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2017 (1) TMI 673 - ITAT MUMBAI

2017 (1) TMI 673 - ITAT MUMBAI - TMI - Loss arising out of fluctuation in forward foreign exchange contracts due to adverse movement of foreign currency exchange rate - Held that:- Hon’ble Supreme Court in the case of Woodward Governor India P. Ltd. (2009 (4) TMI 4 - SUPREME COURT) relied upon by the assessee will be applicable as the losses are towards hedging against export receivable in foreign currency outstanding as at year end towards export of polished diamonds undertaken by the assessee .....

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rned CIT(A) as learned DR could not point any defect/mistake in the finding of learned CIT(A) , which we confirm/sustain and the grounds raised in the Revenue appeal is dismissed. - With Respect to the deduction disallowed by the learned CIT(A) arising out of fluctuation in foreign currency rates on forward foreign exchange contracts which are not backed by the export receivables but are stated to be backed with confirmed export orders against which the assessee had stated to have purchased .....

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ections as contained in this order . - I .T.A. No. 7311/Mum/2012, I .T.A. No. 112/Mum/2013 - Dated:- 7-11-2016 - SHRI C.N. PRASAD, JUDICIAL MEMBER AND SHRI RAMIT KOCHAR, ACCOUNTANT MEMBER For The Assessee : Dr. K. Shivaram For The Revenue : Shri Manjunatha Swamy (CIT - D.R.) ORDER PER RAMIT KOCHAR, Accountant Member These are cross appeals filed by the assessee and the Revenue before the Income-tax Appellate Tribunal, Mumbai (Hereinafter called the Tribunal ). These cross appeals are heard toget .....

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ncome-tax Act,1961 (Hereinafter called the Act ). 2. The following grounds of appeal are raised by the assessee in ITA No. 7311/Mum/2012 for the assessment year 2009-10 in the memo of appeal filed with Tribunal which reads as under:- On the facts and circumstances of the case and in law, the learned Comm. of Income Tax (Appeals) erred in partly conforming the action of the learned Assessing Officer for disallowance of business expenditure in the nature of marked - to - market loss on restatement .....

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n of forward exchange contracts on the closing date of accounting year is not a notional loss and, therefore, allowable. 3. The Brief facts of the case are that the assessee is engaged in the business of manufacture and export of cut and polished diamonds. It was observed by the A.O. during the course of assessment proceedings u/s 143(3) read with Section 143(2) of the Act from the details furnished by the assessee that it has entered into forward foreign exchange contracts which have been reval .....

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the business of import of rough diamonds, cutting and polishing the same and export of polished diamonds , whereby the assessee has exposure to foreign exchange due to transactions of imports and exports in foreign currency . Further, the assessee submitted that it had availed substantial bank finance in foreign currency, which is required to be settled in foreign currency only. In view of the same, it was submitted by the assessee that it has substantial exposure on account of fluctuation in fo .....

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ted that in the assessee s case, the assessee has entered into forward exchange contracts to hedge against the risk of fluctuation in foreign currency rates in respect of its exports and imports transactions. It was submitted that assessee is revaluing all the monetary assets and liabilities outstanding at the end of the year by following AS-11 issued by ICAI and recognizing profit/loss during the year . It was submitted that it is recognizing mark to market gain or loss in respect of outstandin .....

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Soorajmul Nagarmull 129 ITR 169 (Cal.) The A.O. considered the submissions of the assessee and observed that the assessee has entered into forward foreign exchange contracts , which are outstanding as at the end of the previous year which has been valued by the assessee on the basis of rates applicable on the closing day of the previous year , though the contracts were still outstanding and accordingly, such unrealized losses are recorded by the assessee. It was observed by the AO that these los .....

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ssessee like debtors and creditors, which are arising from the business activities of the assessee and which are ascertained at the year end. So far as the pending forward contracts are concerned, it was observed by the AO these are neither assets nor liabilities having any value. Thus it was observed by the AO that forward contracts are not the ascertained asset/liability of the assessee and if valued at the reporting date of the financial statements would result only in an unascertained liabil .....

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forex derivatives until their final values are known. , thus, the A.O. disallowed the said loss vide assessment order dated 26.12.2011 passed by the AO u/s. 143(3) of the Act. 4. Aggrieved by the assessment order dated 26.12.2011 passed by the A.O. u/s. 143(3) of the Act, the assessee preferred an appeal before the ld. CIT(A). 5. Before the ld. CIT(A) the assessee submitted that the assessee is engaged in the business of import and exports of diamonds and substantial amount of its turnover was d .....

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MA. The intent of entering into such derivative contracts was to safeguard itself against exchange fluctuation risk on foreign currency receivables or payables. It was submitted that the assessee has been consistently following the accounting method wherein year-end restatement or mark to market gain or loss in respect of all assets or liabilities denominated in foreign currency i.e. debtors, creditors and forward contracts , is being recognized as gain or loss in profit & loss account which .....

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onsidering the submissions of the assessee observed that the assessee is engaged in the business of import of rough diamonds, manufacturing i.e. cutting & polishing of same in to polished diamonds and exporting the said diamonds. The total sale of ₹ 961.53 crores(US $ 217,708,068) was denominated in foreign currency. Out of total purchase of ₹ 791.72 crores , import accounts for ₹ 690.08 crores (US $ 161,404,740). At the year end , the creditors for goods were payable in do .....

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acts in respect of export receivables only. It was further noted that in addition to the opening outstanding forward contracts of 61,000,000 US dollars during the year under consideration , the assessee has booked forward contracts of 767,000,000 US dollar, utilized forward contracts of 72,406,591 US dollar, cancelled forward contracts of 6,000,000 US dollar and finally held the forward contracts of 59,293,409 US dollar at the year end. Thus, the assessee has entered into the forward contracts d .....

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ary items i.e. export receivable , import payable and foreign currency working capital loan appearing in the balance sheet at closing rate and recognizing the exchange rate difference in profit and loss account as expenses or income which is as per AS-11 issued by ICAI being consistently followed and there is no change in this regard. For the assessment year 2010-11, the assessee has offered a gain of ₹ 5,47,30,056/-as income on revaluation of the pending forward contracts. Thus it was obs .....

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an underlying asset or a liability , by way of debtors or creditors. The profit and loss arising out of forward contracts either on maturity or on cancellation of such contracts forms part of the business income and such forward contracts entered into during the course of business creates a legal liability irrespective of the fact whether it matures during the accounting period or beyond the accounting period. The ld. CIT(A) considered the judgments of Hon ble Delhi High Court in the case of Woo .....

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forward contracts entered for sale of foreign currency and pending as on date were for an amount of US $ 59,293,409 . Thus, it was observed by learned CIT(A) that the forward contracts were entered for an amount higher than the receivable at the year end and there appears to be no reason for the excess exposure taken by the assessee . The assessee had submitted that the excess contracts were entered into for the export orders pending on hand which were backed by the stocks held by the assessee a .....

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3-2009 to back it up and hence it was held by the learned CIT(A) that the aforesaid forward contracts pending as on 31-03-2009 are not for the purposes of business and loss arising on revaluation of such contract is purely notional and speculative in nature and cannot be provided on the prudency principle in computing assessees income. Thus, the learned CIT(A) confirmed/sustained the disallowance of loss on revaluation of forward contracts amounting to ₹ 9,92,48,752 which were not backed b .....

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and the Revenue are in appeal before the Tribunal. 7. The ld. Counsel for the assessee submitted that the assessee is engaged in the business of import of rough diamonds, cutting and polishing the same and export of polished diamonds. The ld. Counsel submitted that the assessee imports rough diamonds to manufacture cut and polished diamonds and export the same. By importing and exporting the diamonds, the assessee is exposed to foreign currency fluctuation and to hedge against the risk of forei .....

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es as at year end. It is submitted by the assessee s counsel that outstanding un-matured foreign currency forward contracts as at year end which were backed by outstanding export receivables as at yearend , the learned CIT(A) allowed the said loss which was to the tune of ₹ 22,76,84,554/-. It is also submitted by the assessee s that with respect to those un-matured outstanding forward foreign exchange contracts as at yearend which are not backed by outstanding export receivables as at year .....

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cked with confirmed export orders and stock held by the assessee as at year end are not allowed by learned CIT(A) which was to the tune of ₹ 9,92,48,752/- . It is submitted that these forward foreign exchange contracts were entered within the frame work of relevant RBI & FEMA guidelines and are monitored by RBI. It is submitted that the assessee is regularly following this method of accounting whereby year-end restatement or marked to market gain or loss in respect of all assets or lia .....

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ements and tax audit report of the assessee which are placed in paper book filed with the Tribunal (page 4-67/PB). The details of foreign exchange difference loss/profit are placed in paper book page 136/137. It was submitted that foreign exchange gains earned on revaluation of forward foreign exchange contract as at year end was offered for tax in assessment year 2010-11 and 2011-12 and details are placed in paper book/page 134- 149 and details along with assessment orders framed u/s 143(3) of .....

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e details of these losses were submitted before the authorities below(page109-110 , 115 of paper book). The assessee submitted that in preceding years as well succeeding years the assessee consistently followed the said method of accounting , and the Revenue has accepted the said method of accounting followed by the assessee except for the impugned assessment year. The assessee placed reliance on following decisions:- a) London Star Diamond v. DCIT in ITA no. 6169/M/2012 vide orders dated 11/10/ .....

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Taxman 267 (Guj. HC) i) CIT v. Panchmahal Steel Limited (2013) 215 Taxman 140(Guj. HC) j) ACIT v. Venus Jewel in ITA No. 7328 & 7329/Mum/2013 dated 31/07/2015 k) S. Jogani Exports Private Limited v. ACIT in ITA No. 7012/Mum/2012 dated 26/02/2016 l) Inventurus Knowledge Services Private Limited v. ITO (2016) 156 ITD 727(Mum-Trib.) 8. The ld. D.R. relied on the order of the A.O. and also the order of the Mumbai Bench of the Tribunal in the case of S. Vinodkumar Diamonds Pvt. Ltd. v. Addl. CIT .....

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ear end. The ld. CIT(A) denied the benefit of loss on account of revaluation of forward foreign exchange contracts as at year end which were backed by confirmed export orders supported by stock in hand held by the assessee towards those export orders , hence, this issue may be verified by the A.O. by considering the factual matrix of the case. 10. We have considered the rival contentions and also perused the material available on record including the case laws relied upon. We have observed that .....

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denominated in foreign currency. The assessee is stated to have entered into forward foreign exchange contracts to hedge the currency risk associated with the transactions of import and exports of diamonds to safeguard against the exchange fluctuation risk on foreign currency receivables and payables. We have observed that the assessee has entered into forward foreign exchange contracts which have remained unsettled / unmatured at the year end and loss has occurred on the same due to foreign ex .....

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uring the impugned assessment year. The revenue has brought to tax, the income arising on fluctuation in foreign exchange rates as at year end on these forward foreign exchange contracts for the assessment year 2010-11 and 2011-12 as was offered for taxation by the assessee of its own and the assessment orders framed u/s 143(3) of the Act is placed on record in paper book filed with the tribunal. . The co-ordinate Bench of the tribunal in the case of Venus Diamond(supra) has allowed the mark to .....

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mited in 261 ITR 256(Bom.). The similar view has been taken by the co-ordinate bench in the case of S.Jogani Exports Private Limited v. ACIT in ITA no. 7012/Mum/2012 vide orders dated 26/02/2016 wherein the mark to market losses on unexpired/un-matured forward foreign exchange contracts as at year end were allowed keeping in view prevailing foreign exchange rates. The Hon ble Bombay High Court in a recent decision in CIT v. D. Chetan and Company in ITA no. 278 of 2014 vide orders dated 01-10-201 .....

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supra) on the grounds that no substantial question of law arises from the appeal and consequently decision of the tribunal in allowing mark to market losses of ₹ 78,10,000/- on forward foreign exchange contracts being not a notional loss was upheld. The AO has disallowed the entire loss on threshold on revaluation of forward foreign exchange contract as at year end based on prevailing foreign exchange rates considering the same to be notional loss and no enquiry to verify whether the same .....

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terms at ₹ 94.07 crores (US $ 43,851,415). Similarly, exports receivable account for ₹ 209.76 crores(US $ 41,293,418) denominated in dollar terms. The assessee had a bank loan outstanding in PCFC and FCB accounts of US $ 25,959,035 at the year end. Thus, it was observed by the learned CIT(A) that the assessee was exposed to risk arising out of fluctuation in foreign exchange rate and as a prudent businessmen likely to hedge its risk. The ld. CIT(A) noted that assessee has booked all .....

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rward contracts during the normal course of business and utilized the same for business by allowing them to run up to the date of contract. The assessee has receivable of US $ 41,293,417 against which the forward contracts entered for sale of foreign currency and pending as on date were for an amount of US $ 59,293,409 . Thus, it was observed by learned CIT(A) that the forward contracts were entered for an amount higher than the receivable at the year end and there appears to be no reason for th .....

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nge contract of 22,76,84,554/- was allowed by learned CIT(A) as the same were backed by export receivable outstanding as on 31-03-2009. The ld. DR could not show us any perversity in the afore-stated finding of learned CIT(A). In our considered view, such marked to market losses with respect to the unsettled/un-matured foreign currency forward contracts on account of revaluation at the year end on the basis of exchange rates prevailing as at year end should be allowed to the assessee as business .....

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t year end denominated in foreign currency and by entering into forward contracts in foreign exchange and as such, the forward contracts entered were for the purpose of the business to hedge against the forex loss and that the assessee has not entered into the forward contracts with an intention to earn any gain due to fluctuation in foreign currency rate but it is necessary for it to enter into such forward contracts to hedge against foreign exchange rate fluctuation and which are incidental to .....

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f rough diamonds and export of polished diamonds , and not in the business of foreign exchange. The decision of Hon ble Supreme Court in the case of Woodward Governor India P. Ltd. (supra) relied upon by the assessee will be applicable as the losses are towards hedging against export receivable in foreign currency outstanding as at year end towards export of polished diamonds undertaken by the assessee and cannot be categorized as notional loss or speculative loss as per provisions of Section 43 .....

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the finding of learned CIT(A) , which we confirm/sustain and the grounds raised in the Revenue appeal is dismissed. With Respect to the deduction of ₹ 9,92,48,752/- disallowed by the learned CIT(A) arising out of fluctuation in foreign currency rates on forward foreign exchange contracts which are not backed by the export receivables but are stated to be backed with confirmed export orders against which the assessee had stated to have purchased stock and such stock being held by the asses .....

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verification and enquiry it is found by the AO that the said forward foreign exchange contracts are backed by stock purchased and held by the assessee as at year end which are backed by purchased for executing confirmed export orders in hand , which export orders are executed in next financial year , the loss shall stand allowed after such verification and enquiry by the AO as the assessee by holding confirmed export orders denominated in foreign currency and holding stock for execution of thos .....

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