Assessee's mark to market losses on unrealized foreign exchange forward contracts allowed as ordinary business loss

ITAT Delhi allowed assessee's claim for mark to market losses on unrealized foreign exchange forward contracts. AO had disallowed the losses treating them as contingent and notional in nature since contracts had not crystallized. ITAT held that such losses are not notional or contingent but crystallize at year-end despite contracts continuing into next year. Decision supported by SC precedent in Woodward Governor India case and coordinate bench decisions. ITAT noted assessee's consistent accounting treatment, offering corresponding gains in subsequent year for taxation per ICAI standards. Loss treated as ordinary business loss, not provisional. CIT(A)'s order allowing the deduction was upheld.

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Issues Involved:
1. Disallowance of unrealized foreign exchange forward contract losses amounting to Rs. 161.37 lakhs, treating it as contingent in nature.

Summary:

Issue 1: Disallowance of Unrealized Foreign Exchange Forward Contract Losses

The Revenue filed an appeal against the order of the CIT(A) which allowed the assessee's claim of foreign exchange fluctuation losses amounting to Rs. 161.37 lakhs. The Assessing Officer (AO) had disallowed these losses, treating them as contingent liabilities and notional losses arising from assigning closing rates of foreign exchange on forward contracts that had not matured by the end of the financial year.

The assessee, engaged in software development and IT solutions, argued that these losses were incurred in the ordinary course of business and were recorded in adherence to Accounting Standards issued by ICAI, specifically on a 'mark to market' (MTM) basis. The CIT(A) found merit in the assessee's claim, referencing the jurisdictional High Court's decision in Munjan Showa Ltd. vs DCIT and the Special Bench decision in DCIT vs Bank of Bahrain, which supported the allowance of losses on unmatured derivative contracts.

The Tribunal noted that the issue was covered by multiple judgments favoring the assessee, including the Supreme Court's decision in CIT vs. Woodward Governor India Pvt. Ltd., which held that MTM losses on forward contracts are not notional or contingent but crystallized at the year's end. The Tribunal also observed that the assessee's method was consistent with ICAI's Accounting Standards and that similar gains were offered for taxation in subsequent years.

Consequently, the Tribunal concurred with the CIT(A)'s view that the foreign exchange fluctuation loss is an ordinary business loss and not merely a provisional or notional loss. The appeal by the Revenue was dismissed, affirming the CIT(A)'s decision.

Order was pronounced in the open court on 16.10.2023.

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