2013 (2) TMI 387 - AT - Income Tax

Tribunal Upholds AO's FCCB Investigation | Interest Income Debated | MTM Losses Allowed

The Tribunal held that the AO's investigation into Foreign Currency Convertible Bonds (FCCBs) was proper, rejecting the CIT's demand for further proof ... Jurisdiction power u/s 263 by CIT(A) - No investigation was carried out by the AO to establish the name and address, genuineness and creditworthiness of the actual subscribers to such FCCBs in terms of Section 68 - Held that:- As DR could not bring to notice any statutory requirement or guideline issued by the RBI or any other Government authority fastening obligation on the assessee to maintain a record of the actual subscribers and recording their names instead of DB HK, who actually signed subscription agreement with the assessee the assessee was only required to prove the identity, capacity and creditworthiness of DB HK who subscribed to its full issue of FCCB (some part directly and some part through its own customers), which is not in doubt. The fact that the assessee received the amount of subscription of Bonds from DB HK has not been denied by CIT. The further fact that Global certificate in respect of Bonds was issued in favour of DB HK and upon conversion of such Bonds, some of the shares were issued in favour of DB HK and remaining in favour of other international financial institutions has also not been disputed by the CIT. Thus the assessee adequately discharged the onus cast upon it in terms of section 68. In view of these facts, CIT was not justified in putting obligation on the assessee to prove the identity, capacity and creditworthiness of the actual subscribers, which fact was beyond its reach at the relevant time. There is no reference whatsoever to the non-examination by the AO of the compliance or otherwise of the RBI guidelines in respect of FCCB issues, therefore, held that the CIT was not justified in holding the assessment order to be erroneous and prejudicial to the interests of the Revenue on this issue. Applicability of sections 60 to 63 - Out of the proceeds of the said FCCB funds granting of interest free funds would be deemed to be transfer of an asset and AO failed to club such interest income with the assessee’s total income - Held that:- The question as to whether income earned by the borrower from the interest free loan advanced by the lender be clubbed in the hands of the lender, is definitely debatable and not conclusive. The scope of proceedings u/s 263 is restricted to revising an order which is erroneous and prejudicial to the interests of the Revenue. An order cannot be said to be erroneous when the AO followed one of the legally sustainable view out of the two views available on the point. The CIT can not call an assessment order to be erroneous simply because he is inclined to follow the other legally sustainable view in preference to the one followed by the AO. As decided in Malabar Industrial Co. Ltd. v. CIT [2000 (2) TMI 10 - SUPREME COURT] where two views are possible and the Income-tax Officer has taken one view with which the Commissioner does not agree, it cannot be treated as an erroneous order prejudicial to the interests of the Revenue, unless the view taken by the Income-tax Officer is unsustainable in law. Thus from the above discussion it is axiomatic that no revision can be done on a debatable issue. Thus this point is to be left here by holding that this aspect cannot be taken out from the realm of “debatable issue” and hence there can be no revision of the assessment order on this point.CIT was not justified in holding the assessment order to be erroneous and prejudicial to the interests of the Revenue on this issue. Mark to market losses (MTM) as on the reporting day were notional losses and hence contingent in nature not allowable for set off against the total income & AO was wrong in allowing such set off - Held that:- It is a case of overall gain on derivatives due to change in the market rate as at the end of the year and not that of the loss. Thus it becomes manifest that on this count, the assessee offered for taxation the said sum and did not claim deduction for loss. This fact finds prominence in the impugned order as well. Despite that, the CIT has held that the component of forex loss on derivatives was not eligible for deduction. There is no doubt that the CBDT Instruction provides that no deduction can be allowed on account of forex losses. Such Instruction has been obviously issued after the judgment in the case of Woodward Governor (2009 (4) TMI 4 - SUPREME COURT) and restricts itself to the disallowability of loss on account of currency derivatives. Going by this Instruction, it becomes patent that such forex loss is no more deductible. Thus failure to understand the logic of the view that the forex loss be ignored but the forex gain on derivatives be taxed. Any profit and loss from an item cannot go in the opposite directions. It cannot be accepted that the deduction claimed by the assessee towards loss due to foreign exchange fluctuation in foreign currency transactions in derivatives should be considered as contingent and hence ignored but the gain due to such foreign exchange fluctuations in foreign currency transactions on derivatives should be assessed to tax. Both the loss / gain assume the same character of either contingent or non-contingent. Thus when there is a net gain of Rs.21.89 crores, which the assessee included in its total income, failure to appreciate the reason for charging the gross gain of forex derivatives to tax but ignoring the loss on account of such forex derivatives. As the ultimate net figure on account of forex derivatives in the given facts and circumstances of the case is that of gain which was offered for taxation, it is manifest that the assessment order in accepting said figure of gain as chargeable to tax, cannot be described as prejudicial to the interests of the revenue. CIT was not justified in holding the assessment order to be erroneous and prejudicial to the interests of the Revenue on this issue. Issues Involved:1. Investigation of Foreign Currency Convertible Bonds (FCCBs) under Section 68 of the Income-tax Act, 1961.2. Applicability of Sections 60 to 63 regarding interest income earned by a subsidiary.3. Allowability of Mark to Market (MTM) losses on foreign exchange derivatives.Issue-wise Detailed Analysis:1. Investigation of Foreign Currency Convertible Bonds (FCCBs) under Section 68:The assessee raised funds through FCCBs amounting to USD 1500 million during the assessment year 2007-08. The CIT observed that the AO did not investigate the identity, capacity, and creditworthiness of the actual subscribers to these FCCBs, which is required under Section 68 of the Act. The assessee contended that the FCCBs were subscribed by Lead Managers like Deutsche Bank Hong Kong (DB HK) and JP Morgan Securities Ltd., and the proceeds were received from these entities. The Tribunal found that the assessee had provided sufficient details about the subscribers and the funds received, and that the AO had conducted a proper inquiry. It was held that the CIT was not justified in requiring the assessee to prove the identity, capacity, and creditworthiness of the actual subscribers beyond the Lead Managers, as the assessee had no direct contact with them at the time of issuance of FCCBs. The Tribunal concluded that the AO's acceptance of the assessee's explanation was correct, and the CIT's revision on this issue was not warranted.2. Applicability of Sections 60 to 63 regarding interest income earned by a subsidiary:The CIT held that the interest income earned by the subsidiary (RIIL) on funds given by the assessee should be clubbed with the assessee's income under Sections 60 to 63, as it was a case of transfer of income without the transfer of the asset. The AO had inquired about the utilization of FCCB proceeds and was informed that the funds were temporarily held in banks by RIIL, earning interest. The Tribunal noted that the issue of clubbing interest income under Sections 60 to 63 was debatable and not conclusive. It referred to the decision in ITO v. Nalinbhai M. Shah, where it was held that income earned by family members from interest-free loans cannot be added under Section 60. The Tribunal concluded that since the issue was debatable and the AO had taken a legally sustainable view, the CIT's revision on this point was not justified.3. Allowability of Mark to Market (MTM) losses on foreign exchange derivatives:The CIT observed that the MTM losses on foreign exchange derivatives claimed by the assessee were notional and contingent, and hence not allowable for set-off against taxable income. The AO had examined the financial charges, including the foreign currency exchange fluctuation loss/gain. The Tribunal referred to the Supreme Court decision in CIT v. Woodward Governor India (P.) Ltd., which allowed deduction of unrealized losses due to foreign exchange fluctuations as of the balance sheet date. It was noted that the assessee had shown a net gain on derivatives, which was offered for taxation. The Tribunal held that if the loss on forex derivatives is considered contingent and not deductible, the gain should also be treated as contingent and not taxable. Since the assessee had offered the net gain for taxation, the assessment order was not prejudicial to the interests of the revenue. The CIT's revision on this issue was thus not upheld.Conclusion:The Tribunal found that the AO had conducted proper inquiries and taken a legally sustainable view on all three issues. The CIT's revision of the assessment order under Section 263 was not justified, as the assessment order was neither erroneous nor prejudicial to the interests of the revenue. The appeal was allowed, and the CIT's order was set aside.