Forward exchange contract premium is deductible as a revenue expense

Facts and Issues of the Case

It was common ground that in all the appeals there was common issue involved relating to claim of premium paid on forward covers of foreign exchange rates. All the appeals were therefore taken up together for hearing and are disposed of by way of this common consolidated order for the sake of convenience. We shall be dealing with the facts in the case of the assessee pertaining to A.Y. 2014-15 in ITA No. 1110/Ahd/2018 and our decision rendered therein will apply mutatis mutandis to the rest of the appeals also.

The grounds raised by the assessee pertaining to the disallowance of forward cover premium in the impugned year reads as under:

In law and in the facts and circumstances of the case, the learned CIT(A) has erred in holding that forward cover premium of Rs.38,96,97,000/- claimed by appellant is capital expenditure as against revenue expenditure claimed u/s 37(1) of the Act. The CIT(A) ought to have allowed the same as revenue expense.

The facts of the case as stated in the orders of the authorities below, ld. Counsel for the assessee pointed out that the assessee carried on the business of generation of power and during the impugned year it had claimed expenses amounting to Rs. 38,96,97,000/- on account of forward cover premium. The same, he pointed out, was explained to the Assessing Officer (A.O.), were incurred on account of forward contracts for foreign exchange entered into by the assesse company to mitigate any foreign currency exposure arising out of fluctuation in foreign currency rate. The foreign exchange ,he stated was required for repayment of foreign currency loan taken by way of external commercial borrowings to develop its various projects in the renewal energy sector being carried out at various locations. He contended that it was pointed out to the authorities below that the claim of the said premium as revenue in nature was in accordance with prescribed norms, i.e (i) it was in accordance with the Accounting Standards issued by the Institute of Chartered Accountants of India (ICAI), (AS-11) in this regard. (ii) it was in accordance with the Income Computation and Disclosures Standards (ICDS) recommended by the Act for computing income from business and profession under the Income Tax Act. (iii) was in accordance with various decisions of the Hon’ble High Courts and the ITAT.

He contended that the Revenue authorities, however found no merit in the contention of the assessee stating that the neither the Accounting Standards nor the ICDS prescribed claiming the premium paid for forward exchange contracts to the Profit and Loss account. And further noting that the premium paid was in relation to foreign currency loan taken for execution of projects it was capital in nature .

Ld. Counsel for the assessee reiterated his contentions before us stating that the claim of premium paid on foreign exchange contracts was in accordance with the Accounting Standards issued by the ICAI in this regard and as per the decision of the Hon’ble Apex Court in the case of CIT- VI vs. Virtual Soft Systems Ltd. [2018] 404 ITR 409 holding that where there was no specific bar in the Act regarding application of Accounting Standards prescribed by the ICAI, deduction on the basis of these Accounting Standards was to be allowed. He further reiterated that the claim was in accordance with the accounting standard prescribed by the Act in ICDS issued.

Observation by the court

The court have heard both the parties. The claim in dispute before us relates to premium paid on foreign exchange forward contracts entered into by the assessee amounting in all to Rs.38,96,97,000/- .The claim is vis a vis the amortized portion of the forward cover premium, which fact is noted of the assessment order. These foreign exchange forward contracts were entered for the purposes of repayment of foreign exchange loan/external commercial borrowing taken by the assessee for its projects in the renewal energy business, which fact is not disputed . Having outlined the facts as above we shall now proceed to adjudicate the issue. The contention of the assessee is that the claim is in accordance with Accounting Standard AS-11 issued by the ICAI in this regard and in the absence of any bar in the Act regarding the applicability of the Accounting Standard, the treatment as per Accounting Standard is applicable.

The Revenue on the other hand contradicts the contention of the assessee that the claim is in accordance with AS-11,stating that the standard does not specifically provide for writing off the premium in the Profit and Loss account and only speaks of amortizing the premium over the life of the asset . And the premium being paid for capital purposes could not be allowed as Revenue expenditure. The court have gone through the contents of AS-11.The said Accounting Standard is titled “ Effects of changes in foreign exchange rates” and deals with different issues in accounting for foreign currency transactions and foreign operations relating to which exchange rate to use and how to recognize in the financial statements the financial effect of changes in foreign exchange rate.

A bare perusal of the above reveals that AS-11 prescribes how the effects of changes in foreign exchange rate is to be accounted for on transactions undertaken in foreign currency or in foreign country. One of the effects dealt with the standard relates to premium paid on foreign exchange cover. Thus with respect to the issue before us ,undoubtedly it is AS-11 which prescribes the method of accounting for the same and it recommends the premium paid on foreign exchange forward contracts to be amortized as expense or income over the life of the contracts. The term expense has been used in juxtaposition with income and its meaning has to be derived in conjunction and consonance with the term “income”, which undoubtedly is revenue receipts. There is no doubt therefore that the recommendation by AS-11 of writing off the premium on forward exchange contracts as expense means writing it off as revenue expenditure in the profit and loss account. The language of the Accounting Standard is very clear when it recommends amortizing the premium as expense or income. The manner of writing off recommended by the Standard, i.e” expense or income” itself makes it very clear that it is to be written off in the Profit and Loss account where all expenses and incomes are recorded. The claim of the assessee therefore clearly is in accordance with AS-11 of the ICAI.

Having said so, for allowability of the claim as per AS-11,it is pertinent to see whether there is any bar to the applicability of the same in the Act. In other words it is to be seen whether the Act prescribes any specific treatment for the said premium which is to be followed if so prescribed and in the absence of same, the claim is to be allowed as prescribed by the Accounting Standard. The Hon’ble Apex Court in the case of Virtual Soft Systems Ltd. (supra) has laid down the proposition that where there is no express bar in Act regarding the application of a Accounting Standard prescribed by ICAI, deductions /claims of assesses are to be determined on the basis of these accounting standards.

The Act, under section 43A, prescribes the adjustments on account of foreign exchange fluctuations to be made to the cost of fixed assets purchased outside India which requires payment to be made in foreign exchange. Explanation 3 to the said section requires cost of such assets to be computed with reference to the rate agreed in the foreign exchange forward contracts if any entered.

The said section, the court find is not applicable to the facts of the present case since it is not the case of the Revenue that the foreign exchange loan has been taken for purchasing any asset outside the country.

No other section dealing with the allowability of premium paid on forward contracts has been pointed out by the Ld.DR before us. Therefore as per the decision of the Hon’ble apex court in the case of Virtual Soft(supra), the accounting prescribed by AS-11 will apply, according to which the premium/discount on forward exchange contracts is to be amortized as expense/income.

The reliance by the Ld.DR/Ld.CIT(A) on the decision of the Bangalore Bench of the ITAT in the case of Archidply Industrial Ltd vs DCIT (supra) for the proposition that the loan having been taken for meeting capital obligations ,the premium paid for forward cover also is to be treated as capital in nature, we find is of no assistance to the assessee since the Visakhapatnam Bench of the ITAT in the case of Maddi Lakshmi(supra) held that for determining whether devaluation loss is Revenue or capital ,the object for which the currency is obtained is not relevant and what is relevant is the utilization of the amount at the time of devaluation.

In view of the above, the court hold that the assessee is entitled to claim the amortization of premium paid on foreign exchange contracts amounting to Rs. 38,96,97,000/-.