Export-linked foreign exchange hedge losses are business losses, not speculative losses, when forward contracts are incidental to export activity.

A foreign exchange forward contract entered into by an exporter as a hedge against exchange fluctuation risk, and linked to actual export orders, is treated as incidental to the regular course of business rather than a speculative transaction under section 43(5). Where the assessee is not a dealer in foreign exchange and the cancellation payment arises from failed hedge contracts booked for export business, the resulting loss is allowable as a business loss and not a speculative loss. The text states that the loss was correctly characterised as business loss in favour of the assessee.

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Issues: Whether loss arising from cancellation of foreign exchange forward contracts entered into by an exporter to hedge export orders was a business loss or a speculative loss under section 43(5).

Analysis: The assessee was not a dealer in foreign exchange but an exporter of cotton, and the forward contracts were booked with banks only as an incident of its export business to guard against exchange fluctuation risk. The contracts were entered into in relation to export orders and were found by the Tribunal to be incidental to the regular course of business. On these facts, the payment made on cancellation of failed forward contracts did not constitute a speculative transaction, and the loss was allowable as a business loss.

Conclusion: The loss of Rs. 13.50 lakhs was rightly treated as a business loss and not a speculative loss, and the finding was in favour of the assessee.

Ratio Decidendi: A foreign exchange forward contract entered into by an exporter as a hedge incidental to its export business is not a speculative transaction if it is not entered into by a dealer in foreign exchange and is linked to actual export activity.

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