ITAT allows exchange difference on FCNR loans conversion as revenue expenditure

The ITAT allowed the appeal of the assessee, holding that the exchange difference due to the conversion of FCNR loans into INR loans is a revenue expenditure allowable under section 37 of the Act. The provisions of section 43A were deemed not applicable as the assets were purchased domestically, and the nature of the expenditure was considered revenue, not capital. The appeal was pronounced in favor of the assessee on 9th August 2019.

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Issues Involved:
1. Allowability of finance cost due to conversion of FCNRB loan to INR loan.
2. Applicability of Section 43A of the Income Tax Act.
3. Nature of expenditure as capital or revenue.

Detailed Analysis:

1. Allowability of Finance Cost Due to Conversion of FCNRB Loan to INR Loan:
The assessee company, engaged in manufacturing paper products, filed a return declaring a loss for AY 2012-13. During scrutiny, the AO noted a significant increase in finance costs due to the conversion of FCNRB loans into INR loans, resulting in an additional liability of Rs. 1,55,95,941/-. The assessee argued that this amount should be considered as finance charges and allowable under section 36(1)(iii) of the Act, citing Accounting Standards AS-11 and AS-16, which mandate charging exchange differences on forward contracts to the Profit and Loss account. The AO, however, treated this as a capital loss, arguing that the conversion resulted in an enhancement of the principal loan amount, which is capital in nature and not allowable as revenue expenditure.

2. Applicability of Section 43A of the Income Tax Act:
The CIT(A) upheld the AO's decision, stating that section 43A, which deals with adjustments to the cost of assets due to changes in exchange rates, was not applicable because the assets involved were not imported but purchased domestically. The CIT(A) referenced judicial precedents, including the Supreme Court's decision in Tata Iron & Steel Co. Ltd. and Sutlej Cotton Mills Ltd., emphasizing that losses related to capital assets are not allowable as revenue expenditure.

3. Nature of Expenditure as Capital or Revenue:
The assessee contended that the conversion of the loan was a business decision aimed at availing interest benefits and should be treated as a revenue expenditure under section 37 of the Act. The ITAT examined whether the exchange difference due to the conversion of FCNR loans into INR loans could be considered a business expenditure. The ITAT noted that the original term loan was availed in INR and converted into FCNR to benefit from lower interest rates, with the assessee fully aware of the exposure to currency fluctuations. The ITAT concluded that the exchange difference incurred due to the conversion should be treated as a business expenditure, falling within the ambit of section 37 of the Act, as it was a result of a business decision and did not impact the capital value of the assets acquired in Indian currency.

Conclusion:
The ITAT allowed the appeal of the assessee, holding that the exchange difference due to the conversion of FCNR loans into INR loans is a revenue expenditure allowable under section 37 of the Act. The provisions of section 43A were deemed not applicable as the assets were purchased domestically, and the nature of the expenditure was considered revenue, not capital. The appeal was pronounced in favor of the assessee on 9th August 2019.

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