May 17, 2009 (The Hindu Business Line) --

V. Aravind Srivatsan

Typically, FX losses debited to the P&L account as per Accounting Standard 11, to the extent relatable to liability for fixed assets are adjusted as per Section 43A of the Income-Tax Act, 1961 (‘the Act’). The balance is claimed as a revenue expenditure under Section 37 of the Act. However, the taxman does not typically allow such amounts on the basis that it is notional/capital/contingent.

Further, even in relation to Section 43A, the taxman is prone to taking a position that the amendment in the section is clarificatory and retrospectively applicable.

Recently, the Supreme Court (SC) delivered a judgment in the CIT vs Woodward Governor (NASDAQ:WGOV) India Private Ltd and M/s Honda Siel Power Products Ltd, on allowability of forex loss debited to the P&L account.

The SC dealt with the issue in detail and set out principles in relation such loss, whether on account of borrowings for fixed assets or on account of other causes. The ruling gives the assessee coverage against the taxman’s propensity to look at only judgments in his favour.

There have been differing positions adopted by tax authorities in relation to the forex loss claimed as expenditure in the books of account. The stage was set by the SC in the Sutlej Cotton Mills Ltd vs CIT (1979 116 ITR 1 SC) where the SC directed that if such loss was on account of a trading liability, the same would be allowable.

It was followed by decisions of High Courts, such as in Eicher Good Earth (IT Appeal No. 7078 Delhi of 1992) where it was observed that the mercantile system of accounting made it mandatory to translate the outstanding liability on the basis of fluctuation in foreign currency rate and such amount is allowable.

Also in an important ruling involving Oil and Natural Gas Corpn vs Deputy CIT (2002 83 ITD 151 Delhi), the ITAT had observed that such loss was not a contingent liability since the change in the value of foreign currency in relation to Indian currency had already occurred.

The ONGC decision was followed by a slew of High Court and ITAT decisions — to rule forex loss as per AS 11 or devaluation as allowable.

However, certain other ITATs have held otherwise, that is, disallowing such forex losses from profits of the business, on the basis that such provision is reversed on the first day of the next year and taking a view that such forex losses were notional in nature.

Also, in relation to forward contracts, the Madras HC in the context of income of nationalised banks has held that forex gain on forward contracts was notional income not subject to taxation.
Principles

The principles that emerge from the these decisions is that if the loss is for a trading liability or liability with an end use in trading, the same would be allowable as an expenditure under Section 37.