ORDER
K.K. Bolliya, A.M.
This appeal has been filed by the assessee against the order dated 9-3-1998 of commissioner (Appeals)-XXXIII, Mumbai. The first ground of appeal pertains to the disallowance made by the assessing officer from out of travelling expenses under rule,6D and sustained by the learned commissioner (Appeals).
2. The learned counsel, Shri B.K. Khare, appearing for the assessee was fair enough to point out that this issue is covered against the assessee by virtue of ITAT’s orders in assessee’s own case for the assessment years 1991-92 and 1992-93 in ITA Nos. 3325/Mum/97 and 3270/Mum/97, respectively. Copies of the relevant orders are complied in the Paper Book. Accordingly, on this issue, the order of the learned commissioner (Appeals) is confirmed.
3. The ground No. 2 regarding the expenditure of Rs. 4,42,307 incurred by the assessee from out of welfare fund of Tractors division is not pressed by the learned Counsel for the assessee and, accordingly, on this issue also, the order of the learned commissioner (Appeals) stands confirmed.
4. The ground No. 3 pertains to denial by the revenue authorities to allow deduction in respect of a sum of Rs. 18,45,905 representing 1/7th premium on redemption of debentures. The learned Counsel submitted that this issue is covered in assessee’s own case by virtue of the ITAT’s order referred to above and also the ITAT order for the assessment year 1990-91 in ITA No. 3101/Mum/95. We find that similar issue has been decided by the Tribunal for the assessment year 1991-92 in assessee’s own case in the order referred to above, vide para 9, which is reproduced below:
“Before us a decision of Hon’ble Bombay High Court in the case of CIT v. S.M. Holding & Finance – 264 ITR 370 was cited wherein it was held that in the case of zero interest convertible debentures which are redeemable after 10 years had a premium of 100% which is spread over the years then the amount of premium attributable to accounting year is deductible as business expenditure. Examining the facts of the case in the light of the above precedent, we deem it fit and proper to restore this issue back to the file of the learned commissioner (Appeals) to be decided de novo because the merits have not been examined in the right perspective. This ground may be treated as allowed for statistical purposes.”
Consistent with the view adopted by the Tribunal, this issue is restored back to the file of the learned commissioner (Appeals) to be decided de novo in the light of the directions issues by the Tribunal, as quoted above.
5. The next ground pertains to confirmation by the learned commissioner (Appeals) of the disallowance of Rs. 55,06,533 made by the assessing officer in respect of provision for warranties. The learned Counsel submitted that this issue is covered in assessee’s favour by the ITAT’s order for the assessment years 1990-91 and 1991-92 referred to (supra) and also by the ITAT’s order for the assessment year 1989-90 in ITA No. 6886/Bom/92. The learned Departmental Representative was fair enough to admit that this issue is covered in assessee’s favour as mentioned above. Accordingly and respectfully following the precedent, the disallowance is directed to be deleted.
6. The ground No. 5 pertains to confirmation by the learned commissioner (Appeals) of the disallowance of depreciation on guesthouse. The learned Counsel for the assessee was fair enough to concede that this issue is covered against the assessee by virtue of the ITAT’s orders referred to (supra). Accordingly, on this issue, the order of the learned commissioner (Appeals) is confirmed.
7. The ground No. 6 pertains to disallowance sustained by the learned commissioner (Appeals) to the extent of 2.5% of canteen expenses on the ground that the same were in the nature of entertainment expenses. Both the sides agreed that this issue stands covered in ‘assessee’s favour by the ITAT’s orders for the assessment years 1991-92 and 1992-93 referred to above. Accordingly, the disallowance is directed to be deleted.
8. The ground No. 7 pertains to confirmation by the learned commissioner (Appeals) of disallowance made by the assessing officer on account of incremental liability for special pension. Both the sides agreed that this issue is covered in assessee’s favour by the ITAT’s order for the assessment year 1989-90 referred to above. We find that similar issue has been decided in assessee’s favour vide para 18(b) of the Tribunal’s order referred to above. Accordingly and consistent with the view adopted by the Tribunal in the assessee’s case, the order of the learned commissioner (Appeals) on this issue is reversed and the assessing officer is directed to allow deduction in respect of incremental liability.
9. The ground No. 8 is as under:
“The commissioner (Appeals) erred in confirming the view of the assessing officer in including sales tax reimbursement by the customers as part of the total turnover for the purpose of computation of deduction under section 80HHC.”
10. Both the sides agreed that this issue is covered in assessee’s favour by the Bombay High Court decision in the case of CIT v. Sudarshan Chemicals Industries Ltd. (2000) 245 ITR 769. Accordingly, the assessing officer is directed to exclude sales tax reimbursement from the total turnover for the purposes of deduction under section 80HHC.
11. The ground No. 9, which is the last ground of appeal is as under:
“The learned commissioner (Appeals) erred in not accepting company’s contention that the receipt of Rs. 520.68 lakhs made on cancellation of foreign exchange forward cover contracts is not liable to tax being of a capital nature and at the highest the appropriate block of depreciable assets could have been scaled down.”
12. The relevant facts with regard to this issue may be stated. The assessee-company entered into an investment agreement with International Finance Corporation (IFC), USA on 26-3-1996 wherein IFC agreed to lend to the assessee-company an amount of US Dollars 10 million to finance the company’s project of modernization, integration and expansion of the Automotive and Tractor Divisions of the company. The aforesaid loan was to be repaid in 12 six-monthly instalments starting from June 1994 and ending in December, 1999 in equated instalments of US Dollars 8,33,333 each. The total estimated cost of the new project was Rs. 360 crores, which broadly consisted of cost of plant and equipments of Rs. 273 crores, technical know-how fees of Rs. 4.43 crores, pre-operative expenses, interest on borrowings and working capital margin of Rs. 86.92 crores approximately. The assessee-company did not draw any part of the above mentioned loan from IFC till the end of the previous year relevant to the present assessment year, i.e., 31-3-1993. However, the assessee-company was paying commitment charge in quarterly instalment. The assesseecompany also entered into foreign exchange forward cover contracts with American Express Bank, Bank of Baroda, Bank of America and ANZ Grindlays Bank, covering the entire loan of US Dollars 10 million. Similarly, covers were taken with Hong Kong Shanghai Bank Ltd. and SBI. The assessee-company incurred total swapping charges amounting to Rs. 70,41,787, which were debited to the capital work-in-progress account for the previous year ending 31-3-1992, i.e., relevant to the immediately preceding assessment year.
13. After negotiating the aforesaid loan in US dollars from IFC, it appears that the assessee-company reviewed the position and felt that they may not require the loan in US dollars. The assessee-company cancelled the exchange covers taken from various Banks as mentioned above which resulted into a gain of Rs. 896.81 lakhs in respect of forward cover contracts with American Express Bank, Bank of Baroda, Bank of America and ANZ Grindlays Bank. At the same time, the assessee-company suffered a loss of Rs. 211.33 lakhs in respect of covers taken with Hong Kong Shanghai Bank and SBI. The assessee also incurred roll over charges of Rs. 164.80 lakhs and after all these amounts are adjusted against each other, the assessee-company benefited to the extent of Rs. 520.68 lakhs being the net gain from cancellation of the covers. Sometimes in the financial year 1993-94 relevant to the assessment year 1994-95, the assessee-company entered into an agreement on 26-10-1993 with Export Import Bank of India (Exim Bank). It was stipulated in this agreement that the assessee-company would swap the loan of US Dollars 10 millions available to it as per the agreement with IFC for equivalent Indian rupee with Exim Bank. The assessee-company agreed to deliver to Exim Bank a total sum of US Dollars 10 millions and obtain from Exim Bank equivalent amount in Indian rupee on the same day at the prevailing spot selling exchange rate of US dollars. This factual position, stands confirmed from the audited accounts for the financial year 1993-94. There is a note to the accounts at page 37 of the accounts, which is as under:
‘During the year, the company had availed of a foreign currency loan of US Dollars 10 million (Rs. 3,155 lakhs at the year-end rate of exchange) from IFC. As per an agreement with the Exim Bank, the company handed over these dollars to Exim Bank under a back-to-back arrangement and obtained a rupee equivalent of Rs. 3,138.50 lakhs which is included under the head Foreign Currency Loans from Financial Institutions’.
Under the arrangement, although the liability to pay interest and repay the principal will be the responsibility of the company, Exim Bank shall discharge these obligations on behalf of the company. The company will simultaneously repay to Exim Bank the said ‘rupee equivalent’ of the payment to IFC with interest.”
The assessee-company drew from IFC the loan of US Dollars 10 million in one instalment on 10- 11- 1993 which was forthwith exchanged with Indian rupee equivalent of Rs. 3,138.50 lakhs on the same day with Exim Bank. The Exim Bank simultaneously agreed to re-exchange the rupee swapped amount of Rs. 3,138.50 lakhs with US Dollars of 10 million, in 12 equal halfyearly instalments to be repaid on the dates when the loan is payable to IFC in US dollars during the period 15-6-1994 to 15-12-1999. The Exim Bank agreed to remit such amount in US dollars to IFC by way of loan repayment instalments on behalf of the assessee-company as per the terms of the agreement. The rupee equivalent of loan received from Exim Bank was invested in the new project as per the broad agreement with IFC. The total investments in fixed assets, being capital work-in-progress, during the financial year 1993-94 was to the tune of Rs. 5,348.77 lakhs.
14. In the backdrop of the above-mentioned facts, a question arose regarding the nature of the net gain of Rs. 520.68 lakhs received by the assessee-company on cancellation of the exchange covers with the Banks. Before the assessing officer, the assessee claimed that this was a capital receipt not chargeable to tax. The assessing officer recorded a finding that the aforesaid gain was in the nature of speculation-profits and he, accordingly brought it to the charge of tax. When the matter came up before the learned commissioner (Appeals), he did not agree with the view of the assessing officer that the assessee indulged in any speculation business. At the same time, the learned commissioner (Appeals) negatived the assessee’s claim that the amount of Rs. 520.68 lakhs was in the nature of capital receipt.
15. The learned commissioner (Appeals) observed that the aforesaid sum was credited to the profit & loss account of the assessee which proves that the assessee-company treated the amount as revenue receipt. The learned commissioner (Appeals) was of the view that even though the accounting entries are not determinative of the nature of the expenditure, the same cannot be regarded as irrelevant. He observed that in the present case, no foreign currency loan from IFC was taken till the previous year under consideration. As a matter of fact, there was no-scope of utilizing of such a loan for the purposes for which it was negotiated. The foreign currency loan was, in the subsequent year, swapped with rupee equivalent loan from the Exim Bank. The learned commissioner (Appeals) held that the amount was chargeable to tax as revenue receipts/earnings to the assessee during the course of its business.
16. Aggrieved by the order of the learned commissioner (Appeals), the assessee-company is in appeal before us. Shri B.K. Khare, the learned Counsel appearing for the assessee, forcefully argued before us that by no stretch of imagination the gain from cancellation of foreign exchange covers can be said to be in the nature of revenue receipts. The learned Counsel supplemented his arguments by filing written submission dated 9-9-2005. The gist of contentions raised by him may be reproduced below from pages 4 to 7 of this written submission
“It will also be realized that though foreign exchange cancellation surplus arose in the assessment year 1993-94 but the availment of loan and swapping with Exim Bank took place in the assessment year 1994-95 and, hence, the note in the balance sheet as on 31-3-1994. It is, therefore, to be noted that the loan was actually drawn by the appellant, which was handed over to Exim Bank against rupee currency loan of Rs. 3,138.50 lakhs. It will be recalled that the undersigned submitted that there was no novatio but it was a bipartite agreement between the appellant and Exim Bank and, therefore, liability of the appellant to IFC remained intact and inviolate. It is different matter that Exim Bank did not commit any default and the appellant-company was not called upon to meet the consequences of any violation of the terms of the agreement with IFC inasmuch as the Exim Bank performed the obligation under the bipartite agreement scrupulously. The upshot of all these events will highlight that the loan was actually drawn from IFC, which was swapped by the appellant with Exim Bank for which the appellant entered into an agreement with Exim Bank. There is some confusion on the part of the learned commissioner (Appeals) as per his observation in para 38 on page 47, he has referred to the amount of Rs. 2,11,32,211 which was inextricably wedded to the surplus which is of a capital receipt as per the appellant’s contention so far as the question of taxability arises notwithstanding no distinction was made in the company’s commercial books between this receipt and other revenue receipts, may be in the nature of loss or profit. Though the commissioner (Appeals)’s observation in substance recites that this amount of loan was never drawn yet it was drawn which fact has been admitted by the commissioner (Appeals) himself in para 20.3 at the end of page 29 and beginning of page 30. In sum, the loan liability to IFC stands intact and foreign exchange loan was received, proceeds of which were, in simple words, handed over to Exim Bank against rupee equivalent, namely, Rs. 3,138.50 lakhs. The money was utilized for capitalization in the wake of its modernization and expansion. The net gain of Rs. 520.68 lakhs by cancelling foreign exchange contracts arose out of cancellation of hedging which was resorted to cover the foreign exchange liability towards repayment of loan.
The concept of cost is enshrined in section 43 and it cannot go beyond the statutory definition by invoking the Accounting Standard (AS) in the context of deciding the issue on the anvil of the Income Tax Act in which dimunition of the cost and WDV is defined in terms of section 43 supplemented by the provisions of section 43A. In other words, the superior Court’s decision has not touched the area of dimunition in the concept of cost with reference to the cost or WDV of the depreciable Asset. Yet stated differently, it could be increased. It is submitted that the superior Court’s dictum, as said in the case of CHELLAPALLI that interest cost prior to the commencement of business incurred on account of capitalization could be considered as a cost and depreciation extended to this cost accordingly. However, there is not a single occasion which invite the decision of any superior court where the cost of the asset is to be diminished beyond the scope of section 43, which defines cost, read with section 43A in appropriate cases.’
The learned Counsel relied on the ITAT Delhi Special Bench decision in the case of Apollo Tyres Ltd. v. Asstt. CIT (2004) 268 ITR (AT) 1. The learned Counsel pointed out that in the above case, it has been held that such gain arising to the assessee as a result of cancellation of foreign exchange covers is a capital receipt. It was also held that such gain is to be deducted from the cost of plant and machinery as stipulated under section 43A of the Income Tax Act. Shri Khare contended that in the case of the assessee, section 43A is not applicable at all for the reason that the assessee did not purchase any plant and machinery for which payment was made in foreign exchange. The US dollar loan was swapped with Rupee equivalent from Exim Bank and the same was utilized in the project. It is, therefore, contended that in the case of the assessee, the gain cannot be deducted from the cost of the project. The learned Counsel drew our attention to the provisions of section 43(1) of the Income Tax Act which contains the definition of the words ‘actual cost’. It is argued that the ‘actual cost’ can be increased or reduced only to the extent specifically provided under various Explanations under section 43(1), It is submitted that the gain received by the assessee on cancellation of foreign exchange covers is outside the purview of section 43(1) and, therefore, ‘actual cost’ cannot be adjusted by reducing therefrom such gain.
17. The learned Departmental Representative Shri Keshav Saxena forcefully supported the order of the learned commissioner (Appeals). He contended that the very fact that the gross amount of gain has been credited to the profit and loss account and the gross loss has been debited similarly to the Profit And Loss account proves that these items are on revenue account and not on capital account. It is reiterated that the foreign exchange loan from IFC was never utilized by the assessee. The assessee exchanged such loan with rupee equivalent from Exim Bank and in contemplation of such exchange, the assessee cancelled the foreign exchange covers entered into by it with various Banks. It is contended that the gain is clearly arising to the assessee during the course of the normal business activities and it has no nexus whatsoever with acquisition of capital assets., It is, therefore, vehemently argued that the learned commissioner (Appeals) was fully justified in treating the amount as business income in the case of the assessee.
18. We have given our careful consideration to the rival arguments so effectively put before us by both the sides. We have also, carefully gone through the factual position, provisions of law and the legal position emerging from the various cases cited before us. The question posed before us is as to whether the gain realised by the assessee is in the nature of capital receipt or revenue receipt. The next question which flows from the main question is that in case the gain is in the nature of capital receipt, whether such gain is required to be reduced from the cost of the project. The facts which have been stated (supra) show that the assessee-company negotiated for a foreign exchange (US Dollars) loan from IFC with the avowed object of investing it in the new project. For the same purpose, the assessee-company drew the loan in one single settlement from IFC and having regard to the actual requirement of the assessee, the aforesaid loan comprising of US Dollars 10 million was swapped with rupee equivalent loan from Exim Bank. It is important to note that the assessee-company did not walk out of the agreement entered into by it with IFC. As mentioned above, the assessee-company actually availed the loan and also undertook the obligation to repay the loan in US dollars as per the terms and conditions. As part of the swapping arrangement, Exim Bank guaranteed repayment of the loan to IFC in US dollars on the due dates on behalf of the assessee-company. From the above, it is obvious that forall practical purposes, Exim Bank was only acting as an agent of the assessee-company insofar as the repayment of loan to IFC is concerecd
19. At this stage, the ITAT Delhi Special Bench decision in the case of Apollo Tyres Ltd. (supra) may be considered. The facts of that case are reproduced below from the headnote :
“The assessee-company was engaged in the business of manufacture and sale of automobile tyres, tubes, etc. The assessee imported certain plant and machinery for setting up a new tyre manufacturing plant near Baroda during the year 1991. For financing the project, the assessee borrowed funds in US dollars and pounds sterling from.US Exim, Bank and Commonwealth Development Corporation (‘CDC’ hereinafter referred to as). The amount of loan disbursed till the year under reference amounted to US dollars 35,83,839 from the Exim Bank and pounds 35,58,074 and pounds 11,15,000 from CDC. As per the agreement with the Exim Bank, the repayment of loan was to commence on 15-4-1992 and to be made in ten equal six monthly instalments. Similar terms of repayment were, stipulated in respect of loan from CDC. The assessee-company entered into forward contracts in foreign currency with the Indian Bank on different dates in June/October, 1990, and July, 1991, to coverits liability on foreign currency loans against fluctuations in currency rates. These forward contracts, brought forward from the preceding year, were however, cancelled on 30-4-1992, resulting in again of Rs. 14.06 crores. The Reserve Bank of India had issued revised instructions on 27-3-1992, permitting the cancellation of the forward contracts in foreign currency. These instructions were issued in pursuance of the introduction of the Liberalized E xxchange Rate Management System (LERMS) and with a view to creating a greater depth in the foreign exchange market and also to enable market participants to have greater flexibility. From 11-5-1992 to 29-6-1992, the assessee again entered into forward contracts with regard to US dollar loans. Out of six contracts entered during this period, two contracts – one entered into on 13-5-1992 and the other on 29-6-1992 were again cancelled on 26-2-1993. The remaining four contracts were rolled over and continued to remain effective till the end of the year, Le., on 31-3-1993. The assessee-company credited the gain arising on cancellation of forward contracts relating to amount of interest liability in foreign currency to the profit and loss account but the gains arising on the cancellation of contracts relating to the principal amount were adjusted against the cost of plant and machinery. The questions were whether the gains earned on cancellation of the foreign exchange forward contract were capital receipts or revenue receipts? If they were capital receipts, whether the same should be reduced from the cost of plant and machinery in connection with which the forward contract was entered into
The ITAT, Special Bench elaborately considered the above facts which are in pari materia with the facts of the assessee’s case on the question whether the gain resulting from cancellation of forward contracts is in the nature of capital or revenue receipt. The finding of the ITAT Special Bench is as under (reproduced from the headnote) :
“Held, by the Special Bench of the Tribunal (i) that it is now well-settled that where profit and 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 treated as profit or loss if the foreign currency is held by the assessee on revenue account or as a trading asset or as part of the circulating capital embarked in the business. But, on the other hand, if the foreign currency is held as a capital asset or as a fixed asset, such profit or loss would be of capital nature. The gains from cancellation of forward exchange contracts were capital receipts and did not arise from any business of dealings in foreign exchange or any adventure in the nature of trade. The forward contracts were entered into by the assessee with the sole purpose of guarding against enhancement of liabilities in repayment of foreign loans due to exchange rate fluctuations. These loans had been raised for the purpose of acquisition of plant and machinery abroad and, therefore, gains arising from cancellation of the contracts to the extent they related to principal amounts of outstanding loans would clearly fall in the capital field.”
Having regard to the categorical finding that the gain arising from cancellation of the forward cover contracts would be in the nature of capital receipt, the ITAT Special Bench considered the question as to whether the amount of the gain should be adjusted against the actual cost of the assets. Here the Special Bench held that the section 43A is very clear on this issue and, therefore, as per the provisions of section 43A, the gain or loss arising on cancellation of forward cover contracts must be adjusted against the actual cost. The ITAT was of the view that section 43A only reiterates and gives legal authenticity to the well-established and accepted accounting principles which emerge from Paragraphs 13, 14 and 15 of the AS 11 issued by the Institute of Chartered Accountants of India. These paragraphs, as reproduced at page 22 of the Report, are as under:
“13. An enterprise may enter into a forward exchange contract, or another financial instrument that is in substance a forward exchange contract, to establish the amount of the reporting currency required or available at the settlement date of a transaction. The difference between the forward rate and the exchange rate at date of the transaction should be recognized as income or expense over the life of the contract, except in respect of liabilities incurred for acquiring fixed assets in which case, such difference should be adjusted in the carrying amount of the respective fixed assets.
14. The difference between the forward rate and the exchange rate at the inception of a forward exchange contract is recognized as income or expense over the life of the contract. The only exception is in respect of forward exchange contracts relating to liabilities in foreign currency incurred for acquisition of fixed assets.
15. Any profit or loss arising on cancellation or renewal of a forward exchange contract should be recognized as income or as expense for the period, except in case of a forward exchange contract relating to liabilities incurred for acquiring fixed assets, in which case, such profit or loss should be adjusted in the carrying amount of the respective fixed assets.’
20. Insofar as the nature of the gain is concerned, we are of the view that the ITAT Special Bench decision in the case of Apollo Tyres Ltd. (supra) concludes the issue. In the present case, the loan in US dollars was taken by the assessee for investment in the new project. Thus, the loan was clearly intended to be utilized for acquiring capital assets. The loan was swapped with rupee equivalent received by the assessee from Exim Bank for the same purpose of investing it in the new project for acquiring capital assets. The forward cover contracts with the Banks were entered into by the assessee for the purpose of safeguarding against fluctuations in the rate of foreign exchange in respect of the loan in US dollars. Merely because eventually the assessee did not directly utilize the US dollars for acquiring the capital assets, but its rupee equivalent on swapping was utilized for such purpose, in our view, the character and nature of the gain arising from cancellation of the forward cover contracts do not alter. Such gain or loss is clearly in connection with, the acquisition of capital assets. Therefore, in our view, the Special Bench decision in the case of Apollo Tyres Ltd. (supra) would squarely apply and respectfully following the said decision, We hold that, the net gain of Rs. 520.68 lakhs is in the nature of capital receipt.
21. The important question which now arises is as to whether the aforesaid sum of Rs. 520.68 lakhs should be adjusted against the cost of the project for the purposes of determining the ‘actual cost’. The argument of the learned Counsel for the assessee is that such adjustment is permissible only under section 43A read with section 43(1) and that the case of the assessee is beyond the purview of section 43A, as the plant and machinery was never purchased by the assessee from abroad by making any payment in foreign exchange. The learned Counsel has also argued that the Supreme Court decision in the case of Challapalli Sugars Ltd. v. CIT(1975) 98 ITR 167 also cannot be applied to the facts of the assessee’s case. In that case, the finding of the Apex Court was confined to the interest expenditure on loan utilized for acquiring the capital assets for the period prior to commencement of production. It was held by the Supreme Court that for the aforesaid period the interest expenditure has to be added to the actual cost of the assets for the purpose of allowing depreciation. We have given our due consideration to these submissions made on behalf of the assessee-company’. It is true that the section 43A applies to a case where the assessee has acquired any assets in any previous year from a country outside India for the purpose of his business or profession. Therefore, we agree with the proposition of the learned Counsel for the assessee that, on strict interpretation, section 43A would not apply in the present case because the assessee has not acquired any assets from a country outside India. However, we are not inclined to accept the arguments of the learned Counsel for the assessee that the net gain arising to the assessee on cancellation of the forward cover contracts should not be and cannot be adjusted against the actual cost of the project. The reasons are stated hereunder
22. It is true that strictly speaking the provisions of section 43A may not be applicable to the case as the dollar loan has not been utilized for purchase of plant and machinery from abroad, but the same has been swapped for rupee equivalent loan with Exim Bank and the rupee loan so obtained has been admittedly utilized for acquiring plant and machinery or other capital assets for the new project. Thus, the purpose of the rupee loan obtained by the assessee from Exim Bank in exchange for the dollar loan is identical as stated in section 43A except that instead of purchasing the plant and machinery from abroad, these assets have been acquired from within the country by making payment in rupee. In our view, section 43A only authenticates the established principle of accounting that any expenditure, or for that matter, any income which is referable to the acquisition of capital assets before commencement of the business must be treated to have been incurred or earned on capital account and the same must be adjusted against the actual cost of the capital assets. This view is corroborated by the AS 11 issued by the Institute of Chartered Accountants, which has been reproduced (supra). In other words, even in the absence of section 43A, no expenditure/income directly connected with establishment of a new project has to be adjusted against the cost of such project. This view is vindicated by the leading Supreme Court decision in the case of Challapalli Sugars Ltd. (supra). The ratio of this decision is reproduced below from the headnote :
“Interest paid before the commencement of production on amounts borrowed by the assessee for the acquisition and installation of plant and machinery forms part of the ‘actual cost’ of the assets to the assessee within the meaning of the expression in section 10(5) of the Indian Income Tax Act, 1922, and the assessee will be entitled to depreciation allowances and development rebate with reference to such interest also.
As the expression ‘actual cost’ has not been defined, it should be construed in the sense which no commercial man would misunderstand. For this purpose it would be necessary to ascertain the connotation of the expression in accordance with the normal rules of accountancy prevailing in commerce and industry. The accepted accountancy rule for determining cost of fixed assets is to include all expenditure necessary to bring such assets into existence and to put them in working condition. In case money is borrowed by a newly started company which is in the process of constructing and erecting its plant, the interest incurred before the commencement of production on such borrowed money can be capitalized and added to the cost of the fixed assets created as a result of such expenditure.”
The Supreme Court has held, in unambiguous terms that the finance cost before commencement of production which is referable to acquisition of plant and machinery forms part of ‘actual cost’ of such plant and machinery. In the present case, the forward cover contracts entered into by the assessee with several banks are inextricably connected with the acquisition of capital assets or with setting up of the new project. It is notable that during the immediately preceding assessment year, the assessee incurred expenditure of Rs. 70.41 lakhs by way of roll over charges of such forward cover contracts and the same has been added by the assessee to the cost of work-in-progress of the new project. On the same analogy, if the assessee receives any gain on such cancellation, it is logical that the same must be reduced from the cost of the new project. As per section 43(1), ‘actual cost’ means the actual cost of the assets to the assessee reduced by that portion of the cost thereon, if any, as has been made directly or indirectly by any other person or authority. The crucial words are that for the purposes of sections 28 to 41, the phrase ‘actual cost’ means actual cost of the assets to the assessee. The words ‘actual cost of the assets to the assessee’ are nowhere defined in the Income Tax Act except that in various Explanations, there are certain adjustments, which have to be made. The Supreme Court, in the case of Challapalli Sugars Ltd. (supra) also observed that the expression ‘actual cost’ has not been defined in the Indian Income Tax Act, 1922. The Supreme Court laid down a very important principle that such expenditure which is referable to acquisition of capital assets has to be added to the cost of such assets to arrive at the ‘actual cost’ for the purposes of allowing depreciation. In our view, in the present case, net loss or income arising from the forward cover contracts taken by the assessee is directly connected with setting up of the new project and, therefore, the principle laid down by the Supreme Court must be followed and such loss or income must be adjusted against the ‘actual cost’ of the project for the purpose of allowing depreciation. Here, it may be mentioned that the learned Commissioner (Appeals) had drawn a rather adverse inference from the fact that the loss or gain arising from cancellation of the forward cover contracts have been treated in the books of account of the assessee as of revenue nature and the same have been either debited or credited to the profit and loss account. In our view, the accounting entries passed in the books of account of the assessee, though relevant, are not determinative of the correct nature of the transaction. The nature of the transaction has to be decided in consonance with the provisions of law and the legal position as emerging from the judicial pronouncements.
23. In view of the discussion given above, we hold that any loss or gain arising to the assessee as a result of cancellation of forward cover contracts is required to be added or reduced from the actual cost of the project for the purposes of allowing deprecation. The assessing officer is, therefore, directed to re-compute the actual cost of the project accordingly and the written down value for the purpose of allowing depreciation may be revised for all the relevant subsequent assessment years.
24. In the result, the assessee’s appeal stands partly allowed.