Tribunal overturns revision order, supports assessee's treatment of foreign exchange differences as revenue items

The Tribunal allowed the appeal, setting aside the revision order passed by the PCIT. It held that the assessee's method of accounting for foreign exchange differences was consistent and accepted, and such differences should be treated as revenue items rather than part of the closing stock cost. The Tribunal found no basis for the revision order and ruled in favor of the assessee.

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Issues Involved:
1. Legality of the revision order passed by PCIT under section 263 of the Income Tax Act.
2. Erroneous and prejudicial nature of the assessment order to the interests of the revenue.
3. Under-valuation of closing stock due to non-inclusion of foreign exchange fluctuation cost.

Issue-wise Detailed Analysis:

1. Legality of the Revision Order Passed by PCIT:
The assessee challenged the legality of the revision order passed by the Principal Commissioner of Income Tax (PCIT) under section 263 of the Income Tax Act, 1961. The PCIT revised the assessment order on the grounds that the Assessing Officer (AO) did not consider the foreign exchange fluctuation cost while valuing the closing stock of rough and polished diamonds. The Tribunal examined whether the PCIT had the authority to revise the assessment order and concluded that the revision was conducted without a proper basis. The Tribunal found that the assessee consistently followed an accepted method of accounting for valuing the opening and closing stock, which did not include foreign exchange differences as part of the cost of goods.

2. Erroneous and Prejudicial Nature of the Assessment Order:
The PCIT deemed the assessment order erroneous and prejudicial to the interests of the revenue because the AO failed to include the foreign exchange fluctuation cost in the valuation of the closing stock. The PCIT referred to the decision of the Delhi Tribunal in West Falia Separator India Pvt. Ltd. vs. ACIT, which held that forex gain or loss on trading transactions is part of the price import or value of export transactions. The Tribunal, however, noted that the assessee's method of valuing stock at cost or realizable value, whichever is lower, was consistently followed and accepted. The Tribunal cited the Supreme Court's decision in Woodward Governor India P. Ltd., which stated that foreign exchange differences should be recognized as income or expense in the period they arise, and not necessarily included in the cost of stock.

3. Under-valuation of Closing Stock:
The PCIT's revision order was based on the observation that the assessee undervalued its closing stock by not including the foreign exchange fluctuation cost. The Tribunal analyzed the method employed by the assessee, which valued rough diamonds at cost and polished diamonds at estimated cost or realizable value, whichever was lower. The Tribunal found that the foreign exchange fluctuation loss is a revenue outflow and not an item of cost, and thus, should not be added to the cost of inventory. The Tribunal referred to Accounting Standard AS-11 and AS-2, which support the treatment of foreign exchange differences as income or expense rather than part of inventory cost. Consequently, the Tribunal concluded that the foreign exchange fluctuation loss should not be included in the valuation of closing stock.

Conclusion:
The Tribunal allowed the appeal of the assessee, setting aside the revision order passed by the PCIT. The Tribunal held that the assessee's method of accounting for foreign exchange differences was consistent and accepted, and that such differences should be treated as revenue items rather than part of the cost of closing stock. The Tribunal found no basis for the PCIT's revision order and ruled in favor of the assessee. The appeal was pronounced in the open court on 03.06.2019.

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