Forex fluctuation on deferred machinery instalments not revenue expense; added to actual cost for depreciation u/s 43A

HC held that additional liability arising from foreign exchange fluctuation on deferred instalments for imported machinery does not constitute revenue expenditure, following SC precedent. Applying section 43A, HC ruled that the increased liability, computed with reference to the outstanding foreign currency loan at year-end, must be added to the actual cost of the machinery for depreciation purposes. Consequently, the Tribunal's view that such sums did not form part of the machinery's cost was set aside. The first question was answered in favour of Revenue (not revenue expenditure), while the substantive question on capitalization was answered in favour of assessee, directing inclusion in actual cost under section 43A.

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Issues Involved:
The judgment addresses two main issues raised under a reference u/s 256(1) of the Income-tax Act, 1961:
1. Whether the exchange difference on account of fluctuation in foreign exchange rate for machinery imported under deferred payment scheme constitutes revenue expenditureRs.
2. Whether the sums representing additional cost of machinery due to exchange fluctuations should be added to the actual cost for depreciation purposesRs.

Issue 1 - Exchange Difference as Revenue Expenditure:
The assessee, a public limited company, imported machinery from Germany under a loan, with the rupee value changing due to foreign exchange rate fluctuations. The Income-tax Officer disallowed the claim for deduction of exchange difference as revenue expenditure, deeming it capital in nature. The Commissioner of Income-tax (Appeals) allowed the claim, but the Tribunal reversed it, considering the loss as capital expenditure. The High Court, following the decision in Sutlej Cotton Mills Ltd. v. CIT [1979] 116 ITR 1, affirmed that such exchange differences do not constitute revenue expenditure.

Issue 2 - Additional Cost of Machinery for Depreciation:
The dispute in question 2 revolves around whether the additional liability due to exchange fluctuations on the outstanding loan amount should be added to the actual cost of machinery for depreciation calculation. The assessee argued that the entire increase in liability should be considered, citing section 43A of the Income-tax Act, 1961. The Court agreed, emphasizing that section 43A mandates the adjustment of increased liability due to exchange rate changes to the actual cost of the asset. Referring to the Supreme Court's interpretation in Arvind Mills Ltd. [1992] 193 ITR 255, the Court held that the sums in question should indeed be added to the cost of acquisition for depreciation purposes.

In conclusion, the High Court ruled in favor of the Revenue for Issue 1, affirming that exchange differences do not constitute revenue expenditure. However, for Issue 2, the Court sided with the assessee, directing that the additional sums due to exchange rate fluctuations be added to the cost of machinery for depreciation calculation, in accordance with section 43A of the Income-tax Act, 1961.

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