Supreme Court clarifies revenue expenditure deduction for exchange fluctuation losses in finance business: Wipro Finance Ltd. vs. Commissioner of Income Tax (2022) INSC 387 (12 April 2022)

Introduction

Date of the Judgment: 12 April 2022

Citation: (2022) INSC 387

Judges: A.M. Khanwilkar, Abhay S. Oka, C.T. Ravikumar

Can a company claim tax deductions for losses incurred due to changes in foreign exchange rates when repaying loans used for its business? The Supreme Court of India recently addressed this question in a case involving Wipro Finance Ltd. The core issue was whether such losses should be treated as revenue expenditure, which is deductible, or capital expenditure, which is not. This judgment clarifies the treatment of exchange fluctuation losses in the context of business operations. The bench was composed of Justices A.M. Khanwilkar, Abhay S. Oka, and C.T. Ravikumar, with the judgment authored by Justice A.M. Khanwilkar.

Case Background

Wipro Finance Ltd. (the appellant) entered into a loan agreement with Commonwealth Development Corporation (CDC) in the United Kingdom to borrow 5 million pounds sterling. The purpose of the loan was to finance the company’s primary business of leasing and hire-purchasing capital equipment to Indian enterprises. The loan was in foreign currency. When repaying the loan, due to fluctuations in the exchange rate, Wipro Finance had to pay a higher amount than initially borrowed, resulting in a loss of Rs. 1,10,53,909. The appellant had initially treated a portion of this loss as capital expenditure and the rest as revenue expenditure in its income tax returns for the assessment year 1997-1998.

Timeline

Course of Proceedings

Initially, the Assessing Officer did not accept the loss claimed by Wipro Finance due to exchange fluctuation and instead assessed a positive taxable income. Wipro Finance appealed this decision to the Commissioner of Income Tax (Appeals) [CIT(A)], which was unsuccessful. Subsequently, Wipro Finance appealed to the Income Tax Appellate Tribunal (ITAT). Before the ITAT, Wipro Finance not only reiterated its claim for the exchange fluctuation loss of Rs. 1,10,53,909 but also made a fresh claim for Rs. 2,46,04,418, which it had erroneously capitalized as revenue expenses. The ITAT entertained this fresh claim, citing the Supreme Court’s decision in National Thermal Power Co. Ltd. vs. Commissioner of Income Tax [(1997) 7 SCC 489], which allows for such claims under Section 254 of the Income Tax Act, 1961. The ITAT ruled in favor of Wipro, holding that the exchange fluctuation loss was revenue expenditure and an allowable deduction. The department then appealed to the High Court of Karnataka, which reversed the ITAT’s decision, stating that the ITAT had not provided sufficient reasons for its conclusion.

Legal Framework

The case primarily revolves around the interpretation and application of Section 37 of the Income Tax Act, 1961, which deals with the deduction of expenses.

• Section 37 of the Income Tax Act, 1961: This section allows for the deduction of any expenditure (not being capital expenditure or personal expenses) laid out or expended wholly and exclusively for the purposes of the business or profession.
  “Section 37 of the Act as the same is incurred wholly and exclusively for the purposes of business.”
• Section 143(1)(a) of the Income Tax Act, 1961: This section deals with the processing of income tax returns.
  “After processing the return under Section 143(1)(a) of the Income Tax Act, 1961”
• Section 254 of the Income Tax Act, 1961: This section deals with the powers of the ITAT in disposing of appeals.
  “in exercise of powers under Section 254 of the 1961 Act.”
• Section 43A of the Income Tax Act, 1961: This section deals with the treatment of exchange fluctuations in the context of assets acquired from outside India.
  “regarding application of Section 43A of the 1961 Act.”

Arguments

Appellant (Wipro Finance Ltd.) Arguments:

• The loan obtained from CDC was for the purpose of its regular finance business, specifically for financing the acquisition of plant, machinery, and equipment by Indian enterprises.
  “the funds borrowed were utilised for the purposes of regular finance business carried on by the assessee.”
• The exchange fluctuation loss is directly related to the business operations and should be considered a revenue expenditure under Section 37 of the Income Tax Act, 1961.
  “the exchange fluctuation loss is an expenditure incidental to carrying on of business and comes within the purview of section 37 of the Act”
• The loss was not contingent in nature, as it was quantified as per Rule 115 of the Income Tax Rules and was a real liability as per the loan agreement.
  “the loss on account of foreign exchange fluctuation has been quantified in terms of rule 115 of IT Rules and further the liability is real as per terms of the agreement with CDC.”
• The ITAT was correct in allowing the fresh claim of Rs. 2,46,04,418 as revenue expenditure, relying on the Supreme Court’s decision in National Thermal Power Co. Ltd. vs. Commissioner of Income Tax [(1997) 7 SCC 489].
• The appellant relied on the decisions in India Cements Ltd. vs. Commissioner of Income Tax, Madras [AIR 1966 SC 1053] and Empire Jute Co. Ltd. vs. Commissioner of Income Tax [(1980) 4 SCC 25] to support its claim that the exchange fluctuation loss should be treated as revenue expenditure.

Respondent (Commissioner of Income Tax) Arguments:

• Wipro Finance had initially treated part of the exchange fluctuation loss as capital expenditure in its returns, and it was not permissible to claim the entire amount as revenue expenditure for the first time before the ITAT.
• The ITAT should not have entertained the fresh claim of Rs. 2,46,04,418, as it was inconsistent with the original returns.
• The department relied on the decision in Goetze (India) Ltd. vs. Commissioner of Income Tax [2006] 284 ITR 323 to argue that fresh claims cannot be entertained by the ITAT.
• The department also relied on the decision in Assistant Commissioner of Income Tax, Vadodara vs. Elecon Engineering Company Limited [(2010) 4 SCC 482], concerning the application of Section 43A of the Income Tax Act, 1961.

Issues Framed by the Supreme Court

The Supreme Court considered the following issues:

1. Whether the Income Tax Appellate Tribunal (ITAT) was justified in deleting the disallowance of the claim of Rs. 1,10,53,509 for the assessment year 1997-98 in respect of exchange fluctuation made by the Assessing Officer?
2. Whether the ITAT was justified in allowing the additional claim of Rs. 2,46,04,418 for the assessment year 1997-98, holding that the capitalization of the said sum is to be treated as revenue expenses?

Treatment of the Issue by the Court

The following table demonstrates how the Court decided the issues:

Authorities

The Supreme Court considered the following authorities:

The Court also considered the following legal provisions:

• Section 37 of the Income Tax Act, 1961: Allows deduction for expenses incurred wholly and exclusively for business purposes.
• Section 254 of the Income Tax Act, 1961: Grants the ITAT plenary powers to entertain fresh claims.

Judgment

The Supreme Court held that the ITAT was correct in allowing Wipro Finance’s claim for deduction of the exchange fluctuation loss and the fresh claim of Rs. 2,46,04,418 as revenue expenditure.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the fact that the loan was obtained for the purpose of the appellant’s finance business and the exchange fluctuation loss was directly related to its business operations. The court emphasized that the expenditure was not for the creation of an asset but for facilitating business activities. The court also noted that the ITAT had the power to entertain fresh claims under Section 254 of the Income Tax Act, 1961, and that the department had not raised any objections to the fresh claim before the ITAT.

Fact:Law Ratio:

The court considered alternative interpretations, such as the loss being a capital expenditure, but rejected them because the loan was not used to create an asset. The court also considered the argument that the ITAT could not entertain a fresh claim but rejected it based on the powers granted to the ITAT under Section 254 of the Income Tax Act, 1961.

The court held that the exchange fluctuation loss was a revenue expenditure and an allowable deduction under Section 37 of the Income Tax Act, 1961.

“the loan is wholly and exclusively used for the purpose of business of financing the existing Indian enterprises”

“the ITAT was right in answering the claim of the appellant in the affirmative, relaying on the dictum of this Court in India Cements Ltd. vs. Commissioner of Income Tax, Madras”

“the observations in the decision in Goetze (India) Ltd. itself make it amply clear that such limitation would apply to the “assessing authority”, but not impinge upon the plenary powers of the ITAT bestowed under Section 254 of the Act.”

There were no dissenting opinions in this case.

Key Takeaways

• Exchange fluctuation losses on foreign currency loans used for business purposes are considered revenue expenditure and are deductible under Section 37 of the Income Tax Act, 1961.
• The Income Tax Appellate Tribunal (ITAT) has the power to entertain fresh claims under Section 254 of the Income Tax Act, 1961, even if they are inconsistent with the original returns.
• The limitations on assessing authorities do not apply to the ITAT.
• The nature of the expenditure is determined by the purpose for which the loan was used and not by whether it results in an enduring benefit.

This judgment clarifies the treatment of exchange fluctuation losses in the context of business operations and provides guidance on the powers of the ITAT. It also emphasizes that the focus should be on the purpose of the expenditure rather than its nature.

Directions

The Supreme Court directed that the final assessment order passed by the Assessing Officer should be amended to reflect that the entire claim of Rs. 3,56,57,727 is to be treated as revenue expenditure. Additionally, consequential benefits such as depreciation availed by the appellant in relation to the amount towards exchange fluctuation related to leased assets capitalized (Rs. 2,46,04,418) are to be treated as unavailable.

Specific Amendments Analysis

There was no specific amendment discussed in the judgment.

Development of Law

The ratio decidendi of this case is that exchange fluctuation losses on foreign currency loans used for business purposes are considered revenue expenditure and are deductible under Section 37 of the Income Tax Act, 1961. This judgment reinforces the principle that the purpose of the expenditure is paramount in determining its nature. It also clarifies that the ITAT has broad powers to entertain fresh claims under Section 254 of the Income Tax Act, 1961, and that the limitations on assessing authorities do not apply to the ITAT. There is no change in the previous position of law but an affirmation of the existing principles.

Conclusion

The Supreme Court allowed the appeal of Wipro Finance Ltd., setting aside the High Court’s decision and restoring the ITAT’s order. The court held that the exchange fluctuation loss was a revenue expenditure and an allowable deduction. The court also clarified that the ITAT has the power to entertain fresh claims under Section 254 of the Income Tax Act, 1961. This judgment provides important guidance on the treatment of exchange fluctuation losses and the powers of the ITAT.

Category

Parent Category: Income Tax Act, 1961

Child Categories:

• Section 37, Income Tax Act, 1961
• Section 254, Income Tax Act, 1961
• Revenue Expenditure
• Capital Expenditure
• Exchange Fluctuation Loss
• Income Tax Appellate Tribunal (ITAT)
• Business Expenditure

FAQ

Q: What is the main issue in the Wipro Finance case?

A: The main issue was whether losses incurred due to exchange rate fluctuations on foreign currency loans used for business purposes should be treated as revenue expenditure, which is tax-deductible, or capital expenditure, which is not.

Q: What did the Supreme Court decide about exchange fluctuation losses?

A: The Supreme Court decided that exchange fluctuation losses on foreign currency loans used for business purposes are considered revenue expenditure and are deductible under Section 37 of the Income Tax Act, 1961.

Q: Can the Income Tax Appellate Tribunal (ITAT) entertain fresh claims?

A: Yes, the Supreme Court clarified that the ITAT has the power to entertain fresh claims under Section 254 of the Income Tax Act, 1961, even if they are inconsistent with the original returns.

Q: What is the significance of this judgment for businesses?

A: This judgment provides clarity for businesses that take foreign currency loans for business purposes. It confirms that losses due to exchange rate fluctuations are deductible as revenue expenditure, reducing their tax liability.

Q: What does the term ‘revenue expenditure’ mean in this context?

A: Revenue expenditure refers to expenses incurred for the day-to-day operations of a business, which are deductible from the taxable income. In this case, the exchange fluctuation loss was considered a part of the cost of doing business and hence a revenue expenditure.