DCIT 3(2), R.No. 674, 6th floor, Aaykar Bhavan, M K Road, Mumbai-20 Vs. Kotak Mahindra Investment Ltd. 36, 38A Nariman bhavan, 227, Nariman Point, Mumbai-400021
April, 10th 2015
INCOME TAX APPELLATE TRIBUNAL,MUMBAI - A BENCH
[^ , Û Û],
Before S/Sh. I P Bansal,Judicial Member & Rajendra,Accountant Member
/.ITA No.7739/Mum/2012,[ [/Assessment Year-2001-02
DCIT 3(2), Kotak Mahindra Investment Ltd.
R.No. 674, 6th floor, 36, 38A Nariman bhavan, 227,
Aaykar Bhavan, M K Road, Vs Nariman Point, Mumbai-400021
( /Assessee) (× / Respondent)
/ Revenue by :Shri Asghar Zain
[ /Assessee by :None
/ Date of Hearing : 09 - 04 -2015
/ Date of Pronouncement : 09 -04-2015
, 1961 254(1) Û[
Order u/s.254(1)of the Income-tax Act,1961(Act)
Û] PER RAJENDRA, AM-
Challenging the order dated 17.10.2012 of the CIT(A)-4,Mumbai, Assessing Officer (AO) has
raised following Grounds of Appeal.
1."On the facts and circumstances of the case and in law, the 13. CIT (A) has erred
in deleting the addition made, on account of disallowance of Mark to Market loss Rs.
4,98,65,834/- in trading of derivates.
2."The appellant pra y s that the order of CIT (A) on the above ground he set aside and that
of the Assessing Officer he restored".
3."The appellant craves leave to amend or alter any ground or add a new ground which
may be necessary."
Assessee- company engaged in the business of financial services,filed its return of income on
28.09.2009,declaring total income of Rs.1.55 Crores.The AO completed the assessment
u/s.143(3)of the Act on30.11.2011,determining the income of the assessee at Rs.5.18 Crores.
Effective ground of appeal is about disallowance of Mark to Market loss Rs. 4,98,65,834/- in
trading of derivates.During the assessment proceedings,the AO disallowed Mark to Market losses
on Nifty options on the ground that such loss was notional and contingent in nature.In the
appellate proceedings,the First Appellate Authority(FAA)allowed the appeal of the assessee.
During the course of hearing before us,Authorised Representative(AR)and Departmental
Representative(DR)agreed that the identical issue in the case of the assessee was decided in its
favour by the Tribunal while adjudicating the appeal for the immediate previous AY.We find that
vide its order,dated 03.05.2013(ITA/1502/Mum/AY.2008-09),the Tribunal has decided the issue
" We have heard the learned representative of the parties and have also gone through the record.
The stock future is one of the types of forward contract, which is traded on exchanges. This can be
traded in BSE as well as in NSE. In such type of contracts the stock is not actually purchased
rather the profit or loss is calculated on the book value in comparison to the actual market rate of
the stocks on the date which has been agreed by the parties for the performance of the contract.
Certain stocks are booked to be purchased at predetermined particular rate on future date and
when such future date of performance of contract becomes due, then the predetermined price is
2 ITA No.7739/M/2012 Kotak Mahindra Investment Ltd.
compared with the actual market rate of the booked stock and the difference, if any, is paid by the
parties without actually purchasing or selling the stocks in question. The daily market rate of the
said stock in question is taken and the difference between the market rate and the predetermined
rate is daily calculated and the difference margin, if any, is received/paid to the broker and finally
on the stipulated date the contracts are squared off resulting into actual loss or profit. The
contracts in such type of cases can be squared off before the arrival of actual performance date of
contract, as the profit and loss are calculated on daily basis and the margins are settled
accordingly. Such type of contracts are not purely contingent in nature rather loss or profit is
somewhat ascertainable in view of constant watch on daily market value and even the quantum of
profit or loss though not actually ascertainable, can be anticipated in view of the trends of the
market. The difference between the predetermined price and market price is settled daily on mark-
to-market basis. In such type of contracts, it is not the stock value which is subject matter of the
contract rather the contract itself is the stock in trade which is purchased by paying/depositing the
initial margins on percentage basis to the broker taking into consideration maximum anticipated
rise or fall in the price of the stock in future. As observed above, the difference of margin in
calculated and settled on daily basis in view of the market rates and trends. The Hon'ble Supreme
Court in the case of CIT v. Woodward Governor India (P.) Ltd (2009) 179 Taxman 326, while
dealing with the question as to whether the additional liability arising on account of fluctuation in
the rate of exchange can be allowed to be adjusted pending actual payment of the varied, has
observed that "expenditure" as used in section 37 in Income Tax Act may in the circumstances of a
particular case cover an amount which is a "loss" even though said amount has not been given
from the pocket of the assessee. It has been further observed that the ordinary principle of
commercial accounting requires that in the Profit & Loss account the value of stock in trade at the
beginning and at the end of the year should be entered at cost or market price, whichever is lower.
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. 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. 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. Under section 145(2) of the IT Act, the Central Government is empowered to notify
from time to time the Accounting Standards to be followed by any class of assessee or in respect of
any class of income.
The learned AR has brought into our notice that the method of accounting made by the assessee is
as per Accounting Standards. The assessee in this respect has relied upon Explanation to Note
No.I of Schedule 19 of the "Notes to Accounts" with regard to significant accounting policies,
which read as under:
"Equity Index/Stock Futures
a. "Initial Margin- Equity/Index Derivative Instrument" representing the initial margin paid
and/or additional margin paid over and above the initial margin, for entering into contract for
equity index/stock futures, which are released on final settlement/squaring - up of the underlying
contracts, are disclosed under Loans and Advances.
b. "Deposit for Mark to Market Margin - Equity/Index Derivative Instrument" representing the
deposit paid in respect of mark to market margin is disclosed under Loans and Advances.
c. Equity Index/Stock Futures are marked to market on a daily basis and the resultant unrealized
loss is recognised in the profit and loss account. On final settlement or squaring up of contracts
for equity index/stock futures, the realised profit or loss after adjusting the unrealized loss already
accounted, if any is recognised in the profit and loss account and shown as Profit/(Loss) on
trading in Options/Futures.
So trading in stock future has not only been recognized but certain standards have also been recognized
for recording loss and profit under such type of transactions.
While dealing with a similar issue, the co-ordinate Bench of this Tribunal vide order dated 10.11.2010 in
ITA No.5324/Mum/2007 for A.Y. 2004-05 in the case of "Edelweiss Capital Ltd.", has observed as under:
3 ITA No.7739/M/2012 Kotak Mahindra Investment Ltd.
"We have considered the facts and the rival contentions. In the Scheduled annexed to and forming
part of the Balance Sheet and Profit & Loss Account for the year under appeal (page 13 of the
Paper Book), the assessee has made the following Note:
H. Equity Futures-Index/Stock
(a) Initial Margin- Equity Derivative Instruments", representing initial margin paid, and
"Margin Deposits", representing additional margin over and above initial margin, for entering
into contracts for Equity Index/ Stock Futures, which are released on final settlement/squaring-up
of underlying contracts, are disclosed under Loans and Advances.
(b) Equity Index/Stock Futures are marked-to- market on a daily basis. Debit or credit balance
disclosed under Loans and Advances or Current Liabilities respectively, in the "Mark-to-Market
Margin -Equity Index /Stock Futures Account", represents the net amount paid or received on the
bais of movement in the prices of Index/Stock Futures till the Balance Sheet date Amount paid to
brokers in addition to Mark-to-Market Margins is disclosed as "Margin Deposits" under Loans
(c) As on the Balance Sheet date, profit/loss on open positions in Index/Stock Futures are
accounted for as follows:
Credit balance in the "Mark-to-Market Margin - Equity Index/Stock Futures Account", being
anticipated profit, is ignored and no credit for the same is taken in the Profit and Loss Account
Debit balance in the "Mark-to-Market Margin - Equity Index /Stock Futures Account", being
anticipated loss, is adjusted in the Profit and Loss Account.
(d) On final settlement of squaring-up of contracts for Equity Index/Stock Futures, the profit or
loss is calculated as the difference between settlement/squaring up price and contract price.
Accordingly, debit or credit balance pertaining to the settled/squared-up contract in "Mark-to-
Market Margin - Equity Index/Stock Futures Account" is recognized in the Profit and Loss
The aforesaid Note gives a fair picture of the nature of the provision. The provision in substance
has been made to cover the anticipated loss in the derivates trading. There is no dispute that the
assessee holds derivatives as its stock-in-trade and there is also no dispute that it follows the
principle "cost or market price, whichever is lower" in valuing the derivatives. When the
derivatives are held as stock-in-trade then whatever rules apply to the valuation of stock-in-trade
will have to be necessarily apply to their valuation also. It is a well settled position in law that
"while anticipated loss is taken into account in valuing the closing stock, anticipated profit in the
shape of appreciated value of closing stock is not brought into the account, as no prudent trader
would care to show increased profit before its realization. This is the theory underlying the rule
that the closing stock is to be valued at cost or market price whichever is the lower, and it is now
generally accepted as an established rule of commercial practice and accountancy". This is what
the Supreme Court held in the case of Chainrup Sampatram vs. Commissioner of Income Tax,
West Bengal (1953) 24 ITR 481 (SC) speaking through Hon'ble Justice Patanjali Sastri, the then
Chief Justice of India (page 485-486 of the Report). At page 486 the Supreme Court further
observed that "loss due to a fall in price below cost is allowed even if such loss has not been
actually realized". Quoting from the case of Whimster & Co. Vs. Commissioners of Inland
Revenue (1926) 12 Tax Cases 813, the Supreme Court observed that the profits that are
chargeable to tax are those realized in t year and that an exception is recognized where a trader
purchased and still holds goods which are fallen in value in which case though no loss has been
realized nor it has occurred, nevertheless at the close of the year he is permitted to treat these
goods as of their market value. This decision of the Supreme Court governs the facts of the present
case. It is to the assessee's strength that the Institute of Chartered Accountants of India in its
guidelines have also approved of the rule of prudence which really means that while anticipated
losses can be taken note of while valuing the closing stock, anticipated profits cannot be
recognized. The anticipated loss, in the light of the judgment of the Supreme Court cited above,
cannot be treated as a contingent liability.
8. The learned DR pointed out that the assessee has valued each scrip of the derivatives as at the
end of the year. We do not see how this can make any difference to the legal principle. If the
derivatives have been treated as stock-in-trade then there is nothing unusual in the assessee
valuing each derivative by applying the rule cost or market whichever is lower.
9. We, therefore, direct the Assessing Officer to allow the provision as reflecting in substance the
loss arising on account of valuation of the closing stock. The ground is allowed."
4 ITA No.7739/M/2012 Kotak Mahindra Investment Ltd.
Respectfully following the decision of the Tribunal in the case of Edelweiss Capital Ltd. (supra),
which view has further been followed by another co-ordinate Bench of this Tribunal in the case of
Shri Ramesh Kumar Damani vs. The Addl. CIT [ITA No. 1443/Mum/2009 for A.Y. 2006-07, order
dated 26.11.2010], it can be safely held that it is not only the actual stock but derivatives can also
be held as stock in trade and the principle "cost or market price whichever is lower" has been
rightly followed by the assessee in valuing the derivatives and further when the derivates are held
as stock in trade then whatever rules apply to the stock in trade will have to apply to their
valuation also. While anticipated loss is taken into account while valuation of closing stock,
anticipated profit in the shape of appreciated value of the closing stock is not brought into
account, as not prudent trader would care to show increased profits before actual realization.
Respectfully following the law laid down by the authorities as mentioned above, we hold that the
assessee has rightly claimed mark- to-market loss of Rs.1,38,93,853/- which is liable to be
allowed. The learned CIT(A) has rightly allowed the claim of the assessee, his order is hereby
Respectfully,following the same,we decide effective ground of appeal against the AO.
As a result,appeal filed by the AO stands dismissed
Order pronounced in the open court on 9thApril,2015.
( /I P Bansal) (Û] / RAJENDRA)
Û / JUDICIAL MEMBER / ACCOUNTANT MEMBER
/Copy of the Order forwarded to :
1.Appellant / 2. Respondent /×
3.The concerned CIT(A)/ ,4.The concerned CIT /
5.DR "A" Bench, ITAT, Mumbai / , ,..Û.
× //True Copy//
/ BY ORDER,
/ Dy./Asst. Registrar
, /ITAT, Mumbai.