Remittance to be received with in 6 months from End of the year-Sec-10A

MORGAN STANLEY ADVANTAGE SERVICES PVT LTD
MUMBAI

Vs

INCOME TAX OFFICER
15(3)(2), MUMBAI

Remittance not received within six months from the end of the year; the requirement under section 10A(3) is that the export proceeds are received in or brought into India within a period of six months from the end of the previous year and not from the date of export. The condition required under sub-section (3) to section 10A would be satisfied if the remittances had been received by 30th of September 2004.

2. The only ground raised by the assessee in this appeal is against the action of the Revenue authorities in excluding the amount of Rs.2,20 36,235/-from the export turnover in computing the deduction under section 10A of the Income Tax Act, 1961.

3. We have heard the parties and perused the record. The relevant facts briefly stated are that the assessee is engaged in the business of development of software and providing information technology enabled services. The assessee is undisputedly entitled to exemption under section 10A of the Act. The deduction had been claimed by the assessee at Rs.4,33,40,527/-. On perusal of the claim of the assessee, it was found by the Assessing Officer that a sum of Rs.2,20,36,235/- had not been received by the assessee in convertible foreign exchange within six months from the end of the previous year. The Assessing Officer was of the view that the assessee has failed to fulfill the condition under section 10A(3) of the Act, to qualify for exemption in respect of the said turnover. The CIT(A) has affirmed the view of the Assessing Officer.

4. The learned counsel for the assessee contended before us that the assessee had made exports in the previous year and the invoice for the same had been raised on 27th of September 2004. The proceeds had been received by 31st of December 2004, i.e. within the period of six months from the date of raising the invoice. Admittedly, the export proceeds had not been realized within six months from the end of the previous year. It was contended that since the foreign exchange had been remitted within six months from the date of raising of the invoice the condition under section 10A(3) is satisfied. In this connection, our attention was invited to Regulation 9 of the Foreign Exchange Management (Export of Goods and Services) Regulations, 2000, wherein it is specifically provided that the full export value of software exported are required to be realized and repatriated to India within six months from the date of export. It is also provided therein that the date of export in relation to the export of software shall be deemed to be the date of invoice covering such export. It was further contended that there was no requirement of permission of the competent authority before the expiry of six months. The requirement of the section is grant of extension by the competent authority and according to the learned counsel the competent authority in this case was the Standard Chartered Bank, through which the export proceeds have been realized. It was further contended that in any case the assesses had sought formal permission from the Reserve Bank of India and also given reminder for the same as per the evidence placed on record. Reliance has been placed on the decision of the Bombay High Court in the case of Lachman Chaturbhuj Java Vs R G Nitsure and Others, (1981) 132 ITR 631 (Bom) to support the contention, that once the assessee has sought permission, the same is presumed to have been granted if no communication is received Reliance was also placed on the Bangalore Bench decision of the Tribunal in the case of Nous Infosystems Private Ltd Vs ACIT, in ITA Nos 589, 666, 606 & 607/Bang/08 dated 7th of November 2008 =, to support the contention that the Legislature has given the power to the Assessing Officer to allow the benefit of section 10A under section 155(11A) even after completion of the assessment. In case the permission is received subsequently. The learned counsel for the assessee further contended that the Reserve Bank of India had granted blanket permission to the bankers for collection of foreign remittance in respect of exports. Moreover, the assessee had made a request to the Reserve Bank of India for extension of the time. The assessee had been asked to complete certain formalities, which were duly completed. Our attention was also invited to the letter of the Reserve Bank of India dated 25th of April 2007, wherein the realization of the foreign exchange on exports has been confirmed after completion of all the formalities by the assessee.

5. The learned Departmental Representative, on the other hand, contended that the requirement under section 10A(3) is to realise the export proceeds within six months from the end of the previous year or within the extended time by the competent authority. In this case, according to the learned DR, no extension was granted by the competent authority for remittance of the foreign exchange and therefore the Assessing Officer was justified in excluding the turnover from computation of exemption under section 10A of the Act.

6 We have given our careful consideration to the rival contentions. Under section 10A of the Act, the exemption is permissible subject to fulfillment of certain conditions. One of the conditions required to be satisfied for exemption under section 10A is provided under sub-section (3), which is reproduced as under: -
"10A.(1) ........................................................................... ..................................................
(3) This section applies to the undertaking, if the sale proceeds of articles or things or computer software exported out of India are received in, or brought into, India by the assessee in convertible foreign exchange, within a period of six months from the end of the previous year or, within such further period as the competent authority may allow in this behalf.
Explanation 1 - For the purposes of this sub-section, the expression "competent authority" means the Reserve Bank of India or such other authority is authorized under any law for the time being in force for regulating payments and dealings in foreign exchange
Explanation 2 - The sale proceeds referred to in this sub-section shall be deemed to have been received in India where such sale proceeds are credited to a separate account maintained for the purpose by the assessee with any bank outside India with the approval of the Reserve Bank of India.
It is evident from the language of sub-section (3) of section 10A that ordinarily the foreign exchange remittance in respect of the export of computer software should be realized within the period of six months from the end of the previous year. As per Regulation 9 of Export of Goods & Services Regulations, 2000, the amount representing the full export value of the goods or software exported are required to be realized within six months from the date of export. Explanation to the said Regulation provides that the "date of export" in relation to the export of software in other than physical form, should be deemed to be the date of invoice covering such export. The assessee has claimed that the invoice was raised in September 2004. In our considered view, Regulation 9 is of no help to the assessee in so far as the requirement under section 10A(3) is that the export proceeds are received in or brought into India within a period of six months from the end of the previous year and not from the date of export. The condition required under sub-section (3) to section 10A would be satisfied if the remittances had been received by 30th of September 2004. The assessee has admittedly received the export proceeds in December 2004. We therefore hold that the assessee has not realized the export proceeds within the period of six months from the end of the previous year, i.e. from end of March 2004.

7. Therefore, the only question that requires consideration is as to whether the sale proceeds have been realized within the time extended by the competent authority. Explanation 1 to sub-section (3) of section 10A provides that the competent authority would mean the Reserve Bank of India or such other authority as is authorized under any law for the time being in force for regulating payments and dealings in foreign exchange. In our considered view, the Reserve Bank of India is the competent authority for grant of extension in respect of the export proceeds. The mere fact that the bankers are allowed to deal with foreign exchange does not make it to be an authority authorized under any law for the time being in force for regulating payments and dealings in foreign exchange. We therefore hold that for purposes of section 10A(3), the permission of the Reserve Bank of India or any other designated authority is required for extension of time.

8. We, therefore, proceed to consider if the said permission has been obtained in this case or can be deemed to have been granted. There is a letter of the assessee, addressed to the General Manager, Reserve Bank of India, Mumbai Regional Office, Exchange Control Department, Amar Building, Mumbai, dated 7th of October 2004 on record, wherein the assessee has requested the Reserve Bank of India to extend the period stipulated in the Income Tax Act for realization of export proceeds. The assessee had also reminded the Reserve Bank of India vide letter dated 24th of January 2007 in this regard, which is also on record. There is another letter of the assessee, dated 30th of March 2007 addressed to Standard Chartered Bank. Mumbai, on record, informing the bankers that the Reserve Bank of India has informed them that they would need a letter in the attached format from the authorized dealer confirming that the export proceeds wore received in December 2004.

9 From the letter, it is evident that the Reserve Bank of India has extended the time for remittance of foreign exchange under FEMA. So however, there is no formal approval for the purposes of section 10A in the light of the aforementioned Note. In our considered view, the Reserve Bank of India, in response to the request of the assessee to extend the time, having taken the remittances on record, implies that the issuing of a letter extending the time is only a formality. The assessee having applied for extension and having completed all the formalities; and in response the Reserve Bank of India having taken the remittances on record, the non-issue of a formal letter for approval, in our view, cannot be held against the assessee for none of its faults. The assessee having applied for extension and the same having been impliedly granted in substance, the benefit of section 10A has got to be allowed to the assessee on the ground that the extension is deemed to have been granted. Once the assessee has completed all the formalities and the request of the assessee for extension of time not having been rejected, if can be presumed after a reasonable time that the extension has been granted. This view is supported by the decision of the jurisdictional High Court in the case of Lachman Chaturbhuj Java (supra). In the light of the facts of this case, we are of the view that the assessee is entitled to deduction under section 10A even in respect of the remittances of Rs.2,20,36,235/-. The Assessing Officer is directed to recompute the exemption under section 10A accordingly.


10. In the result, the appeal of the assessee is allowed.

Levy of service tax on renting of immovable property as "unconstitutional".

Levy of service tax on renting of immovable property as "unconstitutional"

The Delhi High Court has today struck down the levy of service tax on renting of immovable property as "unconstitutional", while deciding 26 writ petitions of different petitioners, by a combined order. The division bench of the Delhi High Court comprised of Mr. Justice Badar Durrez Ahmed and Mr. Justice Rajiv Shakdher observed that service tax shall not be levied on renting of immovable property.

Alishan Naqvee, Advocate, LexCounsel Law Offices, who represented his clients in two of the petitions disposed off today, tells that the category of "renting of immovable property service" was introduced by the Finance Act of 2007. This, in effect brought renting, letting, leasing, licensing or other similar arrangements of immovable property for use in the course of furtherance of business and commerce, within the service tax net with effect from June 1, 2007. This new levy severely impacted business models across India as most of the rent arrangements did not even stipulate it beforehand.

The businesses across India opted to en masse challenge the constitutionality of levy of service tax on rent, on the primary grounds that renting does not involve any service, and the Central Government is not empowered to tax consideration for transfer of rights in immovable property, being a state subject as per the Constitution of India. Few High Courts, including the High Court of Mumbai, Delhi, Gujarat, Andhra Pradesh, Kolkata and Chennai reportedly granted interim reliefs to the petitioners from payment of service tax until final disposal of their matters. The stays were however granted subject to undertakings by the petitioners, mainly tenants, to deposit the service tax amount with the Government if the tax was ultimately held constitutional. The Delhi High Court however is the first High Court to deliver the final order in the matter that would have persuasive value for the other High Courts

Judgement:

1. In this batch of writ petitions the legality, validity and vires of notification no. 24/2007 dated 22/05/2007 and circular no. 98/1/2008-ST dated 04/01/2008 issued by the Secretary, Ministry of Finance, Department of Revenue, Government of India, New Delhi is challenged. It is alleged that by virtue of the said notification and circular a completely erroneous interpretation is placed on section 65 (90a) and section 65 (105) (zzzz) of the Finance Act, 1994 as amended by the Finance Act, 2007. It is further alleged that because of this incorrect interpretation, service tax is sought to be levied on the renting of immovable property as opposed to service tax on a service provided "in relation to the renting of immovable property".

2. In essence, the petitioners have raised the question as to whether the Finance Act, 1994 (hereinafter referred to as the said Act) envisages the levy of service tax on letting out / renting out of immovable property per se According to the petitioners, who are either landlords or tenants in respect of leased premises, no such tax is envisaged under the said act. Consequently, the said notification dated 22/05/2007 and the said circular dated 04/01/2008 are sought to be set aside as being ultra vires the said act.

3. Alternatively, the petitioners have taken the plea that in case it is held that such a tax is envisaged then the provisions of section 65(90a), section 65(105)(zzzz) and section 66 insofar as they relate to the levy of service tax on renting of immovable property would amount to a tax on land and would therefore fall outside the legislative competence of Parliament inasmuch as the said subject is covered under Entry 49 of List II of the Constitution of India and would fall within the exclusive domain of the state legislature. As such, the said provisions would have to be declared as un-constitutional.

4. The said notification dated 22/05/2007 is an exemption notification purportedly issued in exercise of the power conferred by sub-section (1) of section 93 of the Finance Act, 1994. By virtue of the said notification, the central government exempted the "taxable service of renting of immovable property", referred to in sub-clause (zzzz) of clause (105) of section 65 of the Finance act, from so much of the service tax levy as was in excess of the service tax calculated on a value which is equivalent to the gross amount charged for renting of such immovable property less taxes on such property, namely property tax levied or collected by local bodies. An example has also been provided in the said notification by way of illustration. The example is as under:-

"Example:
Property tax paid for April to September = Rs 12,000/-
Rent received for April = Rs 100,000/-
Service tax payable for April = Rs 98,000/-(100,000-12,000) * applicable rate of service tax"

5. It is the contention of the petitioners that though this notification speaks of an exemption it also refers to the "taxable service as a taxable service of renting of immovable property". This, according to the petitioners, is not so provided under the said act. It is contended that section 65(105)(zzzz) refers to the service provided or to be provided to any person, by any other person, in relation to renting of immovable property for use in the course or furtherance of business or commerce. The reference in the said provision is not to the taxable service of renting of immovable property but to the taxable service "in relation to" the renting of immovable property. It is the petitioners contention that while the act does not treat renting of immovable property as a taxable service, the notification proceeds on the basis that the taxable service is the renting of immovable property itself. It is on this basis that it has been contended that service tax is sought to be recovered from the petitioners on a pure misreading of the statutory provision.

6. Similarly, the impugned circular whilst giving a clarification in respect of commercial and industrial construction service has purported to clarify that the "right to use immovable property is leviable to service tax under the renting of immovable property service". Consequently, by the said clarification, the Union of India is seeking to levy service tax on renting of immovable property instead of on services in relation to renting of immovable property. According to the petitioners, the clarification therefore travels beyond the provisions of the said act by contemplating a service tax on the renting of immovable property itself.

7. Before we proceed any further it would be appropriate if the relevant provisions of the said act are pointed out. Chapters V and VA which comprise of sections 64 to 96-I of the Finance act, 1994 pertain to provisions for service tax. Section 65 of the said Act is comprised of definitions. Section 66 provides for the charge of service tax. It stipulates that there shall be levied a service tax at the rate of 12% on the value of the taxable services referred to in, inter alia, sub-clause (zzzz) of clause (105) of section 65 and collected in such manner as may be prescribed. Clause (105) of section 65 of the said act defines taxable service. Sub-clause (zzzz) thereof reads as under:-
"Section 65. Definitions.--in this chapter, unless the context otherwise requires,-
xxxx xxxx xxxx xxxx xxxx
(105) "taxable service" means any service provided or to be provided,-
xxxx xxxx xxxx xxxx xxxx
(zzzz) to any person, by any other person in relation to renting of immovable property for use in the course or furtherance of business or commerce.
Explanation 1. – For the purposes of this sub-clause, "immovable property" includes—
(i) building and part of a building, and the land appurtenant thereto;
(ii) land incidental to the use of such building or part of a building;
(iii) the common or shared areas and facilities relating thereto; and
(iv) in case of a building located in a complex or an industrial estate, all common areas and facilities relating thereto, within such complex or estate,
but does not include--
(a) vacant land solely used for agriculture, aquaculture, farming, forestry, animal husbandry, mining purposes;
(b) vacant land, whether or not having facilities clearly incidental to the use of such vacant land;
(c) land used for educational, sports, circus, entertainment and parking purposes; and
(d) building used solely for residential purposes and buildings used for the purposes of accommodation, including hotels, hostels, boarding houses, holiday accommodation, tents, camping facilities.
Explanation 2. – For the purposes of this sub-clause, any immovable property partly for use in the course or furtherance of business or commerce and partly for residential or any other purposes shall be deemed to be immovable property for use in the course or furtherance of business or commerce;"
The expression "renting of immovable property" has been defined in section 65(90a) as under:-
"(90a) "renting of immovable property" includes the renting, letting, leasing, licensing or other similar arrangements of immovable property for use in the course or furtherance of business or commerce but does not include -
(i) renting of immovable property by a religious body or to a religious body; or
(ii) renting of immovable property to an educational body, imparting skill or knowledge or lessons on any subject or field, other than a commercial training or coaching centre.
Explanation 1. – For the purposes of this clause, "for use in the course or furtherance of business or commerce" includes use of immovable property as factories, office buildings, warehouses, theatres, exhibition halls and multiple-use buildings;
Explanation 2. – For the removal of doubts, it is hereby declared that for the purposes of this clause "renting of immovable property" includes allowing or permitting the use of space in an immovable property, irrespective of the transfer of possession or control of the said immovable property;"

8. Mr. S Ganesh, the learned senior counsel appearing on behalf of the petitioner in writ petition (civil) no. 1659/2008 [Home Solutions Retail India Ltd v. Union of India], submitted that the provisions of the said act do not provide for the levy of service tax on the renting of immovable property as such. It was also contended that the said act does not treat renting out of immovable property as a service. According to him, in terms of section 65(105)(zzzz), service tax is levied only on a service which is provided or to be provided to any person by any other person in relation to renting of immovable property for use in the course or furtherance of business or commerce. It was contended that on a plain reading of this provision, the service provided must be something which is distinct and different from the transaction of renting of immovable property as such though the service would have to be in relation to such renting. If the legislature wanted to treat renting of immovable property as a service, then, nothing would have been easier or simpler for the legislature than to use the words "service by way of renting of immovable property" or "the service of renting of immovable property" or "service consisting of renting of removal property".

9. It was further contended that the said provision indicates that the service will be provided "by any other person" and not only by the owner or lessor or person in possession of the immovable property. Furthermore, the service could be rendered to any person provided it was in relation to the renting of the property and not merely to the person who takes the property on rent. If the renting of property as such constituted a service which could be taxed, then such a service could only be rendered to the person taking the property on rent and not "to any person". According to the learned senior counsel, this clearly indicates that renting of immovable property as such cannot be regarded as a service on which service tax could be levied under the provisions of the said act.

10. Mr. Ganesh also sought to draw a distinction between the provisions of section 65(105)(zzzz) and section 65(88) of the said act. The latter provision has a reference to the service of a real estate agent in relation to the renting of immovable property. It was contended that the language of the two provisions is similar. From this it was sought to be contended that there is a clear indication that the expression "service in relation to the renting of immovable property" means a service which is distinct and different from the renting of property itself although it may be connected with or related to such renting. According to him, these services (which are not covered by other specific clauses of section 65) include air-conditioning service, standby power service, sanitation service, water supply service etc. He also made reference to a circular dated 17/09/2004 issued by the Central board of Excise and Customs which has been extracted at page 17 of the petition in WP(C) no. 1659/2008 [Home Solutions Retail India Ltd v. Union of India] and which apparently states that "the activity of renting premises is not rendering of service".

11. It was therefore submitted that the impugned notification dated 22/05/2007 and the impugned circular dated 04/01/2008 which proceed on the assumption that the renting out of immovable property is by itself a service, are contrary to and inconsistent with the charging provision and are therefore ultra vires the Act and hence bad in law. With reference to the decision in the case of Union of India v. Inter Continental: 2008 (226) ELT 16, the learned counsel submitted that a circular or notification can never rewrite or amend the provisions of the statute.

12. Mr. Ganesh submitted that the judgment of the Supreme Court in the case of All India Federation Of Chartered Accountants v. Union Of India: (2007) 7 SCC 527 = fully supports the case of the petitioner that the service contemplated and covered by section 65(105)(zzzz) is a property-based or property related service, but it must be a service all the same. Reliance was placed on paragraphs 7 and 48 of the said decision. He also referred to the Supreme Court decision in the case of T. N. Kalyana Mandapam Association v. Union of India & Others: (2004) 5 SCC 632 and submitted that the said decision also supports the case of the petitioners. According to him, the said judgment makes it clear that a particular property can be regarded as a Kalayana Mandapam (supra) only if it has all the apparatus, equipment and infrastructure which enables it to be utilised for rendering services for the holding of ceremonial, religious or social functions. It was also submitted by him that the Supreme Court decision in the case of the Doypack Systems Private Limited v. Union of India: (1998) 2 SCC 299 =, which had interpreted the words "in relation to", also contemplated that it applied to a different subject matter as compared to the thing to which it was related. In this backdrop, the learned counsel submitted that the service in relation to the renting of immovable property necessarily has to be a distinct subject matter as compared to the renting out of the property itself. There is no doubt that the words "in relation to" have a wide ambit but that only means that a wide variety of services relating to the renting a property would be covered by the charge of service tax.

13. It was further contended that a bare room in a commercial building could not be considered to be an office unless and until it was fully equipped with equipment and also manned by personnel. It is only then that the renting of such an office or permitting its use would constitute the rendering of a service. Similarly, renting out of a large property does not constitute a service in itself even though the tenant may use it for the purpose of conducting a wedding or other ceremonial function. Referring to the Supreme Court decision in the case of BSNL v. Union of India: (2006) 3 SCC 1 =, the learned counsel submitted that the very same transaction cannot constitute both a transfer of property and also the rendering of a service. Whether the property is granted by way of a lease or licence it is merely a property transaction and cannot possibly be construed as the rendering of a service.

14. The learned counsel appearing for the petitioner in writ petition (civil) number 8554/2008 [Alpha Future Airport Retail (India) Ltd v. Union of India] submitted that his case had an added dimension. He submitted that Delhi International airport Limited has the right to operate duty-free shops in designated areas in the Delhi International airport. The said Delhi International airport Limited has granted a licence to the petitioner to operate the said duty-free shops. The licence agreement is a single indivisible agreement which grants to the petitioner the licence to operate the said duty-free shops and also permits the petitioner to use the space in the said areas. For this purpose, the petitioner pays a composite licence fee to Delhi International airport Limited which is partly a fixed amount and partly a percentage of the gross sale proceeds of the duty-free shops. It is impossible to ascertain what part of it is attributable to the user of the immovable property as distinct from the grant of the licence to operate a duty-free shop. It was submitted that in the very nature of things, the user of the property and the grant of the licence were inseparable because the duty-free shops could not be operated in any place other than the said designated areas in the Delhi International airport. It was submitted that there is no machinery or provision under the said act to determine the amount which is attributable to the user of the property as distinct from the grant of the licence to operate the duty-free shops. Consequently, the charge of service tax would in any event break down. Thus, it was contended, that when the computation was not possible the charge itself would fail. Reliance was placed on the decision of the Supreme Court in Commissioner of Income-tax, Bangalore v. B.C. Srinivasa Shetty: 128 ITR 294 [(1981) 2 SCC 460] =.

15. Dr. Abhishek Singhvi, senior advocate, who appeared for the petitioner in writ petition civil number 4131/2008 [Shoppers Stop Limited v. Union of India], submitted that the expression "in relation to" separates objects from each other. According to him the phrase by itself conceives of two separate things. He submitted that service tax is a value-added tax and therefore only the value addition is liable to be taxed by way of a service tax. He referred to the decision of the Supreme Court in the case of All India Federation of Tax Practitioners (supra). In particular, he referred to paragraph 8 of the said decision which reads as under:-
"8. As stated above, service tax is VAT. Just as excise duty is a tax on value addition on goods, service tax is on value addition by rendition of services. Therefore, for our understanding, broadly "services" fall into two categories, namely, property-based services and performance based services. Property-based services cover service providers such as architects, interior designers, real estate agents, construction services, mandapwallas, etc. Performance-based services are services provided by service providers like stockbrokers, practising chartered accountants, practising cost accountants, security agencies, tour operators, event managers, travel agents, etc."

16. On the strength of these observations, it was contended by Dr. Singhvi that since service tax is a value-added tax and can only be levied on the value addition, the words "in relation to" in section 65 (105) (zzzz) of the said Act are of great significance and importance. The value addition of service in the present context could be an improvement or the betterment of the property provided by the owner to the lessee or licensee. It is that betterment alone which can qualify as a service. The act of renting of the immovable property by itself does not provide any value addition to any person and therefore cannot be treated as a service. According to Dr. Singhvi, the legislature used the words "in relation to" with a clear intent of divorcing the actual renting of the property from the services to be rendered in relation to such renting. Thus, the transaction of renting of immovable property by itself is not taxable under section 65 (105) (zzzz) of the said Act. Consequently, the notification dated 22/05/2007 which purports to tax the entire rent received by a landlord/owner tends to distort the legislative intent made clear through the said Act by means of an administrative interpretation.

17. It was further emphasised by Dr. Singhvi that an examination of the various entries falling within the scope of "taxable service" would reveal that it is only the value addition which is taxable. In the case of a stockbroker, real estate broker, auctioneer, travel agent, etc it is only the commission received by the service provider which is subjected to service tax and not the main transaction of sale or purchase. This by itself clearly indicates that it is only the service rendered by a person to another which is the intangible value addition to the main transaction which is subjected to service tax. Consequently in respect of renting of immovable property also the main transaction of renting of immovable property and the rents paid therefor cannot be subjected to service tax. It is only the value addition by a service relating to renting of immovable property that can be the subject matter of service tax.

18. Mr. Jayant Bhushan who appeared for the petitioners in writ petition civil numbers 7164/2008 and 7212/2008 and Mr. Mittal who appeared for the petitioner in writ petition civil number 7964/2008, reiterated and adopted the arguments of Mr. Ganesh and Dr. Singhvi. Both of them also contended that renting of immovable property by itself did not constitute a service.

19. Mr. P P Malhotra, the learned Additional Solicitor General of India, appearing for the Union of India contended that the user of land/building itself is the service. He referred to the decision of the Supreme Court in the case of All India Federation (supra) and contended that service tax is a value-added tax which in turn is a general tax which applies to all commercial activity involving production of goods and provision of services. He contended that the transfer of the right to use a particular property for a commercial or business purpose was itself the service which was contemplated in section 65 (105) (zzzz) of the said act. According to him, the mere renting of immovable property in itself constituted a service. He submitted that the definition of renting of immovable property in section 65 (90a) was an all inclusive definition. Referring to the decision in Kalyana Mandapam Association (supra), Mr. Malhotra submitted that even if premises were made available for a few hours for the purpose of utilisation as a mandap, whether with or without other services, would itself be a service and could not be classified as any other kind of legal concept. He submitted that merely providing a premises on a temporary basis for organising a financial, social or business function would also include other facilities in relation there to and would therefore constitute a taxable service.

20. In response to the argument that the expression "in relation to renting of immovable property" does not refer to the renting itself but to some other service in relation to the renting of immovable property, Mr. Malhotra submitted that such an argument is demonstrably untenable. For this purpose he referred to section 65 (105) (zt) which defines the service provided or to be provided to any person, by a dry cleaner in relation to dry-cleaning. Here, the service provided in relation to dry-cleaning clearly includes the service of dry-cleaning. Mr. Malhotra then referred to section 65 (105) (zv) which defines the service provided or to be provided to any person, by a fashion designer in relation to fashion designing. Here, too, the service provided in relation to fashion designing includes the service of fashion designing itself. By this analogy, Mr. Malhotra contended that the expression "in relation to renting of immovable property" also covered the act of renting of immovable property. He submitted that the giving of a premises for commercial or business activity was itself a service.

21. He referred to Words and Phrases, permanent edition, volume 38A, page 542 wherein it is noted as under:-
"The term "services" generally includes any act performed for benefit of another under some arrangement or agreement whereby such act must have been performed."
He also drew our attention to page 555 thereof wherein it is written:-
"use of a garage is "service" within rent control regulation."
A reference was also made to the following at page 193:-
"in common usage, a "service" is not property, tangible or otherwise, but, rather, is an act."
Mr. Malhotra also referred to Jowitt's Dictionary of English law, second edition, where service in connection with a landlord-tenant relationship has inter alia been shown to include:-
"certain services were such as were fixed in quantity, as to pay a certain rent, or to plough a field for three days every year;"
From the above references, Mr. Malhotra sought to contend that the use of the property by itself was a service. He contended that letting out the property or permitting another person to use the same as a licensee by itself constituted an act which could be classified as a service.

22. With reference to the Supreme Court decision in Doypack Systems Private Limited (supra), he contended that the expression "in relation to" is used in an expansive sense. It is an expression of expansion and not of contraction. Therefore, the expression "in relation to renting of immovable property" must be given an expansive meaning of the widest amplitude. Consequently, he said that the expression would definitely cover the renting of immovable property itself and not be limited to some service in connection with the renting of immovable property.

23. Our attention was also drawn to the decision of the Supreme Court in the case of Lucknow development authority v. MK Gupta: (1994) 1 SCC 243, wherein at page 254 the following observation is to be found:-
"4. What is the meaning of the word 'service' Does it extend to deficiency in the building of a house or flat Can a complaint be filed under the Act against the statutory authority or a builder or contractor for any deficiency in respect of given property. The answer to all this shall understanding of the word 'service'. The term has variety of meanings. It may mean any benefit or any act resulting in promoting interest or happiness. It may be contractual, professional, public, domestic, legal, statutory etc. The concept of service thus is very wide. How it should be understood and what it means depends in the context in which it has been used in an enactment.” (emphasis supplied)

24. A reference was also made by Mr. Malhotra to the Supreme Court decision in NS Nayak and Sons v. State of Goa: (2003) 6 SCC 56, wherein the court observed:-
"the expression "in relation to" is of the widest import as held by various decision of this court in Doypack Systems Private Limited ..."
"... when the legislature has used the expression "in relation to", a proper meaning has to be given. This expression does not admit of restrictive meaning."

25. On the basis of the foregoing, Mr. Malhotra contended that there is no occasion for any debate after the decision of the Supreme Court in the case of TN Kalyana Mandapam Association (supra) where the mere making available of a mandap with or without other services was itself regarded as a service exigible to service tax under the said act. The said decision also settled any debate about the constitutional validity of service tax. In conclusion, Mr. Malhotra submitted that the writ petitions deserve to be dismissed.

26. In rejoinder, Mr. Ganesh submitted that a mere property transaction cannot be a service. He submitted that even in the T.N. Kalyana Mandapam case it has not been held that a mere property transaction could constitute a service and that too a taxable service under the said act. He submitted that a mandap was not a bare piece of property but property with other furniture, etc. Moreover the service was to be provided by a mandap keeper as defined in section 65 (67) of the said act. The Supreme Court decision itself noted that a mandap keeper provided a bundle of services and it was not the case of a mere permission to use a particular property. The expression with or without other services appearing in paragraph 55 of the said decision does not mean with or without services but has a clear reference to "other services", other than the services provided by a mandap keeper such as catering services.

27. He submitted that whenever the meaning of words in a statute is in question the same has to be seen in the context in which they are used. Reliance was placed upon the Supreme Court decision reported in His Holiness Kesavananda Bharati Sripadagalvaru and Ors. v. State of Kerala and Anr.: (1973) 4 SCC 225 [at page 316]. He submitted that the expression "in relation to" was used in varying contexts in section 65 (105) of the Act itself. For example, in section 65 (105) (zm) there is reference to a service provided or to be provided to any person by a banking company or a financial institution including a nonbanking financial company, or any other body corporate or commercial concern, in relation to banking and other financial services. The expression in relation to clearly refers also to the banking and other financial services. The activity, that is, banking and other financial services, is clearly an unmistakably a service. The service provider is identified and the nature of the service is such that it can be provided by the service provider. But, the renting of immovable property is merely a property transaction. There is no service provider. Section 65 (105) (zzzz) does not specify the service provider. It also does not identify the service receiver. Nor is the nature of the service indicated.

28. Mr. Ganesh referred to other sub-clauses of section 65 (105) which were similar to the sub-clause relating to banking and other financial services. He referred to sub-clauses (zn) which pertained to Port services; (zo) service stations; (zq) beauty treatment; (zr) cargo handling services; and (zs) cable services. He then referred to section 65 (88) which defined a "real estate agent" to mean a person who is engaged in rendering any service in relation to sale, purchase, leasing or renting, of real estate and includes a real estate consultant. He submitted that here the expression "in relation to" did not cover the activity of sale purchase leasing or renting of real estate. It only referred to a service in connection with the activity of sale purchase leasing or renting of real estate. Consequently, the meaning of the expression "in relation to" has changed with the context. Similarly, he referred to section 65 (105) (v) which refers to a service provided or to be provided to any person by a real estate agent in relation to real estate. It is obvious that real estate by itself is not a service and therefore the expression "in relation to" has to be read in a manner where real estate does not constitute the service but there is a reference to some other service having a connection with real estate. Mr. Ganesh finally contended that just as section 65(105)(v) refers to a service in connection with real estate and not to real estate itself as a service, section 65 (105) (zzzz) refers to a service in connection with the renting of immovable property and not to the activity of renting of immovable property itself as a service. This being the clear intention of the legislature, the notification and circular which tend to give a different construction are clearly ultra vires the said act and ought to be set aside.

29. The counsel appearing on both sides have sought to place reliance on T.N. Kalyan Mandapam (supra), All India Federation (supra) and Doypack Systems Pvt Ltd (supra). It would, therefore, be necessary to examine these decisions of the Supreme Court. In T.N. Kalyana Mandapam (supra), the Supreme Court considered the issue of the taxable service provided by a mandap keeper. The said taxable service was earlier indicated under Section 65(41)(p) of the said Act. At present, with minor modifications, the relevant provision is Section 65(105)(m) of the said Act. Earlier, mandap keeper‘ was defined under Section 65(20) and 'mandap' itself was defined under Section 65(19). At present, mandap keeper‘ is defined under Section 65(67) and 'mandap' is defined under Section 65(66). There are only minor changes. As the provisions stood at the time of the decision of the Supreme Court in All India Federation (supra), the taxable service in question was:-
" Any service provided to a client, by a mandap keeper in relation to use of a mandap in any manner, including the facilities provided to the client in relation to such use and also the service, if any, rendered as a caterer";
' Mandap keeper‘ was defined to mean a person who allowed temporary occupation of a mandap for consideration for organising any official, social or business function. Mandap was defined to mean any immovable property as defined in Section 3 of the Transfer of Property Act, 1882 and included any furniture, fixtures, light fittings and floor coverings therein let out for consideration for organizing any official, social or business function. In the context of these provisions, one of the questions that arose before the Supreme Court was whether the tax imposed under the Finance Act on catering services did not amount to a tax on sale and purchase of goods. The Supreme Court held that the taxable service provided as a caterer by a mandap keeper was within the legislative competence of the Parliament and could not be construed as a tax on the sale and purchase of goods. In this context, the Supreme Court observed that it was well-settled that the measure of taxation cannot affect the nature of taxation and, therefore, the fact that service tax is levied as a percentage of the gross charges for catering did not alter or affect the legislative competence of the Parliament in the matter. The Supreme Court then observed as under:-
"47. The legislative competence of Parliament also does not depend upon whether in fact any services are made available by the Mandapmam -Keepers within the definition of taxable service contained in the Finance Act. Whether in the given case taxable services are rendered or not is a matter of interpretation of the statute and for adjudication under the provisions of the statute and does not affect the vires of the legislation and/or the legislative competence of Parliament. In fact, a wide range of services are included in the definition of taxable services as far as Mandapmam -Keepers are concerned. The said definition includes services provided "in relation to use of Mandapmam in any manner" and includes "the facilities provided to the client in relation to such use" and also the services "rendered as a caterer". The phrase "in relation to" has been construed by this Court to be of the widest amplitude. In Doypack Systems Pvt. Ltd. vs. Union of India and Ors.:1988 (2) SCC 299 at p.302, this Court observed as under:
"The expressions 'pertaining to', 'in relation to' and 'arising out of', used in the deeming provision, are used in the expansive sense. The expression 'arising out of' has been used in the sense that it comprises purchase of shares and lands from income arising out of the Kanpur Undertaking. The words "pertaining to" and "in relation to" have the same wide meaning and have been used interchangeably for among other reasons, which may include avoidance of repetition of the same phrase in the same clause or sentence, a method followed in good drafting. The word 'pertain' is synonymous with the word 'relate'. The term 'relate' is also defined as meaning to bring into association or connection with. The expression 'in relation to' (so also 'pertaining to'), is a very broad expression which presupposes another subject matter. These are words of comprehensiveness which might have both a direct significance as well as an indirect significance depending on the context."
The Supreme Court also observed:-
"51. Taxable services, therefore, could include the mere providing of premises on a temporary basis for organizing any official, social or business functions, but would also include other facilities supplied in relation thereto. No distinction from restaurants, hotels etc which provide limited access to property for specific purpose."

30. Furthermore, the Supreme Court emphasized that a tax cannot be struck down on the ground of lack of legislative competence by enquiring whether the definition accords with what the layman‘s view of service is. It noted the well-settled principle that in matters of taxation, the courts permit greater latitude to the statute to pick and choose objects and rates for taxation and has a wide discretion with regard thereto. At this juncture, it may be pointed out that the main challenge in the present petitions is not on the ground of lack of legislative competence, but on the ground that the impugned notification and circular are ultra vires the Act itself. Therefore, the areas of discussion in the T.N. Kalyana Kandapam (supra) and the present case are somewhat different.

31. In the said decision of the Supreme Court, it has also been observed that a levy of service tax on a particular kind of service could not be struck down on the ground that it does not conform to the common understanding of the word "service" so long as it does not transgress any specific restriction contained in the Constitution. But, the scope of discussion in the present case is entirely different. It is the petitioners‘ contention that the intention of the legislature in enacting Section 65(105)(zzzz) was not to tax the activity of renting of immovable property, but only to levy a tax on a service which is provided in relation to renting of immovable property.
32. As noted above, Mr P.P. Malhotra, the learned Additional Solicitor General had placed reliance on the observation of the Supreme Court in T.N. Kalyana Mandapam (supra), which is to the effect that 'making available a premises for a period of a few hours for the specific purpose of being utilized as a mandap whether with or without other services would itself be a service and cannot be classified as any other kind of legal concept'. But, we must not lose sight of the fact that the service provided by a mandap keeper is entirely different in nature to the service, which is in contemplation under Section 65(105)(zzzz). As noted in the Supreme Court decision in T.N. Kalyana Mandapam (supra) itself, the service of a mandap keeper does not involve transfer of movable property nor does it involve a transfer of any immovable property of any kind known to law either under the Transfer of Property Act or otherwise and, therefore, the said activity could only be classified as a service. In the present petitions, we find that there is a transfer of immovable property insofar as those properties are concerned where leases have been executed. Although the right of ownership is not transferred and is retained by the owner, the right of possession certainly gets transferred in the case of a lease. In the case of a licence also, the possession is of the licensee although the nature of such possession is only permissive. Thus, the observations of the Supreme Court in T.N. Kalyana Mandapam (supra) that the utilization of the premises as a mandap by itself would constitute a service would have to be distinguished from the kind of activity that is contemplated under Section 65(105)(zzzz). We are of the view that the case of a mandap and service provided by a mandap keeper would not be applicable to the case of renting of immovable property simpliciter. The Supreme Court in paragraph 56 of the said decision itself makes it clear that mandap keepers provide a wide variety of services apart from the service of allowing temporary occupation of a mandap. A mandap keeper, apart from the proper maintenance of mandap, also provides the necessary paraphernalia for holding official, social or business functions, apart from providing the conditions and ambience which are required by the customer, such as providing the lighting arrangements, furniture and fixtures, floor coverings, etc. The service provided by him, as indicated in the Supreme Court decision, cover the method and manner of decorating and organizing the mandap and the mandap keeper also provides the customer with advice as to what should be the quantum and quality of the services required keeping in view the requirement of the customer, the nature of the event to be solemnized, etc. It is in this context that the Supreme Court observed that the service of a mandap keeper cannot possibly be termed as a hire-purchase agreement or a right to use goods or property. It is obvious that there is a distinction between the services provided by a mandap keeper and the activity of hiring or giving on rent immovable property. The situations are different, the activities are different. The Supreme Court observed that a tax on services rendered by mandap keepers and outdoor caterers is in pith and substance, a tax on services and not a tax on sale of goods or on hire-purchase activities. We feel that this conclusion of the Supreme Court makes the distinction clear between the case of a mandap keeper and that of a person who rents out an immovable property for use in the course or furtherance of business or commerce. Consequently, the Supreme Court decision in the case of Kalyana Mandapam (supra) does not advance the case of the respondents. On the other hand, it does go towards clarifying the stand taken by the petitioners.

33. The next decision which requires consideration is the decision of the Supreme Court in the case of All India Federation of Tax Practitioners (supra). We have already quoted paragraph 8 of the said decision wherein it has been observed that service tax is a value added tax and that just as excise duty is a tax on value addition on goods, services tax is on value addition by rendition of services. A distinction has also been sought to be made between property based services and performance based services. The property based services cover service providers, such as architects, interior designers, real estate agents, construction services, mandap keepers, etc. Whereas the performance based services are those provided by persons, such as stock-brokers, practising chartered accountants, practising cost accountants, security agencies, tour operators, event managers, travel agents etc. The Supreme Court also noted that service tax is a tax on service and not on the service provider.

34. From the above discussion, it is apparent that service tax is a value added tax. It is a tax on value addition provided by a service provider. It is obvious that it must have connection with a service and, there must be some value addition by that service. If there is no value addition, then there is no service. With this in mind, it would be instructive to analyse the provisions of Section 65(105)(zzzz). It has reference to a service provided or to be provided to any person, by any other person in relation to "renting of immovable property for use in the course or furtherance of business or commerce". The wordings of the provision are so structured as to entail – a service provided or to be provided to 'A‘ by 'B‘ in relation to 'C‘. Here, 'A‘ is the recipient of the service, 'B‘ is the service provider and 'C‘ is the subject matter. As pointed out above by Mr Ganesh, the expression 'in relation to' may be of widest amplitude, but it has been used in the said Act as per its context. Sometimes, 'in relation to' would include the subject matter following it and on other occasions it would not. As in the case of the service of dry cleaning, the expression 'in relation to dry cleaning' also has reference to the very service of dry cleaning. On the other hand, the service referred to in Section 65(105)(v), which refers to a service provided by a real estate agent 'in relation to real estate', does not, obviously, include the subject matter as a service. This is so because real estate by itself cannot by any stretch of imagination be regarded as a service. Going back to the structured sentence, i.e.– service provided or to be provided to 'A' by 'B' in relation to 'C', it is obvious that 'C' can either be a service (such as dry cleaning, hair dressing, etc.) or not a service by itself, such as real estate. The expression "in relation to" would, therefore, have different meanings depending on whether 'C' is a service or is not a service. If 'C' is a service, then the expression 'in relation to' means the service 'C' as well as any other service having connection with the service 'C'. Where 'C' is not a service, the expression 'in relation to' would have reference only to some service which has a connection with 'C'. But, this would not imply that 'C' itself is a service.

35. From this analysis, it is clear that we have to understand as to whether renting of immovable property for use in the course or furtherance of business or commerce by itself is a service. There is no dispute that any service connected with the renting of such immovable property would fall within the ambit of Section 65(105)(zzzz) and would be exigible to service tax. The question is whether renting of such immovable property by itself constitutes a service and, thereby, a taxable service. We have already seen that service tax is a value added tax. It is a tax on the value addition provided by some service provider. Insofar as renting of immovable property for use in the course or furtherance of business or commerce is concerned, we are unable to discern any value addition. Consequently, the renting of immovable property for use in the course or furtherance of business of commerce by itself does not entail any value addition and, therefore, cannot be regarded as a service. Of course, if there is some other service, such as air conditioning service provided alongwith the renting of immovable property, then it would fall within Section 65(105)(zzzz).

36. In view of the foregoing discussion, we hold that Section 65(105)(zzzz) does not in terms entail that the renting out of immovable property for use in the course or furtherance of business of commerce would by itself constitute a taxable service and be exigible to service tax under the said Act. The obvious consequence of this finding is that the interpretation placed by the impugned notification and circular on the said provision is not correct. Consequently, the same are ultra vires the said Act and to the extent that they authorize the levy of service tax on renting of immovable property per se, they are set aside.

37. Before parting with this batch of cases, we would like to observe that we have not examined the alternative plea taken by the petitioners with regard to the legislative competence of the Parliament in the context of Entry 49 of List II of the Constitution of India. Such an examination has become unnecessary because of the view we have taken on the main plea taken by the petitioners as indicate above.

38. The writ petitions are allowed to the extent indicated above. The parties are left to bear their own costs.

Loss on account of exchange rate fluctuation – allowed both on revenue and capital accounts

COMMISSIONER OF INCOME TAX, DELHI

Vs

M/s WOODWARD GOVERNOR INDIA P LTD
M/s HONDA SIEL POWER PRODUCTS LTD


Income tax – Loss on account of exchange rate fluctuation – allowed both on revenue and capital accounts –when the Dollar rates were reduced, department taxed the gains but when the dollar rates increased, Department has disallowed the loss – Double Standards: In the previous years whenever the dollar rate stood reduced, the Department had taxed the gains which accrued to the assessee on the basis of accrual and it is only in the year in question when the dollar rate stood increased, resulting in loss that the Department has disallowed the deduction/debit. This fact is important. It indicates the double standards adopted by the Department.

In the present case, the "loss" suffered by the assessee on account of the exchange difference as on the date of the balance sheet is an item of expenditure under Section 37(1) of the 1961 Act.

In conclusion, in order to find out if an expenditure is deductible the following have to be taken into account

(i) whether the system of accounting followed by the assessee is mercantile system, which brings into debit the expenditure amount for which a legal liability has been incurred before it is actually disbursed and brings into credit what is due, immediately it becomes due and before it is actually received;

(ii) whether the same system is followed by the assessee from the very beginning and if there was a change in the system, whether the change was bona fide;

(iii) whether the assessee has given the same treatment to losses claimed to have accrued and to the gains that may accrue to it;

(iv) whether the assessee has been consistent and definite in making entries in the account books in respect of losses and gains;

(v) whether the method adopted by the assessee for making entries in the books both in respect of losses and gains is as per nationally accepted accounting standards;

(vi) Whether the system adopted by the assessee is fair and reasonable or is adopted only with a view to reducing the incidence of taxation.

The amendment of Section 43A by the Finance Act, 2002 w.e.f . 1.4.2003 is amendatory and not clarificatory. The amendment is in complete substitution of the section as it existed prior thereto. Under the unamended Section 43A adjustment to the actual cost took place on the happening of change in the rate of exchange whereas under the amended Section 43A the adjustment in the actual cost is made on cash basis. This is indicated by the words "at the time of making payment". In other words, under the unamended Section 43A , "actual payment" was not a condition precedent for making necessary adjustment in the carrying cost of the fixed asset acquired in foreign currency, however, under amended Section 43A w.e.f . 1.4.2003 such actual payment of the decreased/enhanced liability is made a condition precedent for making adjustment in the carrying amount of the fixed asset. This indicates a complete structural change brought about in Section 43A vide Finance Act, 2002. Therefore, the amended section is amendatory and not clarificatory in nature.

JUDGEMENT

Per: S H Kapadia J.:

Delay condoned.

2. Leave granted.

3. In this batch of civil appeals, the following question arises for determination:

( i ) Whether, on the facts and circumstances of the case and in law, the additional liability arising on account of fluctuation in the rate of exchange in respect of loans taken for revenue purposes could be allowed as deduction under Section 37(1) in the year of fluctuation in the rate of exchange or whether the same could only be allowed in the year of repayment of such loans?

(ii) Whether the assessee is entitled to adjust the actual cost of imported assets acquired in foreign currency on account of fluctuation in the rate of exchange at each balance sheet date, pending actual payment of the varied liability?

4. At the outset, for the sake of convenience, we may state that in this batch of civil appeals broadly we have before us two categories. In the first category, we are concerned with exchange differences arising in foreign currency transaction on revenue items. In such category, we are concerned with the assessee(s) incurring loss on revenue account. In that category, we are concerned with the provisions of Sections 28, 29, 37(1) and 145 of the Income-tax Act, 1961 ("1961 Act"). In the second category of cases, we are concerned with exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets. In other words, in the second category of cases, we are concerned with the assessee(s) incurring liabilities on capital account. In such cases, we are required to consider the provisions of Section 43(1), 43A (both, before and after Amendment vide Finance Act, 2002).

Facts in M/s Woodward Governor India P. Ltd .
[Civil Appeal arising out of SLP (C) No. 593/08]

- REVENUE ACCOUNT CASE:

5. The assessee filed its Return of Income on 28.1.1998 for the assessment year 1998-99 on a total income of Rs. 1 ,10,28,190.00 . That return was processed under Section 143(1 )( a) on 23.3.1999. On 16.8.1999 a notice under Section 143(2) was issued to the assessee stating that in the course of assessment proceedings under Section 143 it was noticed by the Department that the assessee had debited to its Profit & Loss Account a sum of Rs. 41 ,06,746.00 out of which a sum of Rs. 29,49,088.00 was the unrealized loss due to foreign exchange fluctuation on the last date of the accounting year. The AO held that the liability as on the last date of the previous year under consideration was a contingent liability, it was not an ascertained liability and consequently it had to be added back to the total income of the assessee. Accordingly, he added back Rs. 29 ,49,088.00 being the unrealized loss due to foreign exchange fluctuation. In other words, the debit to the P&L account was disallowed. This order of the AO was upheld by the CIT( A) vide decision dated 29.11.2001. Being aggrieved, the assessee went in appeal to the Tribunal. By judgment and order dated 1.4.2005 the Tribunal relying on its earlier decision in the case of M/s Woodward Governor India P. Ltd. for the assessment years 1995-96, 1996-97 and 1997-98 held that the claim of the assessee for deduction of unrealized loss due to foreign exchange fluctuation as on the last date of the previous year had to be allowed. This decision of the Tribunal has been upheld by the Delhi High Court vide the impugned judgment dated 30.4.2007 , hence, this Civil Appeal is filed by the Department.

6. Shri Parag Tripathi , learned Additional Solicitor General, appearing on behalf of the Department submitted that, in this case, the assessee(s) claims deduction under Section 37, which is a residuary provision, as there is no specific provision dealing with adjustment based on foreign exchange fluctuations on the Revenue account (akin to Section 43A , which deals with such adjustments in the Capital account). According to the learned counsel, the essence of deductibility under Section 37 is that the increase in liability due to foreign exchange fluctuations must fulfill the twin requirements of "expenditure" and the factum of such expenditure having been "laid out or expended". According to the learned counsel, the expression "expenditure" is "what is paid out" and "something which is gone irretrievably". In this connection, learned counsel placed reliance on the judgment of this Court in the case of Indian Molasses Co. (Private) Ltd. v. CIT reported in 37 ITR 66. According to the learned counsel, the increase in liability at any point of time prior to payment cannot fall within the meaning of the word "expenditure" in Section 37(1). Therefore, according to the learned counsel, the requirement of expenditure is not met in this case. According to the learned counsel, similarly the requirement of money being "expended or laid out" is also not satisfied and thus additional liability arising on account of fluctuation in foreign exchange rate is not deductible under Section 37(1).

7. Shri C.S. Aggarwal , learned senior counsel appearing for M/s Woodward Governor India P. Ltd. (Civil Appeal arising out of S.L.P. (C) No. 593/08), submitted that the assessee had debited a sum of Rs. 41,06,748.00 to its P&L account of which a sum of Rs. 29,49,088.00 stood for the unrealized loss due to foreign exchange fluctuation. According to the learned counsel, the assessee has been following mercantile system of accounting. According to the learned counsel, under mercantile system of accounting, which is also known as accrual system of accounting, whenever the amount is credited to the account of the payee (creditor) liability stands incurred by the assessee even though the amount is actually not paid. In this connection, learned counsel placed reliance on the definition of the word "paid" in Section 43(2). According to the learned counsel, in the past in some years when the value of the rupee becomes stronger vis-`- vis US$, the Department had taxed the gains as income. Therefore, according to the learned counsel, when it comes to "income", the Department says that accrual is enough for taxability and "payment" is irrelevant but when it comes to "loss", the Department says that "payment" alone is relevant for taxability. According to the learned counsel, such double standards cannot be countenanced. Learned counsel further gave the following example in support of his contentions:

1. Where amount is borrowed and used in business:

1.4.1999 - "X" borrows $ 100/- - debits the loan A/c by Rs. 3500/- (at Rs. 35/- per dollar) on the basis of prevailing market rate. - Amount borrowed is utilized in business.

31.3.2000 - Rate of exchange fluctuated and it became Rs. 40/- per Dollar. - Liability increased by Rs. 500/-.

2. The liability thus was, since by way of loan, the increased liability of Rs. 500/- was towards business increased by Rs. 500/- which resulted into business loss as a result of modification of existing liability. Likewise if on fluctuation, the dollar rate is reduced to Rs. 32/- per dollar, the liability will get reduced by Rs. 300/- and there would be a business gain of Rs. 300/-.

8. In the light of the above illustration, learned counsel urged that when the assessee(s) borrows 100 USD on 1.4.1999 he incurs a crystallised liability, however, the value of that liability undergoes a change by 31.3.2000 on account of the fall in the rupee value. In other words, the rate of exchange fluctuated from Rs. 35 per dollar as on 1.4.1999 to Rs. 40 per dollar as on 31.3.2000, thus, increasing the liability of the assessee by Rs.500 . According to the learned counsel, the assessee was entitled therefore to deduction under Section 37(1) for such enhanced liability. Similarly, if the dollar rate had reduced from Rs. 35 to Rs. 32 per dollar, then the assessee's liability would stand reduced by Rs. 300 and there would be a gain of Rs. 300 which would become taxable. From this hypothetical example, learned counsel urged that the liability stood incurred on the date on which the assessee borrows USD 100 which in the above example is 1.4.1999, however, on account of fluctuation in the dollar rate, the liability may enhance or may reduce by 31.3.2000. This has to be taken into account by the Department. The learned counsel submitted that whenever the dollar rate stood reduced, the Department has taxed in the past the business gains, therefore, as a corollary, the Department has to allow deduction in the year in which the assessee incurs business loss on account of the increase in the dollar rate. Therefore, according to the learned counsel, there is no warrant for interfering in the impugned judgment of the High Court.

9. Shri S. Ganesh , learned senior counsel appearing for M/s Maruti Udyog Ltd. (Civil Appeal arising out of SLP (C) No. 18967/08), adopted the argument advanced by Shri C.S. Aggarwal . In addition, he pointed out that the assessee had maintained its accounts right from 1985 on accrual system of accounting. He submitted that during the assessment years 1985-86 to 1989-90 loss claimed was allowed. It was pointed out on facts that the assessee borrowed loans in dollar and yen. It was pointed out that in the assessment year 1990-91, the dollar rate stood increased but the yen rate stood reduced resulting in gain, which was offered as income and which was accordingly taxed. But when it came to the year in question, namely, assessment year 1991-92, in which year there was a loss on account of fluctuation in the foreign exchange rate, the Department has taken a contradictory stand that accrual of liability is irrelevant and that the year of payment/repayment is relevant. The point which the learned counsel made was that having accepted the system of accounting undertaken by the assessee, it was not open to the Department to introduce a new system of accounting. According to the learned counsel, the liability to repay the loan in US$ or in yen accrues the moment the contract is entered into. It has nothing to do with the time of payment/repayment. According to the learned counsel, the date of payment has nothing to do with the accrual of liability. According to the learned counsel, at the end of the accounting year, namely, 31.3.1991 the assessee had to value the liability which it had incurred during the accounting year in question. He urged that Section 145 of the Income-tax Act, 1961 ties down the AO to the Accounting System followed by the assessee in the past which accounting system has been accepted by the Department over the years and if the AO seeks to introduce a new system of accounting he has to give reasons in his order pointing out defects in the existing accounting system. Learned counsel pointed out that, in this case, there is no such finding. According to the learned counsel, valuation of asset and liability is a matter of accounting system. The AO cannot depart from the existing accounting system without giving reasons for such departure. According to the learned counsel, the existence of liability stands crystallized on the date of the contract. It has nothing to do with payment and valuation of liability at a later date. According to the learned counsel, the income of the assessee is decided only in terms of the system of accounting. Therefore, according to the learned counsel, in the facts of the case in M/s Maruti Udyog Ltd., the overall loss suffered by the assessee cannot be disallowed on the ground that such loss has occurred on account of fluctuation in the foreign exchange rate. According to the learned counsel, for the above reasons, there is no need to interfere in the impugned judgment.

10. As stated above, on facts in the case of M/s Woodward Governor India P. Ltd., the Department has disallowed the deduction/debit to the P&L account made by the assessee in the sum of Rs. 29 ,49,088.00 being unrealized loss due to foreign exchange fluctuation. At the very outset, it may be stated that there is no dispute that in the previous years whenever the dollar rate stood reduced, the Department had taxed the gains which accrued to the assessee on the basis of accrual and it is only in the year in question when the dollar rate stood increased, resulting in loss that the Department has disallowed the deduction/debit. This fact is important. It indicates the double standards adopted by the Department.

11. The dispute in this batch of civil appeals centers around the year(s) in which deduction would be admissible for the increased liability under Section 37(1).

12. We quote hereinbelow Section 28( i ), Section 29 Section 37(1) and Section 145 of the 1961 Act, which read as follows:

Profits and gains of business or profession:

Section 28 :

"The following income shall be chargeable to income-tax under the head "Profits and gains of business or profession", -

( i ) the profits and gains of any business or profession which was carried on by the assessee at any time during the
previous year."

Income from profits and gains of business or profession, how computed:

Section 29:

"The income referred to in section 28 shall be computed in accordance with the provisions contained in sections 30 to 43D ."

General:

Section 37 :

"(1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head "Profits and gains of business or profession".

Explanation.- For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure." ( emphasis supplied)

Method of Accounting:

Section 145:

"(1) Income chargeable under the head "Profits and gains of business or profession" or "Income from other sources" shall, subject to the provisions of sub-section (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee.

(2) The Central Government may notify in the Official Gazette from time to time accounting standards to be followed by any class of assessees or in respect of any class of income.

(3) Where the Assessing Officer is not satisfied about the correctness or completeness of the accounts of the assessee, or where the method of accounting provided in sub-section (1) or accounting standards as notified under sub-section (2), have not been regularly followed by the assessee, the Assessing Officer may make an assessment in the manner provided in section 144."

13. As stated above, one of the main arguments advanced by the learned Additional Solicitor General on behalf of the Department before us was that the word "expenditure" in Section 37(1) connotes "what is paid out" and that which has gone irretrievably. In this connection, heavy reliance was placed on the judgment of this Court in the case of Indian Molasses Company (supra). Relying on the said judgment, it was sought to be argued that the increase in liability at any point of time prior to the date of payment cannot be said to have gone irretrievably as it can always come back. According to the learned counsel, in the case of increase in liability due to foreign exchange fluctuations, if there is a revaluation of the rupee vis -a- vis foreign exchange at or prior to the point of payment, then there would be no question of money having gone irretrievably and consequently, the requirement of "expenditure" is not met. Consequently, the additional liability arising on account of fluctuation in the rate of foreign exchange was merely a contingent/notional liability which does not crystallize till payment. In that case, the Supreme Court was considering the meaning of the expression "expenditure incurred" while dealing with the question as to whether there was a distinction between the actual liability in presenti and a liability de futuro . The word "expenditure" is not defined in the 1961 Act. The word "expenditure" is, therefore, required to be understood in the context in which it is used. Section 37 enjoins that any expenditure not being expenditure of the nature described in Sections 30 to 36 laid out or expended wholly and exclusively for the purposes of the business should be allowed in computing the income chargeable under the head "profits and gains of business". In Sections 30 to 36, the expressions "expenses incurred" as well as "allowances and depreciation" has also been used. For example, depreciation and allowances are dealt with in Section

32. Therefore, Parliament has used the expression "any expenditure" in Section 37 to cover both. Therefore, the expression "expenditure" as used in Section 37 may, in the circumstances of a particular case, cover an amount which is really a "loss" even though the said amount has not gone out from the pocket of the assessee.

14. In the case of M.P. Financial Corporation v. CIT reported in 165 ITR 765 the Madhya Pradesh High Court has held that the expression "expenditure" as used in Section 37 may, in the circumstances of a particular case, cover an amount which is a "loss" even though the said amount has not gone out from the pocket of the assessee. This view of the Madhya Pradesh High Court has been approved by this Court in the case of Madras Industrial Investment Corporation Ltd. v. CIT reported in 225 ITR 802 . According to the Law and Practice of Income Tax by Kanga and Palkhivala , Section 37(1) is a residuary section extending the allowance to items of business expenditure not covered by Sections 30 to 36. This Section, according to the learned Author, covers cases of business expenditure only, and not of business losses which are, however, deductible on ordinary principles of commercial accounting. ( see page 617 of the eighth edition). It is this principle which attracts the provisions of Section 145. That section recognizes the rights of a trader to adopt either the cash system or the mercantile system of accounting. The quantum of allowances permitted to be deducted under diverse heads under Sections 30 to 43C from the income, profits and gains of a business would differ according to the system adopted. This is made clear by defining the word "paid" in Section 43(2), which is used in several Sections 30 to 43C , as meaning actually paid or incurred according to the method of accounting upon the basis on which profits or gains are computed under Section 28/29. That is why in deciding the question as to whether the word "expenditure" in Section 37(1) includes the word "loss" one has to read Section 37(1) with Section 28, Section 29 and Section 145(1). One more principle needs to be kept in mind. Accounts regularly maintained in the course of business are to be taken as correct unless there are strong and sufficient reasons to indicate that they are unreliable. One more aspect needs to be highlighted. Under Section 28( i ), one needs to decide the profits and gains of any business which is carried on by the assessee during the previous year. Therefore, one has to take into account stock-in-trade for determination of profits. The 1961 Act makes no provision with regard to valuation of stock. But the ordinary principle of commercial accounting requires that in the P&L account the value of the stock-in- trade at the beginning and at the end of the year should be entered at cost or market price, whichever is the lower. This is how business profits arising during the year needs to be computed. This is one more reason for reading Section 37(1) with Section 145. For valuing the closing stock at the end of a particular year, the value prevailing on the last date is relevant. This is because profits/loss is embedded in the closing stock. While anticipated loss is taken into account, anticipated profit in the shape of appreciated value of the closing stock is not brought into account, as no prudent trader would care to show increase profits before actual realization. This is the theory underlying the Rule that closing stock is to be valued at cost or market price, whichever is the lower. As profits for income-tax purposes are to be computed in accordance with ordinary principles of commercial accounting, unless, such principles stand superseded or modified by legislative enactments, unrealized profits in the shape of appreciated value of goods remaining unsold at the end of the accounting year and carried over to the following years account in a continuing business are not brought to the charge as a matter of practice, though, as stated above, loss due to fall in the price below cost is allowed even though such loss has not been realized actually. At this stage, we need to emphasise once again that the above system of commercial accounting can be superseded or modified by legislative enactment. This is where Section 145(2) comes into play. Under that section, the Central Government is empowered to notify from time to time the Accounting Standards to be followed by any class of assessees or in respect of any class of income. Accordingly, under Section 209 of the Companies Act, mercantile system of accounting is made mandatory for companies. In other words, accounting standard which is continuously adopted by an assessee can be superseded or modified by Legislative intervention. However, but for such intervention or in cases falling under Section 145(3), the method of accounting undertaken by the assessee continuously is supreme. In the present batch of cases, there is no finding given by the AO on the correctness or completeness of the accounts of the assessee. Equally, there is no finding given by the AO stating that the assessee has not complied with the accounting standards.

15. For the reasons given hereinabove, we hold that, in the present case, the "loss" suffered by the assessee on account of the exchange difference as on the date of the balance sheet is an item of expenditure under Section 37(1) of the 1961 Act.

16. In the light of what is stated hereinabove, it is clear that profits and gains of the previous year are required to be computed in accordance with the relevant accounting standard. It is important to bear in mind that the basis on which stock- in-trade is valued is part of the method of accounting. It is well established, that, on general principles of commercial accounting, in the P&L account, the values of the stock-in-trade at the beginning and at the end of the accounting year should be entered at cost or market value, whichever is lower - the market value being ascertained as on the last date of the accounting year and not as on any intermediate date between the commencement and the closing of the year, failing which it would not be possible to ascertain the true and correct state of affairs. No gain or profit can arise until a balance is struck between the cost of acquisition and the proceeds of sale. The word "profit" implies a comparison between the state of business at two specific dates, usually separated by an interval of twelve months. Stock-in-trade is an asset. It is a trading asset. Therefore, the concept of profit and gains made by business during the year can only materialize when a comparison of the assets of the business at two different dates is taken into account. Section 145(1) enacts that for the purpose of Section 28 and Section 56 alone, income, profits and gains must be computed in accordance with the method of accounting regularly employed by the assessee. In this case, we are concerned with Section 28. Therefore, Section 145(1) is attracted to the facts of the present case. Under the mercantile system of accounting, what is due is brought into credit before it is actually received; it brings into debit an expenditure for which a legal liability has been incurred before it is actually disbursed. ( see judgment of this Court in the case of United Commercial Bank v. CIT reported in 240 ITR 355). Therefore, the accounting method followed by an assessee continuously for a given period of time needs to be presumed to be correct till the AO comes to the conclusion for reasons to be given that the system does not reflect true and correct profits. As stated, there is no finding given by the AO on the correctness of the accounting standard followed by the assessee(s) in this batch of Civil Appeals.

17. Having come to the conclusion that valuation is a part of the accounting system and having come to the conclusion that business losses are deductible under Section 37(1) on the basis of ordinary principles of commercial accounting and having come to the conclusion that the Central Government has made Accounting Standard-11 mandatory, we are now required to examine the said Accounting Standard ("AS").

18. AS-11 deals with giving of accounting treatment for the effects of changes in foreign exchange rates. AS-11 deals with effects of Exchange Differences. Under para 2, reporting currency is defined to mean the currency used in presenting the financial statements. Similarly, the words "monetary items" are defined to mean money held and assets and liabilities to be received or paid in fixed amounts, e.g., cash, receivables and payables. The word "paid" is defined under Section 43(2). This has been discussed earlier. Similarly, it is important to note that foreign currency notes, balance in bank accounts denominated in a foreign currency, and receivables/payables and loans denominated in a foreign currency as well as sundry creditors are all monetary items which have to be valued at the closing rate under AS-11. Under para 5, a transaction in a foreign currency has to be recorded in the reporting currency by applying to the foreign currency amount the exchange rate between the reporting currency and the foreign currency at the date of the transaction. This is known as recording of transaction on Initial Recognition. Para 7 of AS-11 deals with reporting of the effects of changes in exchange rates subsequent to initial recognition. Para 7(a) inter alia states that on each balance sheet date monetary items, enumerated above, denominated in a foreign currency should be reported using the closing rate. In case of revenue items falling under Section 37(1), para 9 of AS-11 which deals with recognition of exchange differences, needs to be considered. Under that para, exchange differences arising on foreign currency transactions have to be recognized as income or as expense in the period in which they arise, except as stated in para 10 and para 11 which deals with exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which topic falls under Section 43A of the 1961 Act. At this stage, we are concerned only with para 9 which deals with revenue items. Para 9 of AS-11 recognises exchange differences as income or expense. In cases where, e.g., the rate of dollar rises vis -a- vis the Indian rupee, there is an expense during that period. The important point to be noted is that AS-11 stipulates effect of changes in exchange rate vis -a- vis monetary items denominated in a foreign currency to be taken into account for giving accounting treatment on the balance sheet date. Therefore, an enterprise has to report the outstanding liability relating to import of raw materials using closing rate of exchange. Any difference, loss or gain, arising on conversion of the said liability at the closing rate, should be recognized in the P&L account for the reporting period.

19. A company imports raw material worth USD 250000 on 15.1.2002 when the exchange rate was Rs. 46 per US $. The company records the transaction at that rate. The payment for the imports is made on 15.4.2002 when the exchange rate is Rs. 49 per US $. However, on the balance sheet date, 31.3.2002, the rate of exchange is Rs. 50 per USD. In such a case, in terms of AS-11, the effect of the exchange difference has to be taken into P&L account. Sundry creditors is a monetary item and hence such item has to be valued at the closing rate, i.e. Rs. 50 at 31.3.2002, irrespective of the payment for the sale subsequently at a lower rate. The difference of Rs. 4 (50-46) per US $ is to be shown as an exchange loss in the P&L account and is not to be adjusted against the cost of raw materials.

20. In the case of Sutlej Cotton Mills Ltd. v. CIT reported in 116 ITR 1 = ( 2002-TIOL-546-SC-IT ) this Court has observed as under:

"The law may, therefore, now be taken to be well settled that where profit or loss arises to an assessee on account of appreciation or depreciation in the value of foreign currency held by it, on conversion into another currency, such profit or loss would ordinarily be a trading profit or loss if the foreign currency is held by the assessee on revenue account or as a trading asset or as a part of circulating capital embarked in the business. But, if on the other hand, the foreign currency is held as a capital asset or as fixed capital, such profit or loss would be of capital nature."( emphasis supplied)

21. In conclusion, we may state that in order to find out if an expenditure is deductible the following have to be taken into account ( i ) whether the system of accounting followed by the assessee is mercantile system, which brings into debit the expenditure amount for which a legal liability has been incurred before it is actually disbursed and brings into credit what is due, immediately it becomes due and before it is actually received; (ii) whether the same system is followed by the assessee from the very beginning and if there was a change in the system, whether the change was bona fide; (iii) whether the assessee has given the same treatment to losses claimed to have accrued and to the gains that may accrue to it; (iv) whether the assessee has been consistent and definite in making entries in the account books in respect of losses and gains; (v) whether the method adopted by the assessee for making entries in the books both in respect of losses and gains is as per nationally accepted accounting standards; (vi) whether the system adopted by the assessee is fair and reasonable or is adopted only with a view to reducing the incidence of taxation.

Facts in M/s Honda Siel Power Products Ltd. [Civil Appeal arising out of SLP (C) No. 7632/08]

- CAPITAL ACCOUNT CASE:

22. The main issue which arises for determination in this batch of civil appeals is: whether the assessee was entitled to adjust the actual cost of imported assets acquired in foreign currency on account of fluctuation in the rate of exchange at each balance sheet date pending actual payment of the varied liability. In this batch of civil appeals, we are concerned with increase in the existing liability on account of foreign exchange fluctuations on "capital account".

23. Before coming to the arguments, we quote hereinbelow Section 43A , as it stood prior to 1.4.2003:

" 43A . Special provisions consequential to changes in rate of exchange of currency--(1) Notwithstanding anything contained in any other provision of this Act, where an assessee has acquired any asset from a country outside India for the purposes of his business or profession and, in consequence of a change in the rate of exchange at any time after the acquisition of such asset, there is an increase or reduction in the liability of the assessee as expressed in Indian currency for making payment towards the whole or a part of the cost of the asset or for repayment of the whole or a part of the moneys borrowed by him from any person, directly or indirectly, in any foreign currency specifically for the purpose of acquiring the asset (being in either case the liability existing immediately before the date on which the change in the rate of exchange takes effect), the amount by which the liability aforesaid is so increased or reduced during the previous year shall be added to, or, as the case may be, deducted from, the actual cost of the asset as defined in clause (1) of section 43 or the amount of expenditure of a capital nature referred to in clause (iv) of sub-section (1) of section 35 or in section 35A or in clause (ix) of sub-section (1) of section 36, or, in the case of a capital asset (not being a capital asset referred to in section 50), the cost of acquisition thereof for the purposes of section 48, and the amount arrived at after such addition or deduction shall be taken to be the actual cost of the asset or the amount of expenditure of a capital nature or, as the case may be, the cost of acquisition of the capital asset as aforesaid."

24. We also quote hereinbelow Section 43A , as it stands in the Statute book after substitution by the Finance Act 2002 w.e.f . 1.4.2003:

" 43A . Notwithstanding anything contained in any other provision of the Act, where an assessee has acquired any asset in any previous year from a country outside India for the purposes of his business or profession and, in consequence of a change in the rate of exchange during any previous year after the acquisition of such asset, there is an increase or reduction in the liability of the assessee as expressed in Indian currency (as compared to the liability existing at the time of acquisition of the asset) at the time of making payment." ( emphasis supplied)

25. We also quote hereinbelow provisions of Section 43(1):

"43. In sections 28 to 41 and in this section, unless the context otherwise requires -

(1) "actual cost" means the actual cost of the assets to the assessee, reduced by that portion of the cost thereof, if any, as has been met directly or indirectly by any other person or authority."

26. Shri Parag Tripathi , learned Additional Solicitor General appearing on behalf of the Department, submitted that in Section 43A (as it stood prior to Finance Act, 2002) the expression "for making payment" is in the context of increase or decrease of liability and the same hinges on "making the payment towards the whole or a part of ...". According to the learned counsel, the expression "towards the whole or a part of" makes it clear that Section 43A as it stood referred to whole or a part of the payment and therefore to the point of payment. According to the learned counsel, under the pre-amended Section 43A , the effect of increase or decrease of liability arose only at the point of payment because the point of accrual shifted to the point of payment. In this connection, learned counsel urged that the difference between accrual and payment of a liability is that normally the point of accrual and the point of payment represent two different time milestones. However, according to the learned counsel, in the case of a contingent liability, like that of foreign exchange fluctuations, the point of accrual and the point of payment become the same. According to the learned counsel, under the pre-amended dispensation of Section 43A , the effect of increase or decrease of liability could only arise at the point of payment, as the point of accrual shifts to the point of payment.

27. Learned counsel next contended that on a proper and true interpretation of the amendment to Section 43A , introduced by Finance Act, 2002, Section 43A is clarificatory. According to the learned counsel, the occasion for the clarificatory amendment arose in view of the judgments of the various High Courts, which interpreted the unamended provision as laying down the proposition that in case of increase or decrease of liability due to foreign exchange fluctuations, the same is to be recognized at the end of each financial year, irrespective of whether such "incremental liability" had accrued and had been paid or not. According to the learned counsel, Section 43A , as amended, recognizes the fact that in case of foreign exchange fluctuations, the accrual of liability is co-terminus with the payment of liability and therefore the amendment to Section 43A is clarificatory and not amendatory, notwithstanding the fact that the amendment operates w.e.f . 1.4.2003.

28. In reply, Shri Ajay Vohra , learned counsel appearing on behalf of the assessee, submitted that Section 43A (even prior to the amendment) was inserted to provide for adjustment in the actual cost of assets pursuant to change in foreign currency exchange rates. As a consequence of Section 43A (unamended), it became possible to adjust to increase/decrease in liability relating to acquisition of capital assets on account of exchange rate fluctuation, in the actual cost of the assets acquired in foreign currency and for depreciation to be allowed with reference to such increased/decreased cost. According to the learned counsel, the provisions of Section 43A (unamended) are pari materia with para 10 of AS-11 which inter alia provides for adjustment in the carrying cost of fixed assets acquired in foreign currency, due to foreign exchange fluctuation at each balance sheet date. In this connection, learned counsel has placed reliance on the judgment of this Court in the case of CIT v. Arvind Mills Ltd. reported in 193 ITR 255.

29. To answer the controversy, we need to analyse Section 43A (unamended). The period in question in the batch of Civil Appeals is prior to Finance Act, 2002, therefore, we are required to consider the scope of Section 43A (unamended).

30. Section 43A starts with a non obstante clause. Section 43A ( 1) overrides the other provisions only as regards cases falling under that sub-section. For instance, in a case where the asset is acquired, or the liability to pay in foreign exchange arises, after the change in the rate of exchange, the said sub-section has no application and the general principles of law must be applied in deciding whether the actual cost is increased or reduced as a result of such change. In other words, Section 43A ( 1) applies only where as a result of change in the rate of exchange there is an increase or reduction in the liability of the assessee in terms of the Indian rupee to pay the price of any asset payable in foreign exchange or to repay moneys borrowed in foreign currency specifically for the purpose of acquiring the asset. Section 43A ( 1), therefore, has no application unless the asset is acquired and the liability existed, before the change in the rate of exchange takes effect. In such a case, Section 43A contemplates recomputation of the cost of the assets for the purposes of depreciation [Sections 32 and 43(1)], and also as regards capital assets for scientific research [Section 35(1)(iv)] and also regarding patent rights or copyrights [Section 35A ].

31. As held in Arvind Mills case (supra) increase or decrease in liability in the repayment of foreign loan should be taken into account to modify the figure of actual cost in the year in which the increase or decrease in liability arises on account of the fluctuation in the rate of exchange. Thus, the adjustments in the actual cost are to be made irrespective of the date of actual payment in foreign currency made by the assessee. This position also finds place in the clarification issued by the Ministry of Finance dated 4.1.1967 which inter alia reads as under:

"2. The Government agrees that for the purposes of the calculation of depreciation allowance, the cost of capital assets imported before the date of devaluation should be written off to the extent of the full amount of the additional rupee liability incurred on account of devaluation and not what is actually paid from year to year. The proposed legal provision in the matter is intended to be framed on this basis."
( emphasis supplied)

32. One more aspect needs to be mentioned. Section 43(1) defines actual cost for the purpose of grant of depreciation etc. to mean "the actual cost of the assets to the assessee". Till the insertion of the unamended Section 43A there was no provision in the Income-tax Act for adjustment of the actual cost which was fixed once and for all, at the time of acquisition of the asset. Accordingly, no adjustment could be made in the actual cost of the assets for purposes of grant of depreciation for any increase/decrease of liability subsequently arising due to exchange fluctuation. Consequently, Section 43A was introduced in the Act by Finance Act, 1967 w.e.f . 1.4.1967 in the above terms to provide for adjustment in the actual cost of assets pursuant to change in the foreign currency exchange rates. As a consequence of the insertion of the said section, it became possible to adjust the increase/decrease in liability relating to acquisition of capital assets on account of exchange rate fluctuation, in the actual cost of the assets acquired in foreign currency and for, inter alia, depreciation to be allowed with reference to such increased/decreased cost. This position is also made clear by Circular No. 5-P dated 9.10.1967 issued by CBDT. One more point needs to be mentioned. Section 43A (unamended) corresponds to para 10 of AS-11 similarly providing for adjustment in the carrying cost of fixed assets acquired in foreign currency, due to foreign exchange fluctuation at each balance sheet date. The relevant para reads as follows:

"10. Exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets, which carried in terms of historical cost, should be adjusted in the carrying amount of the respective fixed assets. The carrying amount of such fixed assets should, to the extent not already so adjusted or otherwise accounted for, also be adjusted to account for any increase or decrease in the liability of the enterprise, as expressed in the reporting currency by applying the closing rate, for making payment towards the whole or a part of the cost of the assets or for repayment of the whole or a part of the monies borrowed by the enterprise from any person, directly or indirectly, in foreign currency specifically for the purpose of acquiring those assets."

33. As stated above, what triggers the adjustment in the actual cost of the assets, in terms of unamended Section 43A of the 1961 Act is the change in the rate of exchange subsequent to the acquisition of asset in foreign currency. The section mandates that at any time there is change in the rate of exchange, the same may be given effect to by way of adjustment of the carrying cost of the fixed assets acquired in foreign currency. But for Section 43A which corresponds to para 10 of AS-11 such adjustment in the carrying amount of the fixed assets was not possible, particularly in the light of Section 43(1). The unamended Section 43A nowhere required as condition precedent for making necessary adjustment in the carrying amount of the fixed asset that there should be actual payment of the increased/decreased liability as a consequence of the exchange variation. The words used in the unamended Section 43A were "for making payment" and not "on payment" which is now brought in by amendment to Section 43A vide Finance Act, 2002.

34. Lastly, we are of the view that amendment of Section 43A by the Finance Act, 2002 w.e.f . 1.4.2003 is amendatory and not clarificatory. The amendment is in complete substitution of the section as it existed prior thereto. Under the unamended Section 43A adjustment to the actual cost took place on the happening of change in the rate of exchange whereas under the amended Section 43A the adjustment in the actual cost is made on cash basis. This is indicated by the words "at the time of making payment". In other words, under the unamended Section 43A , "actual payment" was not a condition precedent for making necessary adjustment in the carrying cost of the fixed asset acquired in foreign currency, however, under amended Section 43A w.e.f . 1.4.2003 such actual payment of the decreased/enhanced liability is made a condition precedent for making adjustment in the carrying amount of the fixed asset. This indicates a complete structural change brought about in Section 43A vide Finance Act, 2002. Therefore, the amended section is amendatory and not clarificatory in nature.

Conclusion:

35. For reasons given hereinabove, we find no infirmity in the impugned judgments of the Delhi High Court and accordingly the Civil Appeals filed by the Department stand dismissed with no order as to costs.