M/S.Apollo Tyres Ltd vs The Deputy Commissioner Of Income ...
2021 Latest Caselaw 16221 Ker

         IN THE HIGH COURT OF KERALA AT ERNAKULAM
                           PRESENT
           THE HONOURABLE MR.JUSTICE S.V.BHATTI
                              &
      THE HONOURABLE MR. JUSTICE BECHU KURIAN THOMAS
 WEDNESDAY, THE 4TH DAY OF AUGUST 2021 / 13TH SRAVANA, 1943
                    ITA NO. 272 OF 2013

 AGAINST THE ORDER IN ITA 31/COCH/2010 OF I.T.A.TRIBUNAL,
                  COCHIN BENCH, ERNAKULAM

APPELLANT/ APPELLANT :

           M/S.APOLLO TYRES LTD.,
           6TH FLOOR, CHERUPUSHPAM BUILDINGS,
           SHANMUGHAM ROAD, KOCHI-31. (PAN NO:AAACA69900)

           BY ADVS.
           SRI.JOSEPH MARKOSE (SR.)
           SRI.V.ABRAHAM MARKOS
           SRI.ABRAHAM JOSEPH MARKOS
           SRI.ABRAHAM VARGHESE THARAKAN
           SRI.BINU MATHEW
           SRI.TOM THOMAS KAKKUZHIYIL

RESPONDENT/ RESPONDENT :

           THE DEPUTY COMMISSIONER OF INCOME TAX
           CIRCLE 1(1), RANGE-1, KOCHI-682 018.

           BY ADVS.
           SRI.P.K.R.MENON,SR.COUNSEL, GOI(TAXES)
           SRI.JOSE JOSEPH, SC, FOR INCOME TAX
           SRI.CHRISTOPHER ABRAHAM, INCOME TAX DEPARTMENT
           SRI.K.M.V.PANDALAI, INCOME TAX DEPARTMENT


     THIS INCOME TAX APPEAL HAVING COME UP FOR ADMISSION ON
04.08.2021, THE COURT ON THE SAME DAY DELIVERED THE
FOLLOWING:
 I.T.A. No.272/13                       -:2:-


                                 JUDGMENT

Dated this the 4th day of August, 2021

Bechu Kurian Thomas, J.

The issue raised in this appeal relates to the

disallowance of foreign exchange loss of Rs.5,09,01,001/- for

the assessment year 2006-07. This appeal was admitted on the

following three questions of law :-

1. Whether on the facts and in the circumstances of the case, the learned Tribunal is justified in law in confirming the disallowance of foreign exchange loss of Rs.5,09,01,000/- holding that the amount is of the nature of capital loss;

2. Whether on the facts and in the circumstances of the case, the impugned order of the learned Tribunal on the issue is vitiated by perversity in as much as the Tribunal has confirmed the disallowance of foreign exchange loss by setting up an entirely new case invoking the doctrine of lifting the corporate veil without any supporting facts and evidence on record and without any such finding recorded by the assessing officer.

3. Whether on the facts and in the circumstances of the case the very basis adopted by the Tribunal for confirming the disallowance namely that the acquisition of the business of Dunlop by the subsidiary of the appellant is in fact acquisition of capital asset by the appellant itself runs contrary to the separate legal entity principle endorsed by the Hon'ble Supreme Court in Azadi Bachao Andolan [263 ITR 706 (SC)] and Vodafone International Holdings [344 ITR 1 (SC).

               2.      The    assessee      is    a   company     engaged      in

manufacture and sale of automobile tyres and tubes.                      For the

assessment year 2006-07, the assessing officer computed the

total income of the asessee at Rs.66,15,44,477/-. While

computing the total income of the assessee, an amount of

Rs.5,09,01,000/- claimed as a deduction on account of foreign

exchange fluctuation loss was disallowed by the assessing officer

by treating it as a capital loss. On appeal, the Appellate

Authority dismissed the appeal filed by the assessee against the

disallowance. In second appeal, the Tribunal confirmed the said

disallowance. Thus, the assessee has preferred this appeal under

Section 260A of the Income Tax Act, 1961 (for short, 'the Act').

3. It may be necessary to refer briefly to the

circumstances of this case as pleaded by the assessee. With a

view to expand its business, the assessee intended to take over

the Dunlop Tyre Manufacturing Company in South Africa. For

that purpose, it formed a company in Mauritius as a wholly-

owned subsidiary of the assessee known as Apollo (Mauritius)

Holdings Pvt. Ltd (AMHPL). Assessee had formed yet another

subsidiary known as Apollo (South Africa) Holding Pvt. Ltd.

(ASAHPL). In the meantime, assessee entered into a foreign

exchange forwards contract with the Citi Bank to reduce the risk

of foreign exchange rate fluctuation. On that basis, a loan was

issued by Citi Bank to the assessee. The loan of 314 Million

South African Rand issued to the assessee was given as a loan

by the assessee to its subsidiary AMHPL who inturn gave it to

ASAHPL to acquire the business of Dunlop Tyre Manufacturing

Company in South Africa. It is the case of the assessee that

since the purpose for which the foreign exchange forwards

contract was entered into, could not fructify till March 2006, the

forward contract with the Bank had to be settled on the due date

which was on 14.03.2006 and since the RBI did not permit roll

over of payments beyond three months, the loan received had to

be settled with the bank. The settlement of foreign exchange in

March 2006 resulted in a loss of Rs. 5,09,01,000/-. This loss is

the subject matter of this appeal. (It is worth mentioning that

ASAHPL had acquired the entire shares of Dunlop Tyre Company

of South Africa on 21-04-2006.)

4. According to the assessee, the acquisition of

Dunlop Tyre of South Africa enabled the parent company i.e; the

assessee, to run its business more efficiently and effectively. The

established distribution network of Dunlop, the advantages of

acquiring the know-how of ultra-high-performance radial car

tyres and easier access to raw materials at reduced costs were

the advantages of the acquisition as claimed by the assessee.

5. Assessee claimed that the loan advanced by it to

the subsidiary was on consideration of business expediency and

that was the reason for the loss of Rs.5.09 crores for the AY

2006-07. Therefore, it claimed deduction under section 37(1) of

the Act. However, the assessing officer disallowed the loss. It

was held that the expenditure incurred by the subsidiary

company for its business was not allowable in the hands of the

holding company as the subsidiary company was a separate legal

entity and also that the expenditure incurred for acquisition of a

capital asset was a capital expenditure. The first appeal and

even the second appeal to the Tribunal were both rejected. The

Tribunal sustained the disallowance after holding that if the

corporate veil of the two subsidiary companies, i.e; those at

Mauritius and the other at South Africa are lifted, loss in question

could be understood to be suffered during the process of

acquisition of a capital asset and hence the loss ought to treated

only as a capital loss. The assessee has thus preferred this

appeal under section 260A of the Act.

6. We heard Senior Advocate Joseph Markose

instructed by Adv. Sharad Joseph Kodianthara, on behalf of the

assessee and the Adv. Jose Joseph, learned Standing Counsel for

the Department.

7. Appellant had entered into the foreign exchange

forward contract with Citi Bank in January 2006. The purpose

for which the loan was availed could not materialise even by

March 2006. As the RBI did not permit roll over of a foreign

exchange forward contract beyond three months, assessee

repaid the loan on 14-03-2006. In the course of repayment, due

to fluctuation in the rate of foreign exchange, assessee incurred

a loss of Rs.5,0,901,000/-.

8. The foreign exchange forward contracts are

generally entered into by Assessees as a measure of protection

against an increase in liabilities while advancing foreign

exchange currency loans due to the exchange rate fluctuations.

Accordingly, when profit and loss arise 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 are generally treated as profit and loss on revenue account.

If, on the other hand, the foreign currency is held as a capital

asset or as a fixed asset, such profit or loss would be of a capital

nature.

9. It was contended that the loss of Rs. 5.09 crores

was incurred due to cancellation of forward contracts in foreign

exchange which was inextricably linked to the advancement of

foreign currency loans to the Mauritius subsidiary and the loan

was an advance for the purpose of the business of the assessee

company. The advantage intended to be gained by the assessee

was an enhancement of efficiency of tyre manufacturing business

by leveraging the sophisticated technology of Dunlop tyres for

the manufacture of radial tyres as well as obtaining a wide

distribution network and improved availability of raw materials at

reduced costs.

10. Learned Senior Counsel for the assessee further

submitted that the Tribunal went on a completely wrong tangent

in treating the loss suffered by the assessee due to the foreign

exchange rate fluctuation as a capital loss. It was also

submitted that the Tribunal ought not to have indulged in lifting

the corporate veil to disallow the claim of deduction. Learned

counsel relied upon the decisions in SA Builders Ltd. V.

Commissioner of Income Tax (Appeals), Chandigarh and

Others [(2007) 288 ITR 1], Patnaik and Co. v. Commissioner

of Income Tax [(1986) 27 Taxman 287) and Union of India

and Others v. Azadi Bachao Andolan and Others [(2003)

263 ITR 706:[(2004) 10 SCC 1] in support of his contentions.

11. The learned Standing Counsel for the Department,

on the other hand, submitted that the loss incurred by the

assessee was on account of the loan availed for purchasing a

capital asset in South Africa through the subsidiary companies

and as it was intended for procuring a capital asset, the loss was

not allowable as a deduction since it could be termed only as a

capital expenditure. It was further submitted that the floating of

two subsidiary companies one in Mauritius and the other in

South Africa were clear attempts to avoid payment of tax.

According to the learned counsel, the two companies that were

floated, as mentioned above, were sham companies. The entire

loan for acquisition of assets can only be treated as a capital

asset. On the aforesaid basis, it was argued that the appeal only

merits dismissal.

12. We have considered the rival contentions. It is

admitted that the assessee had availed the foreign exchange

loan for expanding its business by taking over Dunlop in South

Africa through the subsidiaries. It is worthwhile to refer to

section 37 of the Income Tax Act 1963; as it stood then :

S. 37 General;

(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 1.- 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.]

13. The words 'for the purpose of business' in S.37(1)

have been time and again observed by the Supreme Court to be

given a wider scope than the words for the purpose of earning

income, profits or gains (reference can be made to Madhav

Prasad Gatiya v. Commissioner of Income Tax, UP.

Lucknow [(AIR 1979 SC 1291). Similarly, in section 37 of the

Act, it has also been stated that any expenditure which is

expended wholly and exclusively for the purposes of the

business or profession shall be allowed as an expense while

computing the income chargeable under the head "income or

gains" under the business or profession. The expenditure

referred to in section 37 of the Act will undoubtedly include

expenses incurred as a measure of commercial expediency.

14. The words commercial expediency is a word of

wide import. It has been held that the said word can include

such expenditure that a prudent businessman would incur to

improve his business. In this context, the decision relied upon

by the learned Senior Counsel for the assessee is relevant. In

SA Builders Ltd. v. Commissioner of Income Tax

(Appeals), Chandigarh and Others [(2007) 288 ITR 1], the

Supreme Court considered a case where the assessee had

diverted funds borrowed by it to a sister concern without

charging any interest. The funds so borrowed incurred

proportionate interest payable to the bank. The total interest

paid to the bank for the amount so borrowed, was claimed as a

deduction under section 37 of the Act. The claim was disallowed

by the Tribunal and confirmed by the High Court. However, the

Supreme Court interfered with the finding. It was observed in

the said decision that "the correct view in our opinion was

whether the amount advanced to the subsidiary or associated

company or any other party was advanced as a measure of

commercial expediency". The Supreme Court further observed

that "We agree with the view taken by the Delhi High Court in

Commissioner of Income Tax v. Dalmia Cement (B.) Ltd. [2002 254

ITR 377] that once it is established that there was nexus between the

expenditure and the purpose of the business (which need not

necessarily be the business of the assessee itself), the Revenue

cannot justifiably claim to put itself in the arm-chair of the

businessman or in the position of the board of directors and assume

the role to decide how much is reasonable expenditure having regard

to the circumstances of the case. No businessman can be compelled

to maximize his profit. The income-tax authorities must put

themselves in the shoes of the assessee and see how a prudent

businessman would act. The authorities must not look at the matter

from their own view point but that of a prudent businessman. As

already stated above, we have to see the transfer of the borrowed

funds to a sister concern from the point of view of commercial

expediency and not from the point of view whether the amount was

advanced for earning profits".

15. It is the admitted case of the assessee that the

loan was taken for providing funding to its subsidiary company

at Mauritius to acquire a company in South Africa for the

purpose of enhancing its business and for procuring raw

materials at reduced costs. Generally, any prudent businessman

would attempt to indulge in such acts for increasing their profits

by improving the business. However, the Tribunal has proceeded

to treat these acts of the assessee as an attempt to acquire

property and increase their capital base. For this purpose, the

Tribunal has lifted the corporate veil.

16. In the case of Union of India (UOI) and

Others v. Azadi Bachao Andolan and Others [(2003) 263

ITR 706 (SC)] the Supreme Court held that the Indo-Mauritius

Double Taxation Avoidance Convention, 1983 has great legal

significance and that, notwithstanding the legal steps taken by

an assessee under the convention, if the intended legal result

has not been achieved, the court will be entitled to overlook

intermediate steps but it would not be permissible for the court

to treat the intervening legal step as non est based upon some

hypothetical assessment of the "real motive."

17. On an appreciation of the findings recorded by

the Tribunal, we notice that the Tribunal has proceeded on a

singular angle with an assumption that the ultimate aim of

acquiring an asset was a measure of tax avoidance without even

bearing in mind the principles of the Indo-Mauritius Double

Taxation Avoidance Convention, 1983. The Tribunal has also not

considered the concept of commercial expediency while

determining the question whether the expenditure claimed is

allowable as a deduction under section 37 of the Act. It cannot

be stated as a general principle that in every case where a loan

is taken, even if the ultimate purpose is for acquiring a capital

asset, and a resulting loss ensues thereon, the same ought to be

treated as a business loss. According to us, the answer depends

upon the facts and circumstances of each case. The issue should

have been approached from the point of view of a prudent

businessman and not from the eyes of the taxing authorities.

Whether the loan was taken as a measure of commercial

expediency or not ought to have governed the consideration of

the issue in this case rather than the motive behind establishing

the two subsidiaries. The concept of lifting the corporate veil had no

application in the instant case. The corporate veil is lifted only in

certain specific instances, especially when fraud is committed, or

when tax is sought to be evaded, or when the Company resorts to

illegal activities. Formation of subsidiary company in Mauritius cannot

be regarded as such an illegal act as explained by the Supreme Court

in Union of India (UOI) and Others v. Azadi Bachao

Andolan and Others [(2003) 263 ITR 706 (SC)]. We feel that

as a final fact finding authority, the Tribunal ought to have

considered the matter from a practical point of view, bearing in

mind the principles laid down by the Supreme Court in the above

referred cases.

18. Having regard to the view taken by the Supreme

Court in the decisions referred to above and the contradictory

findings recorded by the Tribunal, which according to us clearly

amounts to making a new case in favour of the revenue, We are

of the view that the order of the Tribunal is liable to be set aside

and a fresh consideration is to be carried out by the Tribunal.

In the aforesaid circumstances, we set aside the order

of the Tribunal dated 29.5.2013 in I.T.A. No.31/Coch/2010 and

remand the same to the Tribunal itself, for fresh consideration.

Sd/-

S.V.BHATTI, JUDGE

Sd/-

BECHU KURIAN THOMAS, JUDGE

RKM

APPENDIX

PETITIONER'S ANNEXURES :

A1 : COPY OF THE ASSESSMENT ORDER DATED 19.12.2008 OF THE 1ST RESPONDENT.

A2 : COPY OF THE APPELLATE ORDER DATED 30.11.2009 OF THE COMMISSIONER OF INCOME TAX (APPEALS)-II, KOCHI.

A3 : CERTIFIED COPY OF THE IMPUGNED ORDER DATED 29.05.2013 OF THE INCOME TAX APPELLATE TRIBUNAL, KOCHI BENCH.