Besides, no 'person other than authorised dealers and money changers are allowed in India to trade in foreign currency, much less speculate. Section 8 of the Foreign Exchange Regulations Act, 1973 provides that except with prior general or special permission of the RBI, no person other than an authorised dealer shall purchase, acquire, borrow or sell foreign currency. (emphasis supplied) The Mumbai ITAT in case of Thomas Cook India Ltd vs DC IT (293 ITR 283), he id that foreign exchange cannot be considered as 'goods' (in terms of erstwhile Section 80HHC of the Act). While rendering the said decision the ITAT primarily placed reliance on the definition of the term 'goods' as contained in the Sale of Goods Act, 1930, which specifically excludes money from scope of the definition (relevant extract reproduced below): Goods means every kind of movable property other than actionable claims but not money and include stocks an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he said explanation 2 to Section 28 of the Act to be distinct and separate from any other business. 5.17 The appellant also argued that foreign currency hedging transactions are incidental to the main business activity of the appellant and not in the nature of business for which he relied on the following case laws: CIT vs Badridas Gauridu (P) Ltd (2611TR 256) (Bombay HC) CIT vs Soorajmull Nagarmull (129lTR 169) (Kolkata HC) D Kishore kumar Co vs DClT (2 SOT 769) (Mumbai ITAT) DClT vs Beautiful Diamonds Ltd (57ITATlNDIA 1024) (Mum ITAT) 5.18 Therefore, the appellants argument is that the loss arising on account of abuse of fiduciary powers by an employee are allowable as business loss u/s. 28(1) and the loss arisen out of cancellation of foreign exchange transactions does not partake the character of speculative transactions nor it qualified as a separate and distinct business to constitute the speculative business. 5.19 The above submissions of the appellant have been considered. The AO had made the disallowance as there were contradictions in FIR. A perusal of the FIR dated1.2008 filed with Sr. Inspector of Police, Turbhe Police Station ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed that the loss is speculative in nature, In this regard, it is necessary to examine the definition of speculative transactions as given in section 43(5) which reads as under: 43 (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 scripts: 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 mercanting 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 jobbing or arbitrage to guard against loss which may arise in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gn currency. To hedge itself against exposure of fluctuation risk, the assessee had entered into forward contract with SBI for sale of foreign exchange to be received on export of rice. The Indian supplier defaulted on delivery of rice which consequentially led to cancellation of export as well as cancellation of forward contract. The ITAT held that the loss was an allowable loss and did not come within the purview of section 43(5). It was held that it is not a case of settlement of a contract but it is a case of cancellation of a contract, as is evident from the cancellation charges paid to the bank and such cancellation charges are in the nature of damages paid for non-performance of contract and thus, the transaction cannot be said to be transaction for settlement of the contract to attract the provisions of section 43(5). The ITAT also held that the case was covered by Bombay High Court decision in the case of CIT vs. Badridas Gauridu (P) Ltd. 5.23 Hence, it can be seen that the foreign exchange is not a commodity. Further in the instant case, there is no settlement but it is a cancellation of contracts due to extra ordinary circumstances and here too there has been ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... depreciation or capital expenditure on scientific research, the provisions of sub-section (2) of section 72 shall apply in relation to speculation business as they apply in relation to any other business, (4) No loss shall be carried forward under this section for more than 1[four] assessment .years immediately succeeding the assessm.ent year for which the loss was first computed. 2[Explanation.:-Where any part of the business of a company (3[other than a company whose gross total income consists 'mainly of income which is, chargeable under the heads, Interest on securities 4, Income from house property ,' Capital gains and Income from other sources ], or a company the principal business of which is the business of banking or the granting of loans and advances) consists in the purchase and sale of shares of other companies, such company shall, for the purposes of this section, be deemed to be carrying a speculation business to the extent to which the business consists of the purchase and sale of such shares. 5.26 In this connection, it is pertinent to note Explanation 2 to section 28 which reads as under: Explanation 2.-Where speculative transa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nge in the' forward market with the bank. However, the export cantracts 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 lacs 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 ClT v. Soorajmull NagarmulJ . (emphasis supplied) ClT vs Soorajmull Nagarmull (1291TR 169) (Kolkata HC) Here there is no finding that entering into foreign exchange contract was the nature of the business of the assessee. This was only an incidental part of the business operation for the export and import of the goods by the assessee. The assessee was not a dealer in foreign exchange contracts as such. Foreign exchange contracts were only incidental to the assessee's regular course of business. Therefore, all the arguments regarding whether it comes within the Explanation 2, in our opinion, is not quite relevant because the loss was not sustained in speculative transactions which are in the nature of the business of the assessee (emphasis supplied) D Kishore kumar Co vs DClT (2 SOT 7 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h which the assessee had entered into forward contracts, actually took place, this profit on cancellation of forward foreign exchange contracts effectively only reduces the costs of purchases in respect of those imports, and cannot be, by any logic, construed as transactions independent of assessee's business of importing rough diamonds and exporting cut and polished diamonds. 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 . {emphasis supplied} DCIT vs Beautiful Diamonds Ltd {57ITATlNDIA 1024} {Mum ITAT} Hearing the rival submissions and going through the orders of the lower authorities we are of the view that the ClT{A} has rightly pointed out that the Assessing Officer completely missed the point. At one point the Assessing Officer says that the assessee has not actually delivered or transferred any commodity or scrip and therefore it is to be treated as speculation and not covered by exceptions provided below section 43(5) and in another ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to various customers across the world. In the course of carrying out its above export business, the assessee enters into customer contracts denominated in foreign currency. There existed an inherent foreign currency fluctuation risk with respect to such exports. For the purpose of de-risking the foreign currency fluctuation risk, the assessee has a treasury department which attempts to de-risk the above risk, by inter-alia, entering into foreign currency hedging contracts/options with the banks. The said contracts are either short-term or long-term. In around November, 2007, the assessee became aware that one of its senior employees had exercised unauthorized fiduciary powers and entered into foreign currency contacts with various banks which resulted into huge losses. The assessee company took a prudential business decision to cancel some of the said contracts to safe guard further loss, in the subject financial year (FY) itself i.e. FY 2007-08, consequently resulting in loss of ₹ 1,02,99,48,137/-. In support of its above claim regarding allowability of said loss as business loss the assessee furnished various documents vide its submission dated 23.11.2011, inter-alia includ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ehalf of assessee company are incidental to the main business activity of the assessee company and not in the nature of main business. Our view is duly supported by the decision of Bombay High Court in case of Badridas Gauridu (supra), ITAT Mumbai Bench in case of D Kishore kumar Co (2 SOT 769) and Beautiful Diamonds Ltd (57 ITD 1024). 9. Keeping in view the responsibility given to the particular Officer with the powers to execute the same, the loss so arisen were on account of abuse of fiduciary powers by the employee therefore allowable as business loss u/s. 28(1). We also found that loss arisen out of cancellation of foreign exchange transactions does not partake the character of speculative transactions nor it qualified as a separate and distinct business to constitute the speculative business. 10. We also found that at the advice of Foreign Exchange Consultants, the assessee company has cancelled the contracts which were unauthorized and booked the loss. The said employee was later terminated from services and criminal complaint was also filed against him. All this shows that the loss was genuine and the said loss was a regular business loss as the transactions were ente ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... entered. 13. For each and every aspect, the CIT(A) has dealt with the issue threadbare and after controverting the objections of AO and after applying judicial pronouncements to each aspect reached to the conclusion that loss so incurred was allowable as business loss. The detailed findings so recorded by CIT(A) are as per the material on record, therefore, do not require any interference on our part. 14. In the result, appeal filed by the revenue is dismissed. 15. With regard to the disallowance u/s.14A, we found that during the year under consideration, the assessee had earned dividend income of mainly from Mutual Funds, which has been claimed as exempt u/s. 10(35) of the Act. In its return of income for the subject AY, the assessee had made a suo-mote disallowance of ₹ 3,56,103/- under section 14A as being expenditure attributable to earning of such exempt dividend income. In the course of the assessment proceedings, assessee s representative filed written submissions explaining the basis of 14A disallowance made by the assessee company. 16. On asking by the AO, the assessee also submitted the working of disallowance u/s. 14A read with Rule 8D of the IT Rules, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... laim of the assessee in respect of such expenditure or no expenditure having been incurred in relation to exempt income, that the mandate of Rule 8D will operate ii) DClT Vs Jindal Photo Ltd Delhi ITAT ,ITA 814 (Del) 2011 it is a pre-requisite that before invoking Rule 80, the AO must record his satisfaction on how the assessee's calculation is incorrect. The AO cannot apply Rule 8D without pointing out any inaccuracy in the method of apportionment or allocation of expenses. Further, the onus is on the AO to show that expenditure has been incurred by the assessee for earning tax-free income. Without discharging the onus, the AO is not entitled to make an ad hoc disallowance. A clear finding of incurring of expenditure is necessary. No disallowance can be made on the basis of presumptions (law laid down in assessee's own case for AY 2007-08 reiterated) iii) The ITAT Pune bench in the case of Kalyani Steels Ltd., ITA No.1733/PN/2012, order dated 30-1-2014, held as under :- 8. We have carefully considered the rival submissions. Section 14A of the Act contemplates that for the purposes of computing the total income, no deduction shall be allowed in respect of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssing Officer to apply the prescribed method irrespective of the nature of the claim made by the assessee. The Assessing Officer has to first consider the correctness of the claim of the assessee having regard to the accounts of the assessee. The satisfaction of the Assessing Officer has to be objectively arrived at on the basis of those accounts and after considering all the relevant facts and circumstances. The application of the prescribed method arises in a situation where the claim made by the assessee in respect of expenditure which is relatable to the earning of income which does not form part of the total income under the Act is found to be incorrect. In such a situation a method had to be devised for apportioning the expenditure incurred by the assessee between what is incurred in relation to the earning of taxable income and that which is incurred in relation to the earning of non-taxable income. As a matter of fact, the memorandum explaining the provisions of the Finance Bill, 2006, and the Central Board of Direct Taxes circular dated December 28, 2006, state that since the existing provisions of section 14A did not provide a method of computing the expenditure incurred ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ise of the claim made by the assessee must be based on reasons and on relevant considerations. Ostensibly, the invoking of rule 8D of the Rules in order to compute the disallowance u/s 14A of the Act is to be understood as being conditional on the objective satisfaction of the Assessing Officer with regard to the incorrectness of the claim of the assessee, having regard to the accounts of the assessee. At this stage, we may also touch-upon a similar view expressed by the Hon ble Delhi High Court in the case of Maxopp Investment Ltd. Ors. vs. CIT, (2012) 247 CTR 162 (Del), wherein reference has been made to the judgment of the Hon ble Bombay High Court in the case of Godrej Boyce Manufacturing Co. Ltd. (supra). As per the Hon ble Delhi High Court, the requirement of the Assessing Officer embarkingupon a determination of the amount of expenditure incurred in relation to exempt income in term of rule 8D of the Rules would be triggered only if the Assessing Officer records a finding that he was not satisfied with the correctness of the claim of the assessee in respect of such expenditure. According to the Hon ble Delhi High Court, sub-section (2) of section 14A of the Act deals wit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and no borrowings were utilized. The mutual fund investments were claimed to be also made out of surplus funds. It was specifically claimed that no fresh investments have been made during the year under consideration in shares yielding exempt income. All the aforesaid points raised by the assessee have not been addressed by the Assessing Officer and the same have been brushed aside by making a bland statement that the disallowance is not acceptable . Therefore, in our view, in the present case, the Assessing Officer has not recorded any objective satisfaction in regard to the correctness of the claim of the assessee, which is mandatorily required in terms of section 14A(2) of the Act and therefore his action of invoking rule 8D of the Rules to compute the impugned disallowance is untenable. Accordingly, the orders of the authorities below are set-aside on this aspect and the Assessing Officer is directed to retain the disallowance u/s 14A of the Act to the extent of ₹ 5,00,000/-, as returned by the assessee. 11. Before parting, we may refer to the objection of the learned Departmental Representative, which is to the effect that since assessee was not maintaining separ ..... X X X X Extracts X X X X X X X X Extracts X X X X
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