Sec 10B: Speculation business cannot be considered as business of undertaking
ACIT
v.
K. Mohan & Co. (Exports) P. Ltd.
ITAT, BANGALORE BENCH ‘A’
ITA No. 113/Bang/09
August 7, 2009
RELEVANT EXTRACTS:
9. We have heard both the parties. A forward contract is an agreement between a buyer and a seller obligating the seller to deliver a specified asset of specified quality and quantity to the buyer on a specified date at a specified place and the buyer in turn Is obligated to pay the seller a pre-negotiated price in exchange of the delivery. In the Instant case, the assessee is engaged in the business of manufacture and export ofreadymade garments. In respect of export of readymade garments, the assessee enters into forward contract in respect of foreign exchange to be received as a result of export. This is done to avoid the risk of loss due to foreign exchange fluctuation. The assessee at the time of agreeing to export takes into consideration its cost in rupees and also considers the spot price of rupee againstforeign exchange . When the actual export is made, this spot price may be different as against the spot price on the date on which the assessee expected an export order. On the date of receipt of theforeign exchange, if the spot price of rupee against foreign exchange Increasesthen the assessee will be benefited. For example, when the assessee undertakes to accept an export order, the value of one dollar is 40 rupees and when the assessee actually exports, the value of one dollar may be different. The assessee enters intoforward contract for./ receipt:.-of rupees-against dollar. If on the date of receipt of foreign an exchange, the rate of one dollar is 50 rupees then the assessed will be benefited by rupees; 10 per dollar due to forward contract. The assessee may credit the amount as per forward contract as the sale price of export. Alternatively, he can credit the spot price on the date of accepting the export order as the sale price and the difference due to spot, price on the date of settlement offorward contract may be credited as profit due to forward contract. However, during the course of proceedings before us, the learned AR admitted that profit shown due to forward contract is in respect of those contracts against which no actual delivery of foreign exchange was made. The forward contract is to be settled either by delivery or the difference is either credited or debited by the banker.
10. Section 43(5) is as under. -
“Speculative transaction” means a transaction in which a contract for the purpose or sale of any commodity, including stocks and shares, is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips:
Provided that for the purposes of this clause -
a) a contract in respect of raw materials or merchandise entered into by a person in the, course of his manufacturing or merchanting business to guard against loss through future’ price fluctuations in respect of his contracts for actual delivery of goods manufactured by him or merchandise Sold by him
b) a contract in respect of stocks and shares entered into by a dealer or investor therein to guard against loss in his holdings of stocks and shares through price fluctuations; or
c) a contract entered into by a member of a forward market or a stock exchange in the course of any transaction in the nature of jobbing or arbitrage to guard against loss which may arise in the ordinary course of his business as such member;
d)~~ Explanation”
11. A transaction is speculative in case the contract is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity. In the instant case, it has been admitted by the learned Ak that proof it credited on account offorward contract is in respect of those forward contracts in which there has been no actual delivery.
12. The Hon’ble jurisdictional High Court in the case of V N Sarsetty y CIT 163 ITR 727 had an occasion to consider the meaning of the words “speculative transaction”. In the case before the Hon’ble jurisdictional High Court, the issue was; allowability of deduction of Rs.35;150/- which was to be paid by the assessee on account of non-delivery of certain quantity of cotton under the agreement dated February 5, 1969;. The Hon’ble jurisdictional High Court held that if ‘the contract is settled during the subsistence of /the contract without delivery -
then the transaction is speculative. In case a dispute arises and the amount is paid as a breach of the contract then the matter is to be considered differently. The Hon’ble jurisdictional High Court in that case observed as under:-
“On the date of the settlement, the contract was subsisting and the amount liable to be paid was computed by the panchas and, as per the award of the panchas, the assessee was made to part with the money. It cannot, therefore, be said that the amount paid was by way of damages for breach of the contract The settlement clearly indicates that the contract on that day was subsisting and the amount of Rs. 35,000 paid by the assessee was under the contract. In Bhandari Rajmal Kushalraj v CIT (1974) 96 ITR 401, this court has observed thus (at page 403):
“A contract can be settled only during the subsistence of the contract. If a breach occurs by the non-performance of the contract by actual delivery of transfer of the commodity or scrips and thereafter the parties to the contract settle the amount of damages by paying the difference between the contract price and the market price on the due date of performance that would not amount in law to settling a contract…
In order that a. transaction may fall within the scope &f the expression ’speculative transaction ‘it must be a transaction: in swhich a contract far purchase or sale of cfcyy: commodity/ including, stocks and Shares periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips. What is important to be noticed is that the contract for purchase or sale of any commodity must be settled otherwise than by the actual delivery or transfer of the commodity or scrips”.
The view taken by this court has been -approved by the Supreme Court in CIT v Shantilal P. Ltd (1983) 144 ITR 57 wherein it was observed that a contract can be said to be settled for the purpose of speculative transaction u/s 43(5) of the Act if, instead of effecting the delivery or transfer of the commodity envisaged by the contract, the promisee, in terms of section 63 of the Contract Act, 1872, accepts instead of it, any satisfaction which he thinks fit and what is really settled by damages is the dispute between the parties and, therefore, it is quite different from the settlement of the contract A contract is settled when it is either performed or the promisee dispenses with or remits, wholly or in part, the performance of the promise made to him or accepts instead of it any satisfaction which he thinks fit.
In the instant case, as we earlier observed, the buyer, instead of waiting to take actual delivery of the cotton^ has accepted a total amount of Rs.35,000 in full settlement of the contractual obligations. This case,-therefore, clearly falls within section43(5) of the Act”.
13. The Hon’ble Calcutta High Court in the case of Hoosen Kasam Dada (India) Ltd. v CIT 52 ITR 111 had an occasion to consider as to whether the intention to give delivery or not is material to decide the transaction as speculative when there is no actual delivery. The Hon’ble High Court held that the definition of speculative transaction as contained in the Act has restricted the meaning of theexpression ’speculative transaction’ and in a sense simplified it for the purposes of computation of income tax. When there is no delivery under a settlement contract, it is a speculative transaction. On the other hand, however speculative the transaction might be, if there is delivery, it cannot be considered as a speculative transaction. Hence, the intention of the assessee thatforward contract will be settled through actual delivery is not material and the only material thing is to see as to whether there has been actual delivery or not.
14. The Hon’ble Madras High Court in the case of Sri Ranga Vilas Ginning and Oil Mills v CIT 133 ITR “85 had an occasion to consider the meaning of ’speculation business’. In the case before the Hon’ble High Court, the assessee was dealing in the business of groundnut oil; The assessee entered into/forward contract for supply of groundnut oil;. Forward contract was settled not by actual delivery but by payment of reference, Such loss was held to; be loss of speculation business.
15. The Hon’ble Andhra Pradesh1 High Court in the case of CIT v Puttaiah Sheshaiah and Company 146 ITR 168 also had an occasion to consider- the definition of speculation business. The Hon’ble High Court held that the intention of the parties is immaterial and irrelevant. In that case, majority of contracts were performed. However, for some of -4-he contracts, the assessee was not able to perform on account of want of wagons and the assessee paid difference in respect of unfulfilled contracts. The loss in respect of such unperformed contracts was considered as speculation loss.
16. We are aware of the decision of the Hon’ble Calcutta High Court in the case of CIT v Soorajmull Nagarmull 129 ITR 169. In this case, the assesseeentered into foreign exchange contract in 1952. The assessee disputed its liability and the dispute was settled in 1955. On the basis of these facts, it was held by the fact finding authority that the assessee was required to pay difference by way of liquidated damages. On this basis, it was held that the loss is not speculative. This aspect has been considered by the jurisdictional; High Court as mentioned above. If the contract is settled during the subsistence^ of the contract without actual delivery then it amounts to a speculative transaction. If dispute arises and it is the breach of the contract, which is settled then it may not amount to speculative transaction.
17. Proviso to section 43(5) specifics certain categories of transactions which cannot be treated as speculative transaction. Exclusion is of transaction in respect of contract for actual delivery of goods manufactured or merchandise sold by him. In this case contract is in respect of foreign exchange which is not a good manufactured by assessee or merchandise sold by him. The contract is not for the goods manufactured by assessee. Hence, it cannot be said that transaction of settlement of foreign exchange contract settled without actual delivery can be considered to be covered under proviso to section 43(5).
18. We have also gone through the decision of Mumbai Tribunal on which the learned AR has placed reliance. However, the Mumbai Bench has not considered Explanation 2 to section 28 of the I T Act. Explanation 2 to section 28 says that where speculative transactions carried on by an assessee are of such a nature as to constitute a business, the business (hereinafter referred to as ’speculation business’) shall be deemed to be distinct and separate from any other business.
The Hon’ble Madras High Court in the case of Sri Ranga Vilas Sinning: and Oil Mills (supra) had an occasion to consider as to whether the forward contract for supply of groundnut oil which were settled not by actual delivery is to be considered as a speculation business in view of Explanation 2 to section 28. The Hon’ble-Madras High Court held that if in a business, the assessee is doing regular business in spot dealings in a commodity and also indulges in speculative transactions in the same commodity then speculative transactions are to be held as distinct business as speculation business on account of Explanation 2 to section 28.
19. It is true that in the following cases it was held that a single transaction cannot be held as speculative business in view of Explanation 2 to section 28:-
-
Addl. CIT v Maggaji Shermal 114ITR 862
-
CIT v Indian Commercial Company Pvt. Ltd. 106 ITR 465
However, the Hon’ble Rajasthan High Court in the case of CIT v Shree Textiles 206 ITR 345 and Hon’ble M P High Court in the case of CIT v Bikamchand Jankilal 131 ITR 554 has held that even a single speculative transaction can constitute speculation business.
20. However, in the instant case, there are a number of transactions and the forward contracts have been taken in respect of 46% of the export turnover. Thus, it is not an isolated transaction. Hence, in view of Explanation 2 to section 28, the profit from the forward contract will have to be settled as profit from speculation business
21. It is true that section 10B(1) says that a deduction of such profit and gains as are derived by 10Q% export oriented undertaking is to be allowed asdeduction. For the purposes of sub-section (1), the quantum of deduction is to be computed as per section 10B(4). The deduction permissible is in the same proportion to the profit of the business of the undertaking as it bears to the export turnover to the total turnover. The words uses are “profit of the business of the undertaking”. The business of the undertaking is to manufacture and export readymade garments. We had already held that profit from forward contract is profit to be assessed under the head ’speculation business’ and speculation business is not the business of the undertaking. Hence, for the purpose of computing deduction u/s 10B, speculation business cannot be considered as the business of undertaking. We have also considered the decision of the jurisdictional Bench on which the learned AR has placed reliance. The facts in that case are different, as in that case, the issue was in respect of interest and not profit from other business. Hence, the ratio of law as laid down by the jurisdictional Bench in the case of Motorola India (supra) is not applicable.
22. Considering the; facts as discussed above, we hold that the learned CIT(A) was not justified in holding that profit from forward contract is to be included, in the profit of the business of the undertaking for the purposes of computing deduction under section 10B. We uphold the order of the Assessing Officer.
